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Cataloguing Data

Mitchell, Alex, 1955

Kick em! Neoliberalism and the working class/ Alex Mitchell.

1. Economic policyplanningeconomic developmentlabour policy 2. Political thoughtliberalism

socialism 3. International relationsworld orderglobalization

Includes bibliographical references and index.

ISBN 978-1-5272-1375-3

Cover design inspired by a photograph by Aris Messinis/AFP/Getty Images

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Page Number

Summary Iii

Part I: Liberal therapy 1

1 Greek debacle 3

2 Structural adjustment 13

3 Transition 27

Part II: Origins 51

4 Washington Consensus 53

5 Monetary ballistics 69

Part III: Issues and solutions 85

6 Hunting for winter strawberries 87

7 On the other side of history 103

8 In such perilous circumstance 131

9 The Thomas Piketty affair 145

10 Making poverty history 163

11 Balancing the books 183

12 Keeping to the rules 207

Part IV: Another world is feasible 233

13 Reform and revolution 235

14 Breakout and containment 249

15 The choices ahead 265

Bibliography 279

References 311

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Note on quantities

Some of the quantities cited are very large numbers. A billion is a thousand million and a trillion is a
thousand billion, or 1,000, 000, 000, 000; otherwise known as 1 x 1012 (a one with twelve noughts at
the end); a billion is 1 x 109 (nine noughts); and a million is 1 x 106 (six noughts). If there were 50
matches in a box and you lined them upright, a trillion matches in their boxes would stretch 20,000
kilometres or halfway around the Earth.

At parity, one dollar ($1) is equal to one euro (1), or one yen (1), or one pound sterling (1). At
purchasing power parity, a currency is expressed in terms of the same goods and services a unit of
currency can buy in different places. The Economist magazine has calculated a simple method to
estimate purchasing power parity by comparing the price of a Big Mac hamburger in McDonald
restaurants around the world. In the USA, the price of a Big Mac in January 2015 was $4.79, whereas
the average for the Eurozone was $4.26; in the UK it cost $4.37; in Japan it was cheaper at $3.14; in
China, it was $2.77; in India, $1.89; and in Russia, only $1.36.1 Since a Big Mac is the same product
everywhere, the comparison showed that diners were paying much the same price in North America
and most of Europe in their own currencies and thus obtaining approximate purchasing power
parity. Diners spending American dollars got a better deal in Japan and a great deal in China, India
and Russia. It suggested that, relative to the US dollar, the Japanese yen, the Chinese yuan, the
Indian rupee and the Russian rouble were under-valued. In Switzerland a customer had to pay
$7.54 for a Big Mac, indicating that the Swiss franc was over-valued against the dollar. If a customer
had US dollars to spend, he or she could buy 3 Big Macs in Moscow but only one in New York for
the same money. The Russian rouble and the US dollar were both influenced by the oil price and, at
the height of the financial bubble in 2008, there was less of a difference: a customer could buy only
1 Big Macs in Moscow for the price of an American equivalent.2 Essentially this meant that the
exchange rate between the dollar and the rouble had been driven below its purchasing power parity
because traders and speculators preferred dollars to roubles. On the other hand, they loved the
Swiss franc and were generally indifferent as to whether they had euros or pounds sterling or

In general, this book quotes values in dollars or euros and, as the Big Mac Index indicates, there is
not much between them in terms of what could be purchased at the time of writing.

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Whenever economic problems arise, the neoliberal solution is one which leaves working people
worse off. If they complain or try to do something about their predicament, they are accused of
being the authors of their own misfortune. They are told that any alternative to the neoliberal
consensus will only worsen their plight. As the dominant mindset, neoliberalism influences the left
as much as the right of the political spectrum. Neoliberalism is a political ideology but its authority
derives from neoclassical economics, giving it a scientific veneer.

In the nineteenth century, working people were referred to as hands, fit only to undertake manual
work on meagre rates of pay. The struggle for dignity, rights and liberty was long and sometimes
violent, but for a few decades of the twentieth century working people stood tall. This was the
context for the rise of neoliberalism as the mainstream political philosophy of both the centre-right
and centre-left. It created the globalized economy we know today. Originating among a small group
of anti-communist scholars in the 1930s and 1940s, neoliberalism sought to re-apply liberal
principles to the new world of mass democracy and the welfare state. The neoliberals ditched the
adherence of classical liberals to laissez faire and developed a theory of the states role in a free
enterprise capitalist economy. Neoliberalism brought in floating foreign currency exchange rates,
financial speculation on an unprecedented scale and concomitant asset price inflation, privatization
of state-owned enterprises and public services, and labour market reforms that preserved structural
unemployment under the guise of efforts to reduce it. It pushed up levels of employment insecurity
and of inequality in income and wealth. It mounted a successful ideological assault on the socialist
commonwealth and provided the rationale to abandon general planning and pursue instead the
transition to open market economies. In developing countries, neoliberal structural adjustment
worsened poverty levels and delegitimized the role of organized civil society in fostering
development to favour that of the private commercial sector alone. Working people are today
better educated, healthier and richer than their nineteenth century forebears. But the on-demand
24/7 economy and the erosion of wages, employment rights and collective bargaining in the
developed countries threatens the social cohesion established on the pillars of representative
democracy, the welfare state and a mass consumer society.

Many on the progressive left see no alternative to neoliberal nostrums. Others may reject them
not in my name! goes up the cry from the anti-globalization left but they have, as demonstrated
in the Greek debacle, a less than convincing alternative policy agenda to offer. Taxing the rich (the
one percent) to better the situation of the poor may appear attractive provided you are part of the
99 percent. It becomes less appealing if it impacts the average citizen. In any case, modifying tax
rates and spending priorities resembles the strategy of shifting the deckchairs on The Titanic, to
steady the sinking ocean liners disastrous trajectory. Social democrats and the centre-left have a
meagre offering in times of austerity, while the dissenters alternative lacks wider credibility.

Credibility, of course, depends upon fitting into the neoliberal paradigm. So there is a chicken-and-
egg problem here. Alternatives to neoliberalism lack credibility because there is no alternative to
neoliberalism. To be sure, the Marxian left never accepted liberal politics or neoclassical economics
but its intellectual influence has declined since the 1980s. Furthermore, constructing a set of policy

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ideas to supplant neoliberalism cannot ignore economics as it has developed over the last century.
Overcoming the hold of neoliberalism must involve both critique and construction. It is
incontrovertible that the results from following neoliberal prescriptions have cost working people
dearly. In the mature market economies the neoliberal response to the long recession has reduced
living standards and increased employment insecurity. This much is clear enough. Critique, however,
is not a sufficient foundation. Constructing an alternative requires an understanding of how
economic science can cohere with progressive policies. This book sets out to demonstrate that the
Forbidden Zone the space which neoliberals dont want you to explore is not so forbidding after

The long recession which began in 2008 was the culmination of two decades of asset price inflation.
A primary commodity price super-cycle began with a rise in energy and metal prices in the 1970s.
After peaking in the 1980s these prices fell back until around 2000, when they began another
upward swing, this time coinciding with wider asset price inflation, in real estate, works of art and
company shares. It was a boom driven by speculation, underpinned by economic growth in newly
industrializing countries, especially in China, and an expansion of public debt. Profits generated from
exports from emerging market economies to the developed countries, and which bolstered their
rapid domestic growth, were invested in the global capital markets of New York, London, and other
centres. Part of that investment returned to the emerging markets as foreign direct investment in
productive capacity and infrastructure, but also as portfolio investment in local stock markets (like
that in Shanghai). It helped feed the inflation in asset prices in the mature market economies. The
latter were safe havens as far as the originating profit-takers were concerned. Many thought that
the super-cycle could last indefinitely. The financial sector grew massively and churned out new
products to satisfy the search for ever-higher yields and provide spurious insurance against the
risks that the ever-mounting accumulation of debts might pose.

The banks and other participants in the economy of Department III, the financial sector as distinct
from the primary production sector (Department I) and the consumer goods sector (Department II),
according to Marxian terms, became a potent vested interest promoting neoliberal policies. The vast
growth in speculation from the mid-1990s onwards needed to be constrained by a financial
transactions tax the Tobin tax on the sale of financial assets and claims of all types: shares,
bonds, securities, derivatives, and such like. The same sort of tax would have helped curb the bubble
in house prices and other real estate. The imposition of Tobin taxes was thwarted however, and
speculation continued unabated.

With governments unwilling to use fiscal measures like a Tobin tax to curb asset price inflation it fell
to the central banks to use monetary means, such as a rise in the rates of interest. But here again
the authorities proved reluctant to act, this time more understandably. Pushing up interest rates
would have impacted the real economy in Departments I and II as much as the financial economy of
Department III. Central banks, under neoliberal policy prescriptions, were supposed to target
consumer price inflation so they did no more than warn from time to time on asset price inflation
and the imbalances this was generating in the world economy. They hoped that financial markets
would recognize the bubble and correct the over-shoot through speculation on the downside

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instead. Thus a bull market should self-correct to become a bear market if speculation was to be a
benign force. Instead the bullish tendency continued until the music stopped.

Once the financial crisis had erupted, governments endeavoured to understand why there had been
no self-correction ahead of it. Explanations were sought in the behaviour of financial traders and the
laxity of controls at banks. Bonuses were calculated on a yearly or six-monthly basis, so speculators
could expect to escape the consequences occasioned by a future drop in asset prices. They could
rake in the bonus from betting on a rising market without restraint. Regulations to change the way
bonuses were calculated duly came into force but too late to prevent a further bout of financial
excess in 2012-2015. The re-ignition of asset price inflation was fed by so-called quantitative easing
by the central banks and the low rates of interest they charged as a means to boost private
investment and re-boot growth in the world economy.

In any case, given the prevailing view that high primary commodity prices and asset prices were
normal not only when the world economy was doing well but also (inexplicably) when it was in
recession there was little pressure on decision-makers to alter course. As an example of public
policy, neoliberalism was demonstrably incoherent and damaging socially. Neoliberals assumed that
regulation could be applied with a light touch when things appeared to be going well, despite the
evident build-up of speculative financial bubbles that channelled savings into Department III instead
of Departments I and II, where they could have been used more productively. Then, when the crash
occurred, neoliberal solutions prioritized structural adjustment and economic reforms that left the
speculators able to repeat their disastrous activity; left the credit crunch unaddressed (thus
hampering private investment); and cut back on both public investment and general government
spending at a time of recession (with austerity policies), leaving working people to fend for
themselves as best they could. By and large, the neoliberal response by governments to the long
recession was just as self-defeating as that of liberal governments during the Great Depression of
the 1930s, though, thankfully, its effects proved not to be as harsh. With the capitalist system in
crisis, and the evident failings of neoliberalism so clear to all, there was a chance for the left to offer
a more coherent set of solutions. But, as in the 1920s and 1930s, progressives found themselves
divided between two tendencies: those claiming to be pro-enterprise, and who clung to prevailing
neoliberal nostrums, and those who subscribed to the anti-globalization movement. It mirrored the
twentieth century split of the labour movement into social democratic and communist parties and
risked leaving the field open to the post-fascist right.

While the economy was operating relatively benignly (for most at least, with exceptions among the
long-term unemployed or those in insecure work), the national political conversation could revolve
around levels of taxation and expenditure, or whether to phase out nuclear power, or privatize the
railways and such like questions. Voters elected representatives from rival parties occupying the
centre ground of opinion and could feel that they had made a safe choice for either change or
continuity. Representative democracy enabled voters to imagine they were in charge of the nations
destiny because they could remove the senior management team at intervals. For the politicians, a
functioning economy and a generally peaceful society suggested that their legislative initiatives were
bearing fruit.

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An extended period of economic crisis altered the tone of the national conversation. Previously
underground talk went mainstream. The public blamed centrist parties for the crisis, on the grounds
that the political elite were corrupt, had mismanaged the public finances, tolerated immigration for
too long, and were out of touch with ordinary folk. An undercurrent that had not been taken
seriously before threatened to seize the public imagination, with allegations of a traitorous
conspiracy and venality at the top. That atmosphere at a time of political and economic crisis
offered minority parties, so-called populists, the chance of taking power. If, like Syriza in Greece, on
obtaining office, they found themselves unable to control events for want of a feasible strategy,
their popularity proved to be short-lived. The leftists cadres were elected to positions of authority
but this simply dissipated their forces into attempting to manage an uncontrollable situation.
Representative democracies appeared to give power to the people but in reality their parliaments,
focussed on an endless process of modifying legislation, were never in control of the economic
system, run, for the most part by private interests. Neoliberalism facilitated private power in the
economic system by dismantling the remnants of state-owned enterprise and monopoly in public
service provision. It left governments and other public authorities, such as the central banks, with
just a few regulatory levers to guide the market. When the market brought about social disruption
on a large scale, neoliberals argued for government fiscal austerity and yet more market.
Meanwhile progressives had few prescriptions that could resonate with the distrustful public mood
and introduce an alternative account for what had failed and what could now be done.

Over its long history, capitalism was saved from recurrent crises several times over by adopting
pragmatic progressive policies that provided a way forward. In the mid-nineteenth century, Karl
Rodbertus proposed raising wages, which widened the market for basic goods in the capitalist
heartlands of Europe and North America. As a growth model, Rodbertus ideas went against the
mainstream economic opinion of the day and were considered unfeasible by David Ricardos
followers, including Karl Marx. They caught on, nonetheless, and halted the destructive tendency
towards immiseration. Two decades later, John Ruskin proposed universal education and training,
which not only empowered working people but raised labour productivity. Then, in the early
twentieth century, Henry Ford built on these foundations to introduce a highly paid, high
productivity workforce, earning enough to form a mass consumer society able to buy the products
they themselves made. As the twentieth century concluded, however, it was clear that the mature
market economies faced a competitive challenge from the newly industrializing countries. The
emerging market economies were capturing the manufacturing jobs and, later, the service sector
jobs that had been the foundations for European, North American and Japanese prosperity. Chronic
structural unemployment plagued the mature market economies from the 1980s onwards,
prompting neoliberals to push for policies that promoted labour market flexibility, but which in
practice often entailed worsening income insecurity. Growth cannot, however, co-exist with rising
indebtedness and insecurity for long and, once the sub-prime debt problem had been exposed, the
lending capability of large swathes of the financial sector was undermined. It was this that kicked off
the long recession in 200708.

The twin challenges of growing insecurity and falling international competitiveness which now
confronted the mature market economies could have been resolved in two ways. To continue down
the path of neoliberalism meant overcoming the resistance of working people and forcing them to

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accept less pay and longer hours more work for less reward and in making people pay directly for
the public services that had previously been supplied within the frame of the welfare state. Chronic
structural unemployment provided a source of jobless workers who could be used to undermine
decent terms of employment, which neoliberals in government were happy to facilitate in the name
of eliminating the privileges enjoyed by permanent employees. For many on the left, stopping a
race to the bottom entailed reversing market liberalization; rejecting international agreements to
free up trade and investment; and resisting labour market deregulation. This stance typified the
essentially reactionary position of the anti-globalization left in the face of the neoliberal onslaught.
Reject, resist and reverse were understandable positions, but they could not offer a feasible agenda
for replacing neoliberal politics.

A further alternative to the neoliberal path offered a more progressive strategy. It was put forward
by the likes of Will Hutton in Britain and Joe Stiglitz and Larry Summers in the USA. Government-
sponsored investment in infrastructure could boost slow-growing economies, as Japan had sought to
do since the 1990s. An extension of collective bargaining could ensure that decent terms of
employment were not undermined and that employees trapped on low wages and non-standard
contracts could also benefit from restored productivity growth in enterprises. It was a strategy
essentially consistent with the Fordist growth model but whether it could succeed in the face of
tough global competition was always an open question. As a solution, it remained enmeshed within
the neoliberal frame of reference, even if it represented a pragmatic answer to the pressing social
and economic issues of the day.

A third approach is advocated in this book. Abandoning the neoliberal mindset opens the possibility
to learn from the other side of history, from the socialist experience of economic planning for
development. Although the socialist countries did not manage to match the levels of income found
in the mature market economies by the time of their demise, they nevertheless secured a
comparably high standard of living in terms of consumption, housing, health and education. Their
economic problem, as later recognized implicitly by the Chinese tilt towards managed markets, was
not planning as such but the wrong mix of policies, planning and markets. It is arguable that the
rolling-back of production planning in favour of the market mechanism begun in the USSR and
completed in China assisted the restructuring of economies that had become stuck in the same
pattern since the 1950s. That said, the problem of supplying sufficient consumer goods and services
(including consumer credit) must be viewed as the result of macroeconomic imbalances, not simply,
as is usually the case in commentary on the socialist planned economies, as the outcome of
enterprise behaviour at the microeconomic level. These lessons have to be incorporated into a
progressive strategy for moving beyond the capitalist structures that constrain all-round social
development. A planned economy can make markets work for societys benefit. Enterprises can still
flourish in a planned economy, but tough curbs on financial speculation are also necessary to
prevent markets from generating instability and thus undermining the benefits afforded by planning
in terms of reduced uncertainty.

Todays structural unemployment cannot be eliminated by neoliberal measures indeed,

permanent unemployment is a feature of orthodox economic policies. It has to be tackled by making

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changes to the economic structure of capitalist societies, by planning and the purposeful closure of
some socially damaging markets altogether. Experience since the 1980s shows that neoliberal
solutions like labour market reform have proved to be incapable of restoring full employment, and
this evidently remains the case in the context of a competitive world market. Typically, to address
the threat to jobs from competition from emerging market economies, the anti-globalization left has
pushed back at free trade and investment treaties. A coherent solution to deal with the twin
challenges of growing employment insecurity and falling international competitiveness is clearly
needed; but this cannot be based on reversing globalization. The first step is to reject the neoliberal
proscription on state intervention in economic affairs unless it remedies so-called market failure.
According to neoliberals, state-backed enterprises should not compete unfairly with the private
sector. Such restrictions are part of the mindset that has to be overcome if we are to establish an
economy where working people are respected and rewarded, not kicked repeatedly to make space
for unrestricted profit-taking. And if markets need to be closed and public provision has to take full
responsibility for meeting specific social needs, for housing, urban development, infrastructure,
education, health and social care, and such like, then, let us do it! Before neoliberalism took hold,
the public sector was welcomed by progressives as an employer, planner and developer. In a
generally planned economy, the private sector may be permitted a subsidiary operational role in
those non-market sectors aimed at social provision where macroeconomic conditions allow.
Notwithstanding, many other sectors, providing consumer goods, for example, could continue to be

Closing markets will give the government the necessary power to establish durable foundations for
full employment creating stable pillars of the economy. Every country is a bit different, so the
pillars of prosperity for each will not be identical everywhere and they may include market-based
pillars, such as a dynamic manufacturing export sector. The state-sponsored pillars will pay for
themselves by ensuring that the economy is operating at its full potential. A fair labour market, with
economy-wide collective bargaining and wage coordination will be a necessary compliment. It will
help in the mobilization of human resources and allow working people to participate in enterprise

Constructing a successful growth model which is planned but still includes market-oriented sectors
will not be a straight forward matter. Macroeconomic and monetary balances must be respected at
all times. It is not a recipe to exchange permanent structural unemployment for permanent
government deficits or constant printing of money. Nor is it a matter of political will. Scarcity of
resources human, financial and natural cannot be wished away.

Competitiveness must also be maintained in an inter-dependent world, where rapid industrialization

in developing countries means that new suppliers will be a constant disruptive feature. The essence
of the problem in the developed countries is the relatively high level of labour costs, which includes
wages and the expenses of the welfare state. Improving international competitiveness may be
achieved through higher productivity by working more effectively or from automation, or by cutting
labour costs. Since labour costs include wages, hours of work and operational and social overheads
(management time, working facilities, sick pay, social security contributions, and such like), the
neoliberal trajectory for the mature market economies is bound to be regressive. It could involve
rolling back the welfare state to reduce the level of social security contributions, lengthening
working hours to, say, 48 a week, re-introducing Saturday working and even cutting wages. In fact,

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these changes have already been made to the terms of contracts offered to casual workers, many of
whom would like to have steady jobs if only they could find them. Unless working people stand their
ground, they will find themselves on a downward escalator to conditions that match those of
workers in the emerging market economies.

A progressive trajectory cannot avoid the competitiveness challenge either, but encouraging a
dynamic economy need not imply the erosion of the welfare state or lower living standards.
Productivity gains from technological innovation remain possible, but these cannot be relied upon to
guarantee a higher standard of living for working people in the developed countries. The key
difference lies in the way the social overheads of the welfare state are spread and how hours of
work are distributed. These issues were considered in the 1980s in the debate over introducing a 35-
hour working week; in the end only France made that change. In a fully employed economy, many
social costs associated with unemployment (and stressful working conditions) disappear.
Furthermore, by, say, introducing a two-shift 36-hour working week spread over six days workers
could choose whether to work mornings or afternoons. Such a move would allow enterprises to
make more efficient use of working facilities and premises, reduce some of the costs of congestion
caused by commuting to and from work, and provide more family and leisure time. The change
would also permit schools to hire twice the number of teachers, to reduce class sizes from 30 to 15,
for example, without having to double the number of classrooms. The whole public service would be
able to create more jobs without having to enlarge the physical facilities proportionately. The
economy would be more effective, healthier, and less energy-intensive. It would be more productive
than the neoliberal alternative of a 48-hour working week where people could not afford to become
ill or to spend time with their partners, children, parents and friends.

The lesson drawn by Twenty-first Century Socialism seems to be that Twentieth Century Socialism
did not work and in this regard many progressives find themselves concurring with the neoliberals.
Such an assessment is flawed in its focus on the tactics, errors and crimes of past revolutionaries
while ignoring the substantial social, intellectual and economic achievements of the peoples
democracies and the USSR. This book seeks to redress this bias. Lessons can be learnt from the other
side of the story, the neglected experience of the socialist commonwealth. Another world is feasible,
in which work is available to all those who want it, with affordable social protection, with the time
for family life, for culture and innovation, and where democracy means working people genuinely
have an equal say.

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Part I: Liberal therapy

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1 Greek debacle
Following the 2015 election of an anti-austerity government in Greece, led by the leftist Syriza party,
relations between Greek ministers and their counterparts from other European Union (EU) member
states took a turn for the worse. The new governments finance minister Yanis Varoufakis, an
academic economist and specialist in mathematical game theory, wanted to hold negotiations to
reduce the burden of debts, largely owed to European institutions and the International Monetary
Fund (IMF). Over the course of 2015, the Greek government was expected to make payments
totalling 21.4 billion, the equivalent of 11 percent of the countrys national income (or gross
domestic product, GDP) an impossible task.3 Yet the countrys official creditors took a firm line and
through a mixture of prevarication and brinkmanship attempted to hold Greece to the commitments
entered into by an earlier government which had twice been rejected by the electorate. The
original repayment schedule agreed in 2010 had been based on macroeconomic forecasts that had
turned out to be grossly in error. Instead of growth, the Greek economy had shrunk; unemployment
had surged towards 30 percent of the labour force and wages had plummeted. Almost all of
Varoufakis peers in the Euro Area Group had studied economics at university level; some were
professors of the subject. And yet it was as though they could not do the math.

The American author Howard Zinn once wrote that the most revolutionary act one can engage in is
to tell the truth.4 When Varoufakis said that the Eurozone was treating a case of insolvency as if it
was a liquidity issue, the president of the European Central Bank (ECB) Mario Draghi told him to
keep his opinion to himself.5 The chair of the Eurozone finance ministers group, Jeroen Dijsselbloem,
took offence on his visit to Athens immediately after the January election Varoufakis had declined
to capitulate to his threats and refused to speak to Varoufakis during a crucial stage of the talks.6
Germanys finance minister Wolfgang Schuble mocked Varoufakis as stupidly nave and was
reported to have lost his cool on occasion.7 Varoufakis walked out of one meeting when a
compromise paper agreed with the European Commission was unexpectedly withdrawn by
Dijsselbloem.8 Reporters told of a break-down of trust between the Greek government and its

Varoufakis game plan was to obtain short-term financing to provide a six month window for
negotiations on restructuring the 317 billion debt owed by the Greek government to the Eurozone,
ECB, the IMF, and other banks and vulture funds.10 There was no way that Greece could afford this
level of repayment and the government would have to default unless agreement was reached with
the other EU governments and the IMF. Uncertainty aroused by constant talk of Greece abandoning
the euro led to Greeks withholding payment of taxes and moving their savings abroad. Greek banks
were haemorrhaging cash at the rate of a billion euro a week and the government faced having to
introduce curbs on withdrawals as had happened in Cyprus a few months earlier.11 But the ECB was
unwilling to stand behind the issuance of more debt by the Greek government without an
agreement on a reform plan.

For the German government it was a matter of principle that the new Greek government honoured
the commitments made in 2010 and 2012 by the previous PASOK and New Democracy governments;
otherwise, they feared, other governments might also try to disown earlier bailouts. In Washington,
the Americans were worried that European intransigence could drive Syriza into Russian arms. US
President Barack Obama criticised the European insistence on austerity, telling CNN: You cannot

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keep on squeezing countries that are in the midst of a depression.12 Former British Prime Minister
Tony Blair weighed in as well.13 As the Americans unofficial point man in Europe (his office was
across the road from the US Embassy in London), he wrote an opinion piece in the Financial Times
calling on the Greek and Eurozone governments to agree a reform plan and to restructure the debts,
which few believed were repayable unless the Greek economy recovered.14 Washington put
pressure on the IMF and the Germans to compromise and Angela Merkel duly accepted that what
was important was the content of a reform plan.15

Over a fraught fortnight in February 2015 a form of words was found to satisfy the Greek and
German positions. Syriza would not accept the terms of the previous Memorandum of
Understanding and a reform plan which meant further austerity. Through a process described by
Varoufakis as an exercise in constructive ambiguity, the Greek government agreed to seek further
European funds on the basis of the conditions in the current arrangement.16 This was described as
a climb down by the rest of the EU, but the words also implied that a new contract for recovery and
growth was to be negotiated upon the foundations of the discredited Memorandum.17 Syrizas list
of reforms differed from those previously agreed but was nevertheless accepted as a starting point
for further talks.

Yet further stalling by the Eurozone governments followed. Another stormy meeting in April 2015
produced no result, other than an apparent statement by Dijsselbloem to the effect that Varoufakis
negotiating tactics were a dangerous gamble, time wasting, unprofessional and amateurish.18 EU
officials believed that Varoufakis was hell bent on driving Greece off a cliff and were preparing for
the worlds largest default, according to the Financial Times.19 An anonymous senior official told
The Economist: They are irresponsible. Irresponsible!20 In reality the same could have been said of
the attitude of the other Euro Area Group finance ministers. Here was a committee of highly
educated leaders with considerable individual and collective understanding of economic and social
issues unwilling to accept that Greeces government was unable to repay according to the optimistic
schedule agreed four years previously and therefore had to be cut some slack to remove the
financial noose that was strangling the countrys economy. Further meetings followed but all ended
in disagreement. Every proposal from Athens was rejected as insufficient, inappropriate or not
credible.21 The majority of finance ministers resisted any negotiation on restructuring the debts,
even though the IMF supported the Greek government on this point, if on no other.

The attitude of the finance ministers displayed their collective adherence to neoliberalism, the
institutional ideology of the international financial sector and of the political centre ground. Chapter
4 will analyse the intellectual basis of neoliberal orthodoxy and its rise to become the dominant
political philosophy of our times. Neoliberals accept that a market economy must be regulated but
anticipate that the spur of creative destruction provided by the profit motive will correct
imbalances in the end. What they cannot abide is an actively managed economy, whereby the
market is harnessed to meet social objectives. It accounted for the hostility shown towards
Varoufakis, who was lambasted for attempting to show his partners and fellow professionals that
the evidence from economic science demonstrated the failure of past policies. The denigration of
Varoufakis signified the unwillingness of the finance ministers, sitting together with the heads of the
ECB and the IMF, to countenance dissent from orthodox policy, no matter that the policies had
created hardship for working people in Greece and beyond. Those policies condemned the Greek
economy to a decade without growth and the loss of over a quarter of its 2007 output.

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Neoliberals are content with a regulated market economy but they expect the market to be largely
self-correcting. If the market does not adjust they invariably ascribe the problem to inflexibility in
the labour market or other institutional rigidities.22 As it turns out, the underlying assumption of
neoliberal policies is that any economic or social problem can be solved by kicking working people. If
an enterprise is not making enough profit, then sack some staff. If a government is borrowing too
much, then cut some social benefits or sack some civil servants. If a country is importing too much,
devalue the currency and make people to pay more for foreign goods. If a country is insufficiently
competitive, cut wages or force people to work harder. If a government needs a bailout, call it and
those who elected it irresponsible and reckless. If there is high unemployment, label the jobless lazy.
If there are too many claiming benefits, it is because half of them are malingerers or have made a
lifestyle choice not to work. If the government cannot collect enough taxes, blame the corrupt tax
collectors and greedy taxpayers. If children have low literacy and numeracy, point the finger at the
teachers. If working people complain they cannot find decently paid work or any work at all,
denounce immigrant workers for stealing their jobs.

The general secretary of Britains largest trade union, Len McCluskey of Unite, criticised neoliberal
governments adversarial attitude towards working people: they push and push and push, and
theyre never satisfied. If you continue to move back and back and back until such terms are
accepted [] they will humiliate you even if that happens. In this contest, there is no referee who
will call a halt to the punishment, no rules of what constitutes fair play, and so once you are down,
your opponent will kick you, and kick you again and again. At some juncture, you have to stand up,
McCluskey advised.23 At which point, working people will not just be blamed for the predicament
they find themselves in, but also pilloried for trying to do something about it through their trade
unions and political representatives.

Especially for Eurosceptical, the Eurozones problems lay in the decision to create a single currency
in the first place. The remedy peddled was always to reverse this step and reinstitute national
currencies. Unfortunately for the sceptics and, perhaps, for some of the Eurozones disparate
partner governments, there was no legal way to expel a member without tearing up the existing
treaty and signing a new one without the country in question. But the issue was framed in terms of
either a voluntary Greek exit or its voluntary reaffirmation of the terms of its previous agreements
and the austerity this entailed. Since the Greek people had voted against austerity, then logically,
according to this widespread view, the only alternative was the Grexit path, although this carried
risks for both Greece and the Eurozone itself. One liberal commentator even criticized the Greek
negotiating team for failing to threaten Grexit, adding that default and devaluation could have
offered the Greek economy a re-set.24 On the pro-European side, Schuble, the German finance
minister, also pushed for Grexit. He had never accepted Greek membership of the European
Monetary Union and in 1994 had advocated the creation of a hard currency zone between
Germany and its fiscally responsible neighbours.25 The crisis gave him the chance to push Greece out
of the Eurozone. Greeks had, however, voted to retain the euro, which secured their savings. Instead
of accepting this false dichotomy, the Syriza-led government attempted to negotiate a compromise
with the Eurozone group and the IMF to ditch austerity but which maintained fiscal responsibility
and the continuation of effective economic reform.26

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Three factors affected the terms of the so-called bailouts by the EU. Firstly, bailouts were unpopular
with the taxpayers of the partner countries, so loans were offered at interest and largely directed
towards ensuring foreign liabilities were re-financed and the banks were re-capitalized. Secondly,
the repayment schedules were based upon projections of economic growth that turned out to be
unrealistic, forcing the debtor governments to make deeper cuts to public expenditure and levy
emergency taxes, even as their economies contracted. This pro-cyclical fiscal policy was deliberately
forced upon debtor governments by the creditor states, which refused to acknowledge the errors in
the earlier growth forecasts, in order to facilitate the third element of the bailout packages. This
aimed to take advantage of the crisis in order to restructure the economy of the debtor country
along neoliberal lines.

Structural adjustment programs since the 1980s required debtor countries to cut public spending
and raise taxes over a short timescale of about three years in order to generate a primary surplus in
the state budget, so that the government could start to repay debts. The shortness of the timescale
was driven by IMF rules, as its loans were intended to cover an emergency situation and not to
become a substitute for normal borrowing from private sources. Usually, the terms set for
repayment of IMF loans were too short to allow an economy to get back into balance, so the World
Bank provided additional and replacement structural adjustment loans that gave a government
more time to get its house in order and be able to return to the world financial markets. With
experience, the IMF and the World Bank revised their loan terms to enable a country to graduate
from a structural adjustment program in better shape and without recourse to deep austerity.
However, in the case of Greece, a developed country not eligible to borrow from the World Bank,
the schedule to repay the IMF loans was quite unrealistic without further loan re-finance. In
principle, the European Investment Bank (EIB) should have played the role of the World Bank in
providing longer-term structural adjustment finance but the European governments did not agree to
this. A proposal to expand the activity of the European Investment Bank to counteract the financial
crisis had been put forward earlier by Varoufakis, Jamie Galbraith and Stuart Holland, but it fell on
deaf ears.27

In a cool and lucid statement to the Euro Area Group finance ministers and the IMF on 18 June 2015,
Varoufakis set out the Greek case once more. Agreement had already been reached on the size of
the Greek governments future fiscal surplus, which would provide the headroom for paying interest
on the debt in the medium term. The disagreements concerned the way that surplus would be
generated. Cuts to already small pensions, the scope and rates of value-added tax and other
economic reforms were problematic and the government wished to protect those with the lowest
incomes. Varoufakis set out a roadmap for reforms that he wanted to implement with the assistance
of the Organization for Economic Cooperation and Development (OECD). These covered anti-
corruption, liberalization of the construction sector and wholesale trade, improving measures for
supporting small enterprises and re-designing collective bargaining. The Greek government, he said,
wanted to put in place structural reforms that promote growth potential but it would not accept
cutbacks that prolonged the recession. He also called for the restructuring of bonds due to be repaid
to the ECB and an investment program funded by the EIB and the European Commission under the
so-called Juncker plan. He stressed: we are never going to ask you subsidize our state, our wages,
our pensions, our public expenditure. The Greek state lives within its means.28 Yet that meeting and
later ones ended without agreement on the reform plan.

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With no agreement on the Greek reform plan at the Euro Area Group, the President of the European
Commission, Jean-Claude Juncker, organized negotiations on June 25th between the Greek Prime
Minister, Alexis Tsipras, and the heads of the IMF and ECB, Christine Lagarde and Mario Draghi. The
creditors had prepared their own version of the reform plan, which was unacceptable in some
details and did not concede overall debt restructuring, even though this was considered necessary
by the IMF and some Eurozone governments. (Schuble, who was not been invited criticised the
plan as being too lenient and accused the European Commission of going beyond its mandate in
tabling it.) On being informed that this was a take it or leave it offer, Tsipras returned abruptly to
Athens, held a late-night meeting with his ministers and advisers and announced a referendum on
whether the government should accept the creditors terms. Over the same weekend, the ECB
decided to cap further emergency funding to Greek banks, forcing them to close from Monday, 29
June 2015, onwards. Depositors were restricted to withdrawing 60 a day.29

When the Greek people voted on July 5th, over sixty percent rejected the creditors ultimatum.
Sigmar Gabriel, leader of the German social democrats, was one of several EU politicians who
described a no vote by the Greek people as a vote to abandon the euro currency. He considered
that Tsipras had pulled down the last bridge over which Europe and Greece could have moved to a
compromise.30 It was at this point that Tsipras performed his kolotoumba (a summersault). He
replaced Varoufakis with Euclid Tsakalotos and capitulated promptly to the creditors demands,
thereby splitting the Syriza party and requiring the support of the conservative New Democracy
Party to secure enough parliamentary votes to ratify the deal reached with the creditors. In
retrospect it seems that prior journalistic speculation about a kolotoumba had been fed by Tsipras
himself.31 The referendum had been a feint designed to cover Tsipras retreat. Attempting to carry
his party with him, Tsipras campaigned against the creditors terms while at the same time writing to
the Eurozone a letter accepting those same terms, with minor modifications. No doubt to his
surprise, the Greek people took Tsipras at his word and backed Syriza.

Tsiprass climb-down in the face of the uncompromising stance of the other Eurozone governments
arose primarily from the fact that the Greek government had more skin in the game than its
European partners. The Greeks owed a ton of money right away and lacked sufficient means to pay.
The due dates for repaying the creditor Eurozone governments were deferred until the 2020s and
2030s.32 The Eurozone creditors also believed that a Grexit would be manageable as they had cut
their own banks exposure to a default by Greece in the 2012 bailout. Greeces neighbours (Bulgaria,
Cyprus, Romania and Turkey) stood to lose from a general collapse of the Greek banks but (apart
from Cyprus) they were not invited to the negotiations as they were not members of the Eurozone.
The ECB had considerable exposure in the event of a Greek default but chose to sit on the side lines
in so far as the negotiations concerned a structural reform plan, which it viewed as a political matter.
The only other player at the table with considerable skin in the game, apart from Greece itself, was
the IMF, whose loans were repayable far sooner. But the IMFs managing director Christine Lagarde
was a European appointee and displayed little enthusiasm to stand up to some of her biggest

Secondly, the Eurozone creditors were a disparate bunch politically but the one thing they could all
agree on was that they would not pay any more money to Greece. Therefore the only option the

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Greek government had was to issue more debt itself, but as it was effectively shut out of the
international bond market this required the assent of the ECB and/or the European Stability
Mechanism (ESM), which, in turn, required the Eurozone creditors agreement to the structural
reform plan. Grexit was never an option for Greece since its debts were denominated in euro and
would have to be repaid in euro whatever happened. So the Eurozone creditors had little incentive
to settle on any terms other than their own terms, although in practice they could not even agree
these. The negotiations therefore dragged on until the Greek government surrendered, apparently
because it believed erroneously that their only alternative was Grexit. Under the terms of the new
deal, the Greek government had to repay the IMF and ECB by borrowing from the ESM and to repay
the ESM by selling state assets. The rest of the Eurozone undertook no obligation to lend any more
money to Greece or to re-profile the bulk of Greek government debt, which was projected by the
IMF to rise remain well above 150 percent of GDP for the foreseeable future.34 The risk of
bankruptcy would continue to haunt the continent for many years to come and prevent Greece from
returning to the capital markets.

The July deal was a potpourri of various demands, made according to the taste of each of the
creditors. First of all it included an apology from the Greek government for its past misdeeds. A new
structure for value-added tax was agreed; tax exemptions for farmers and islanders were eliminated;
corporation tax was raised; cuts were to be made to public spending and the age for claiming state
pensions was extended. Labour market reforms were to be enacted taking into account best
practices in Europe in collective bargaining, industrial action and dismissal procedures and
organized in consultation with the institutions (the European Commission, the ECB and the IMF,
also known as the Troika). Markets for food and beverages, buses and trucks, engineering and
construction services, pharmacies, financial and legal services, and rents for tourists were to be
liberalized and Sunday trading introduced. It also included a provision to establish a trust fund to
hold state assets that were to be privatized in order to monetize 50 billion for re-capitalizing the
Greek banks and repaying the governments debts.35 It took Margaret Thatcher (19252013) over
ten years to raise 50 billion from privatization in the United Kingdom, and that from an economy six
times bigger than Greeces.36 The government of Mexico planned to raise $50 billion from auctions
of its offshore oil fields between 2015 and 2018, described by the Financial Times as the Sale of the
Century.37 As already stated, the Eurozone creditors made no additional loans to Greece, instead
drawing upon the collective fund, the ESM and requiring the Greek government to find the money
for debt repayment from higher taxation, cuts in spending and privatization.

The euro question was a sideshow in the drama of debtor versus creditors. Even if the Greek
governments debts of 317 billion had been converted into matchsticks it would still have cost the
government 80 trillion matchsticks to repay them.38 Substituting the drachma for the euro as the
national currency would not have altered the debts by a single cent. The issue was always about the
debt and the power it gave the creditors, enthused by the doctrines of neoliberalism. As the
philosopher Slavoj iek noted: the true goal of lending is [] to keep the debtor dependent. Not
only Greece, but also the US, will not be able to repay its debts. So there are debtors who can
blackmail their creditors because they cannot fail (big banks); debtors who control the conditions of
their repayment (the USA); and debtors who can be pushed around and humiliated (Greece).39 As
the Eurozone finance ministers and their prime ministers knew well, no good crisis should left to go
to waste. In a crisis, the neoliberal response is to design a package of measures that demand some
sacrifice from working people. For neoliberals, austerity is a vital element in any bailout to prevent

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moral hazard. A bailout must be painful otherwise everyone would apply to be rescued and no-one
would obey the rules.

In the words of Jean Monnet (18881979): People only accept change when they are faced with
necessity and only recognize necessity when a crisis is upon them.40 Greece had to be forced to
obey the rules, regardless of what its citizens decided.41 Moreover, the last thing the creditors
wanted was a European version of Venezuela, whose late leader Hugo Chvez (19542013),
represented the antithesis of neoliberalism.42 Varoufakis contended that the creditors true aim was
to humiliate the Greek government and force it to choose between resignation and capitulation.43
Their method was to add monetary torture to fiscal waterboarding, as Varoufakis had described
the effect of the previous agreements.44

When people wish to hide their true motivation they resort to dissimulation. The disagreement was
presented falsely as arising from Greek dishonesty. If The Economist magazine could state that Syriza
wanted a European system of large unconditional transfers to subsidize endless delinquency by
a ragbag of leftists, then, perhaps, Lithuanian president Dalia Grybauskaite might have been
justified in complaining that you cant have one country enjoying a feast, overspending and having
everyone else pay for it.45 Actually, the Eurozone creditors concealed their deceit by accusing the
Greek government and people of trying to cheat, so that they could, supposedly, enjoy the good life
at the expense of other honest Europeans.

Negotiations broke down at the end of June 2015 when the Eurozone creditors presented the Greek
government with an ultimatum: accept our structural reform plan or leave the euro currency bloc.
Up to that point, the Greek government had expected that concessions over the reform plan from
their side would be met by concessions on debt restructuring.46 But, as already explained, no such
concessions were forthcoming from the creditors even though it was obvious that the debt
repayment schedule agreed under the terms of the earlier bailouts was unrealistic and based on
erroneous economic forecasts for Greeces recovery. The creditors intransigence was unreasonable
and the only explanation was that they did not care about being repaid and had another agenda.

Without an agreed structural reform plan, the ECB was unwilling to maintain its credit lifeline to the
Greek banks. These, in turn, would run out of money and be forced to restrict withdrawals and
have to close their doors to new business. Varoufakis had anticipated this scenario and had drawn
up a scheme under which the government would issue promissory notes as a sort of parallel
currency. Such a scheme was being widely discussed in financial circles.47 Economic transactions are
mediated through money and normally the state specifies that its currency is the nations sole legal
tender. In a modern monetary economy people and institutions have bank accounts into which they
pay their income and from which they make withdrawals. These withdrawals may be made at ATMs
or by instructions from the customer to their bank and the whole system is organized electronically.
A certain proportion of cash is minted or printed by the government but most money is created by
entries in the electronic ledgers maintained by commercial banks. The banking system has been
computerized and the transactions by real economic agents are accounted for virtually in units
specified by the state (or in the case of the euro by a group of states, bound by treaty, which have
agreed to use a single numeraire, the euro, for all deals transacted within the single European
market). The central bank acts as the lender of last resort to support the banking system and to

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ensure that all payments and withdrawals match at the end of each trading day. If a bank finds that
it has paid out more than it received over the course of the day, it may borrow from another bank or
from the central bank to make up the shortfall. In the EU the inter-bank payment and settlement
system is known as TARGET 2 (meaning Trans-European Automated Real-time Gross Settlement
Express Transfer system). If the ECB withdrew its support for the Greek banks, the country would
effectively be shut out of the European payment system and in theory the Greek economy would
then stop working unless an alternative mechanism for making transactions through the banking
system was put in place.

Most observers assumed that when the ECB stopped its support the Greek government would re-
introduce the drachma as legal tender and the Greek central bank would once again become the
lender of last resort for drachma-denominated transactions, thus allowing the Greek banks to re-
start operations. The alternative to the drachma involved the issue by the government of promissory
notes denominated in euro for its payments (of pensions, wages and purchases) and receipts (of
taxes, primarily). This would have allowed the domestic economy to keep going, but it would require
an alternative settlement system to TARGET 2. Varoufakis therefore planned such a separate
electronic payment and settlement system that would operate within Greece.48 The scheme was to
be run by the government but ordinary Greeks could have adopted it for their private business. The
euro-denominated promissory notes would have been exchanged between private parties at a
discount, since they were not authentic euros. Nor could they be used in the credit system for
making or repaying loans. Genuine ECB-backed euros would still have been in use in any event, as
they were used widely in the Balkans, without being part of the Eurozone officially. Furthermore, if
Greeks opened bank accounts in, say, Austria or Italy, they could have conducted business-as-usual
in euros, as foreign banks were unaffected. Foreign exchange transactions would have been limited
because no-one outside Greece would have accepted the governments promissory notes, but the
problem would have been temporary. Tsipras government had been cultivating a closer relationship
with Russia and the two countries could have set up a trade credit arrangement to facilitate the
import of oil and gas and the export of Greek products to the Russian market. Like its Balkan
neighbours, the Greek economy could have operated indefinitely with multiple currencies, with the
euro providing the definitive measure of value. Soon after the Greek banks closed, Greek
businesspeople were using the Bulgarian currency to trade.

Additional liquidity had been needed in Greece since the economy went into recession in 2008. This
liquidity had initially been supplied by the ECB but it became insufficient after the ECB prematurely
raised interest rates in the Eurozone in 2010. The monetary squeeze on the Greek economy grew
worse with the austerity measures introduced by the so-called bailout agreements of 2010 and
2012. Syriza was advised to introduce euro-denominated promissory notes in the run-up to the
parliamentary elections of June 2012 in order to provide the additional liquidity the economy
needed.49 In the event, although it took the second largest number of seats, Syriza did not win
power until January 2015. And when the Syriza-led government reached the fork in the road at the
end of June 2015, it had to decide whether to follow Varoufakis into the Forbidden Zone of
unorthodox and possibly illegal monetary measures, or to capitulate. Tsipras and the Syriza majority
were not ready to venture into unknown territory.50 Perhaps they judged that the nation would not
countenance embarking on such a big adventure and put their faith in an economics that they did
not understand. After all, in real life the alternative to neoliberal austerity is never a choice between
the bad and the good; politics would be easy if it was only the other partys stupidity that stood

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between daily problems and utopia. The one card Syriza held the support of the Greek people
following the referendum could only be played if the Greeks could be convinced that a viable
alternative strategy existed. In the end Tsipras reasoned there was no convincing alternative to

The tragedy that befell Greece thus lay not only in the social impact of austerity but in the
incoherent response by progressives in Greece, Europe, and beyond. The social democratic parties
of the EU lined up with the liberals and conservatives to enforce austerity policies; not simply
austerity-lite but the full-blown variety. For its part, the anti-globalization left appeared unable to
grasp the complexities of managing a monetary commodity production economy in crisis. There was
plenty of criticism of austerity, to be sure, but few remedies apart from taxing the rich and
protecting the poor. It was clear that inequality had worsened and the so-called reforms that fell
largely on the poorest should be resisted. Such opposition was a necessary response but it was
insufficient without effective policies to tackle the deeper problems. Progressives lacked a
comprehensive strategy to resolve the crisis and to move beyond the business-as-usual agenda. As a
result they had no credible policies to fall back upon apart from the same neoliberal nostrums that
underlay mainstream opinion.

In a discussion over the possible alternatives to neoliberal policies the French third way socialist
Emmanuel Macron, while minister of the economy in Franois Hollandes government, accepted that
workers were losing their jobs but said there was no alternative model to follow.51 After losing the
general election of May 2015, the British Labour Party struggled to find an answer to the countrys
worries and aspirations. A Labour member of parliament Chris Leslie told The Observer newspaper
that the party had allowed itself to be portrayed as too keen to step in and take over where a
market was failing:

Weve got to make sure we show a proper analysis of whats happening in the economy,
and that we [in the Labour Party] understand the economy and markets in particular. []
Part of the issue we always face on the centre left is the temptation to want to control and
run whats going on in a particular market. [ Interventionist policies] fed into a [perception
among the voters] of whether we understood business and how markets work. And in turn,
that gave people the sense that we were somehow a riskier prospect on the economy [than
the Conservatives].52

A leading member of the Dutch Labour Party, Michiel van Hulten, made the same point in a letter to
the Financial Times: Many centre-left politicians still do not fully accept or understand the free
market as the basis of our socio-economic model. This makes them less credible and less competent
when it comes to fixing its many failings, including those exposed by the financial crisis.53 A Spanish
socialist and sociologist, Ignacio Urquizu Sancho, proposed that social democracy in the 21st century
means a very competitive economy and very redistributive public spending.54 Softening austerity,
for many centre-left politicians, implied either more deficit spending or greater international
competitiveness.55 In the USA, Hillary Clinton had emerged as the most market-friendly candidate
in the 2016 presidential election campaign, notwithstanding her own critical comments regarding
Wall Street, according to the Financial Times columnist John Authers.56 She had spoken privately of
her dream of a hemispheric common market, with open trade and open borders with Wall

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Street banks, according to emails released by the WikiLeaks website in the run-up to the presidential
election.57 Commenting on the election, activist Naomi Klein described Hillary and Bill Clinton as the
toast of the Davos party, the neoliberal party of billionaires and transnational corporations
promoting deregulation, privatization, austerity and free trade.58

From this perspective, leftist proposals for state intervention in markets were old solutions for old
problems, as another Labour parliamentarian, Yvette Cooper, claimed.59 Her words chimed with
commentators criticism of the alternative policies offered by independent US senator Bernie
Sanders and the soon to be elected Labour leader, Jeremy Corbyn: old white guy[s] whose views
were out of date a generation ago.60 Privately, Sanders was considered to be a communist
sympathiser by his Democratic Party rivals.61 Their trade union backers were described by another
progressive commentator as leathery old Leninists, which was at least an improvement on their
usual portrayal as dinosaurs. 62 More politely, historian Simon Schama called Corbyn and Sanders
populists, as did The Economist magazine and others.63 Much to his own surprise, Corbyn was
elected Labour leader in September 2015.64

Many on the social democratic left endorsed neoliberal policies as being the prerequisite to
credibility with opinion-formers and thus for electoral success. In an effort to burnish his pro-
enterprise credentials, Andy Burnham, a leading Labour Party figure, thanked business leaders for
creating jobs and wealth and called them heroes. New Labour strategist, Peter Mandelson,
wrote of a consensus on the centre-left and centre-right in favour in favour of the market economy
and [] enterprise. The French socialist Prime Minister Manuel Valls received a standing ovation
when he told the main business conference: Jaime lenterprise.65

But adopting a pro-enterprise attitude and the neoliberal approach was a risky solution if a party
was in competition with a rival party that was even more neoliberal. In truth, why purchase a
neoliberal political program from a supposedly progressive party when you can buy much the same
one from a genuinely liberal-conservative party, as many working people told opinion pollsters?66
The only difference between the offerings lay in the brand and in the narrow choice between
continuity and change. In any event, the latter had to be change you can believe in, in Barack
Obamas slogan, to be credible. The strategy to position the party in the centre ground of public
opinion entailed the acceptance of neoliberal policies. Progressives had become trapped within
neoliberalism. If they rejected neoliberal solutions they were unelectable. And if they moved to the
centre ground in order to become electable they had to jettison those options that could make a
difference to working peoples situation.

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2 Structural adjustment
The example of Greece is only one of the more recent cases of a country undergoing the neoliberal
treatment. From the 1980s onwards, few countries escaped becoming the object of economic
reform or structural adjustment. In many instances, liberalization came about a result of the
democratic process, but in others it was forced upon a nation by external agencies, usually the
International Monetary Fund (IMF) and the World Bank. Often, a package of economic reform
measures aimed at achieving structural adjustment was negotiated. The basic idea was to create a
more competitive market economy, without internal and external imbalances in government
spending and borrowing, or in trade and capital flows. In other words the structure of the economy
was to be reshaped along neoliberal lines. Economic reform involved a sharpening of incentives to
compete for jobs, for business and for investment. The premise underpinning liberal therapy was an
assumption that a common malaise pervaded the world. The influence of socialism had created half-
planned corporatist rgimes in many market economies in addition to the comprehensively planned
economies under communist governments. In both systems the economy had atrophied and a
shake-up (and shake-out of labour) was needed to re-ignite their dynamic potential and boost
competitiveness. These circumstances provided the context for the emergence of the doctrines of
trade and investment liberalization, the establishment of macroeconomic stability, and market
deregulation and privatization that formed the Washington Consensus.67

The journalist and activist Naomi Klein described Latin America as the laboratory of neoliberalism.68
Indeed, the application of neoliberal therapy began in that continent in the 1970s, notoriously in
Chile under its military dictator Augusto Pinochet (19152006). The 1973 coup dtat had been
planned carefully. A group of economists stood ready with a detailed program of liberalization and
stabilization measures five hundred pages long commissioned by the Chilean Navy. They became
known as the Chicago Boys because many had studied economics at the university there.69 Less
well-known is the fact that the first Chicago-inspired economic reform program was established in
military-ruled Brazil under its finance minister Antnio Delfim Netto, and then in Uruguay after
suffering its own coup in late 1973, following that in Chile. Next in line for neoliberal therapy was
Argentina, where a military junta seized power in 1976.70 Neoliberal economic reform was applied
even more widely from the 1980s onwards, in the mature market economies and the developing
countries alike. But perhaps its most damaging application was in the former socialist countries of
Central and Eastern Europe and the former Soviet Union during their transition from planned to
open market economies in the 1990s (to be considered in Chapter 3).

According to the Nobel prize-winning economist Joe Stiglitz, the neoliberal Washington Consensus
was established at the World Bank under Anne Krueger, its chief economist from 1981 to 1986.71 By
tradition, the American government appointed the head of the World Bank, while the Europeans
appointed the managing director of the IMF. Krueger was thus engaged during the Reagan
administration and she quickly reshaped her department in conformity with her own Chicago school
of thinking.72 Structural adjustment lending was conceived in the 1980s as a means to help embed
neoliberal policies. The World Bank originally provided loans for building infrastructure and for
enterprise investment; such loans could be repaid from the revenues generated by the projects.
From 1968, the World Banks visionary head Robert McNamara (19162009) boosted lending to

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developing countries by offering loans for social programs. Governments were encouraged to
borrow for schools, textbooks, nutrition projects, health care facilities and family planning. These
anti-poverty programs did not generate a direct return but, McNamara argued, they permitted the
economy to grow faster and enriched poor people, so the government gained indirectly and was
therefore more able to repay the loans. Nearly $80 billion disbursements and a decade or so later,
the Bank was forced to recognize that solving world poverty was not so simple and its developing
country clients were now over-indebted and still under-developed.73 Nonetheless, the Bank could
not simply walk away and so it devised structural adjustment loans to allow heavily indebted
government borrow more money to repay older loans (many of these were to the commercial
banks, of course). A structural adjustment loan was disbursed in tranches over a period of around
three to four years according to an agreed economic reform program. The conditions for releasing
the money to the government involved regulatory and legislative changes aimed at liberalizing the
economy and improving the structure of incentives. By the mid-1980s, 30 percent of the World
Banks lending consisted of structural adjustment loans.74

The World Bank often joined forces with the IMF so that its structural adjustment loans
complemented IMF stabilization programs. Stabilization had four elements: external adjustment via
the exchange rate; internal adjustment by promoting flexibility in labour and product markets;
fiscal adjustment through cuts to public spending, which would contribute to more general balance
sheet adjustment from deleveraging lowering the amount of borrowing in other words. Since an
economy is an interconnected system, structural adjustment entailed disruption alongside the
intended stabilization. The main criticism Stiglitz levelled at the IMFs adoption of neoliberal market
fundamentalism was that there was never any internal debate or meaningful discussion with the
governments on the content and sequencing of structural adjustment programs. At the IMF, and to a
lesser extent at the World Bank, debate was stifled in favour of an allegedly one-size-fits-all
approach to policy-making. Stiglitz contrasted this with his experience from working in the Bill
Clinton administration. Debate over the merits and efficacy of economic measures was an
institutional feature within the US government. In effect, Stiglitz alleged that the Washington
Consensus did not extend to Washington, DC, the seat of American government. As a result of the
disregard of evidence, the failure to engage in dialogue with governments and civil society, and the
reliance upon unrealistic economic modelling and analysis, the IMF policy advice to governments
was prone to error. In many cases, governments could ignore that advice, but that was not possible
if the government was seeking IMF financing.75 Tukey was the first country to request a World Bank
structural adjustment loan alongside its IMF stabilization program in 1980. The Turkish finance
minister Turkut zal (19271993), later the countrys president, brought in fiscal austerity and a
large devaluation of the Turkish lira to boost exports and restore business confidence and growth.
These measures were accompanied by a crackdown on trade unions by the then military

The World Bank discovered that structural adjustment loans were popular with many
governments.77 In the aftermath of the Mexican financial crisis of 1982 it was reported that the
Bank does not need to force Mexico to do anything; the two sides agree on almost everything. []
World Bank economists and Mexican officials often spend weekends together brainstorming on
policy issues. Many are graduates of the same US universities and friends.78 One of those officials
was ngel Gurria Trevio, a modernizer within the ruling Institutional Revolutionary Party; he later

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negotiated the North American Free Trade Agreement in the early 1990s and was appointed
secretary general of the Organization for Economic Cooperation and Development (OECD) in 2008.

During the 1980s and 1990s, the World Bank lent $99 billion for structural or sector adjustment,
which amounted to just under 25 percent of its overall lending.79 Borrowing countries often took
several loans over these two decades: Argentina borrowed $8.6 billion through 20 separate
adjustment loans; Mexico borrowed $9.4 billion through 18 loans; and Russia borrowed $6.2 billion
through eight loans. Repeated borrowing indicated that the underlying financial problems facing the
country were not resolved the first time around. The World Bank admitted, in a review of its
structural adjustment lending published in 2001, that these operations had a very mixed
performance record.80 A large majority of structural adjustment lending programs were rated as
substantially complex, which made it especially difficult for the program managers to secure all
the intended goals.81

Structural adjustment lending gave neoliberals the chance to fix unbalanced and dysfunctional
economies. More precisely, it gave them the chance to try to fix the symptoms of an inherently
unstable capitalist system; and to attempt to make the market economy function in the way
neoclassical economic theory predicted it should behave. Theoretically, a malfunctioning economic
system was the outcome of distortions that prevented the economy from settling down into
stability. Therefore, it was necessary to address the distortions. But one distortion might be the
result of economic agents reactions to a different distortion. So, where to start? Many neoliberals
decided that it was necessary to sweep away all the distortions at the same time. Hence the Chicago
Boys 500 page brick of policy measures.82 The problem with this approach, as development
economist John Toye pointed out, was that adjusting everything could not be achieved
instantaneously. In his view, measures to stabilize the macroeconomy should be adopted before
embarking on the deregulation of markets for the factors of production (capital, labour, land, and
knowledge) and, later, for products the microeconomy.83 Such a sequence was more logical and
necessitated a program of structural adjustment spread over several years. During that time, the
troubled economy needed to be supported by lending from the IMF and the international
development banks. It meant there was no quick exit from a crisis and a larger volume of loan capital
would have to be deployed.

Nor could shock therapy ever work in practice because cutting government spending and raising
tax rates to balance the governments books would lower demand and raise unemployment, and
this would undermine any supply side response to product market deregulation. Tight credit
conditions to stabilize the exchange rate and reduce inflation inhibited the start-up of new
enterprises that were crucial if workers displaced from one industry were to find another job or opt
for self-employment. It also led to social protest and weakened the political base for economic
reform. Shock therapy was, in short, a self-defeating strategy. Toye did not believe that troubled
economies and dysfunctional governments should be subsidized by the international community
unconditionally. When developing countries faced bankruptcy, the priority was not to bail them
out, but to find the critical path for reform. This involved continuing the countrys process of
development and maximizing the range of support for reforms by building a political coalition. Along
with another development economist, Danny Rodrik, Toye suggested that wide-ranging

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liberalization could destabilize the entire reform process and lead to government backtracking on
what had been agreed with the IMF and the World Bank in the face of domestic opposition.84

The emphasis placed by neoliberals on fiscal austerity was driven in part by the short-term nature of
IMF emergency funding. Governments had to be in a position to repay the IMF loans and thus had to
bring their spending into line with their revenues within a three to four year timescale. Many
developing countries depended on levying tariffs on imports and exports to fund government
expenditure. Trade liberalization policies that involved cutting tariffs led to smaller revenues and
thus compounded the governments problems. In order to, firstly, achieve a balance between
revenues and spending and then, secondly, to divert revenues into repaying IMF loans entailed
massive expenditure cutbacks: fiscal austerity. The World Banks role was to help governments
achieve economic reforms over the medium-term by tying the loans tranches to a series of
conditions. On average a World Bank adjustment loan in the 1980s contained 61 conditions; this
number fell by half by the end of the 1990s.85

When the Bank started its adjustment lending, it expected that any adverse social impacts would be
transitory and short-lived. It believed that existing social safety nets in Latin America and other
middle income economies would be sufficient and that economic growth would soon accelerate.
But these defences, in the Banks own words, were overwhelmed by increasingly tougher fiscal
adjustments up to the late 1980s.86 It found that in Africa market liberalization raised agricultural
prices but this did not directly translate into higher incomes for poor farmers and wages for
landless labourers if there was no competition among traders and middlemen. The Bank itself
acknowledged that it had a limited understanding of how rural markets operated. Ten years later
and despite these findings relating to the 1980s, the Bank admitted it had paid insufficient attention
to the impact on employment and labour markets of liberalization measures in the structural
adjustment programs prepared during the 1990s.87

With Joe Stiglitz as its chief economist, the World Bank refocussed its approach to poverty reduction
in 1997 by introducing a three-pronged strategy: to promote opportunity through inclusive growth;
to facilitate the empowerment of poor people so that their voices were listened to by the
government and other agencies; and to enhance social security and reduce peoples vulnerability to
economic shocks.88 The Banks lending increasingly went towards bolstering developing countries
social safety nets. The Bank claimed that successful adjustment programs involving market
reforms [] tended to increase growth rates on average.89 Presumably unsuccessful programs did
not do so. Stiglitzs colleague, William Easterly, found no effect of IMF and World Bank adjustment
lending on the rate of growth. He claimed nonetheless that a contraction in the economy that is, a
negative growth rate did not raise poverty proportionately in cases where a country had received
structural adjustment loans.90 The Banks assessment of 2001 concluded that inadequate policy
environments and weak [government] institutions prevent[ed] the poor from taking advantage of
new opportunities created by structural adjustment reforms. [] The focus on [] a fiscal
consolidation program has been accompanied by insufficient consideration of the necessary
institutional prerequisites for successful reform.91 These weaknesses were, of course, exactly the
factors that loan conditions and related technical assistance were supposed to address.

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Neoliberals did not limit their activities to developing countries. The 1980s and early 1990s
witnessed major industrial restructuring in Western Europe and North America. The industries most
affected were steel-making and ship-building, but above all coal mining. Over 300,000 mining jobs
were lost in the European Union coal producing countries. Western Europe looked to diversify its
energy supplies at a time when oil prices had reached unprecedentedly high levels in the 1970s. The
coal producing nations sought therefore to maintain indigenous production, and, in some cases, to
increase domestic coal output. During the 1980s, however, economic growth slowed down as restrictive
fiscal and monetary policies were applied to reduce price inflation and to stabilize exchange parities
between currencies. High and persistent levels of unemployment became a general feature of EU labour
markets (to be described in Chapter 6).

Elevated energy prices encouraged new coal producers in Colombia, Venezuela, Indonesia and China to
emerge in competition to established producers from North America, South Africa and Australia. World
coal prices fell back as the new suppliers sought to capture a market share. By the early 1980s,
therefore, the picture looked rather different from that only a few years earlier. The EU was less
dependent upon the Gulf region and North Africa for its oil and gas supplies and the advantages of
maintaining indigenous coal production as a means of ensuring security of supplies was no longer as
apparent. Moreover, as the decade progressed, the shift in public policy towards neoliberal solutions to
social and environmental problems accelerated, and the tendency to question state intervention and to
favour deregulation and privatization became more pronounced.

The coal industry thus faced governments who were more critical of the case advanced to justify low (or
even negative) returns on investment by reference to the need to maintain domestic output as a stable
share of energy production and assure security of energy supplies. Moreover, production costs were
higher in Western Europe than the price of imported thermal coal. Almost all EU mines operated at
costs above 75/tonne in 1989. The price of imported thermal coal at the main EU ports (Amsterdam,
Rotterdam and Antwerp) was 50/tonne.92

The majority of job losses in coal mining during the later 1980s and early 1990s took place in Great
Britain. Between 1985 and 1994, 234,000 jobs were lost from the national company British Coal, a
state-owned enterprise that was privatized in 1994.93 Having faced down the miners, who had struck
to defend pits from closure in 1984, British Coal (with explicit government backing) proceeded to
close all the remaining underground mines in Kent, Northumberland and North Wales and most of
the mines in Lancashire, South Wales and Fife in Scotland. Pits in Yorkshire were also closed but
those in Nottinghamshire and Lincolnshire were maintained until 1992 when a subsequent wave of
pit closures occurred. Miners in Nottinghamshire and Lincolnshire had elected to stay out of the
1984 strike believing that their pits were safe. Within a decade those expectations turned out to be
misplaced. The 1992 wave of closures ended deep mining in Staffordshire and Midlothian in
Scotland, and extended into Yorkshire, Nottinghamshire and the English Midlands, thus closing 31 of
the surviving fifty pits, with another 30,000 jobs disappearing.94 Britains last deep coal mine,
Kellingley in Yorkshire, closed in 2015.

Coal mining in France was concentrated in five areas. Nord Pas-de-Calais, Lorraine, and the Massif
Central produced hard coal, while lignite was mined in Aquitaine and Provence. In 1960, the state-
owned enterprise Charbonnages de France was employing some 232,000 people. Between 1960 and
1991 more than 200,000 jobs were lost in the French coal mining industry, a cutback of 86 percent.

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In 1986 a new restructuring plan was agreed, under which production would be reduced and the
workforce cut to 20,000 by the end of 1991. Mining in Nord Pas-de-Calais ended after 250 years in
1991, and underground workings at Blanzy and La Mure (Massif Central) were closed in 1994.
Mining in the Lorraine basin finished in 2004.95

A state-sponsored national coal company was formed in Western Germany with the creation in 1968
of Ruhrkohle, as the result of the merger of the coal mining companies in the Ruhr, the Ibbenbhren
and Aachen areas, and, from 1997, Saarland; it employed 187,000 workers in 52 collieries and
related industries. Subsidies to maintain the size of the home coal market were agreed with the
federal government for steam coal from 1980 to 1995 and for metallurgical coal over the period
1985 to 2000. A phased program of mine closures led to 38,000 mining jobs being lost between 1980
and 1991, mainly in the Ruhr basin and Aachen. Large numbers of miners transferred from Aachen
to the Ruhr, but this was not popular between Saarland and north Germany, where there were
distinctive customs and traditions.96 By the end of 2012 Ruhrkohle was operating just three deep
mines and employed 17,600 people and two of these shut in 2018, thus ending the tradition of coal
mining in the Ruhr basin. Another 25,000 workers were employed in open pit mining of brown coal
and lignite linked directly to thermal power plants. The last deep mine in the Saar basin closed in
2012.97 In Belgium all mines in Wallonia had been closed by 1981. At the height of its production, the
Belgian coal industry in Wallonia and Flanders employed 150,000 miners. In the Limburg coalfield of
Belgium, 17,000 mining jobs were lost between 1987 and 1992.98

Strikes had been called when the mine closure programs were announced and were particularly
violent and bitter in Belgium and in Britain, where a 12 month strike occurred in 1984-1985. The
Conservative government led by Margaret Thatcher provoked the confrontation when it disregarded
the Plan for Coal agreed in 1974 between the previous Labour government, the National Coal Board
and the trade unions. That planning agreement covered continued state-backed investment in mines
to increase both production and efficiency. In practice the Plan for Coal relied upon an alternative
economic strategy whose central plank was the protection of nationally important industries. This
strategy had been developed by the broad left within the British labour movement in the 1970s and
was promoted within the Labour Party by the former industry and energy minister Tony Benn (1925
2014). Although much of the strategy was incorporated into the partys program in 1982, when put
to the electorate at the parliamentary elections of the following year, it was rejected decisively,
resulting in the re-election of Thatchers Conservatives. The incoming Labour leader Neil Kinnock,
one of Benns critics, was intent on modernizing the partys image and reformulating its policies. In
particular, Kinnock and his team viewed the alternative economic strategy as unworkable in a small,
open economy and aimed to adopt a more pro-enterprise and pro-European stance that implied
accepting industrial restructuring provided it was accompanied by social measures and the
reconversion of the local economies. Kinnock therefore distanced himself from the National Union
of Mineworkers and its leader Arthur Scargill, thereby discouraging solidarity action by the rest of
the labour movement, such as in the docks, power stations and steel mills when it could have tipped
the balance in favour of a negotiated settlement.99

Government intransigence, however, the sequestration of the unions assets when the high court
ruled the strike to be illegal, and a propaganda campaign to encourage miners to return to work
forced the union to call off the strike. Journalist Seumas Milne described the strike a watershed in
the countrys contemporary history.100 British Coal and the government then set about closing

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collieries deemed to be uneconomic. There was no overall plan, except an undisclosed objective
(leaked to Scargill) to shut up to 100 mines and by 1990, 97 collieries had indeed closed.101 By
contrast, in France, Belgium and Germany, social plans were developed in negotiation with the trade
unions and reconversion plans were prepared by the local and national authorities in consultation
with employers and employees in the regions. The French left had won the 1981 presidential and
parliamentary elections based on a similar economic strategy to that adopted by British broad left.
The socialist-communist coalition government under Franois Mitterrand (19161996) was,
however, soon forced to abandon the strategy in the face of business and investor opposition.102 The
government nevertheless refused to abandon the workers in heavy industry and their communities
in the way Thatchers Tories had been willing to do.

In order to persuade younger employees to leave the industry, several governments and coal mining
companies offered golden handshakes in the form of generous severance payments. In Belgium
and Britain these payments (maxima of 22,500 to 50,000) were typically equivalent to a years
salary, while in Germany miners aged over 50 years received nearly 10,500, about one third of their
previous salary. In France, workers received a relocation grant of about 12,200, but no large
severance payments. Workers at mines which were scheduled to close were normally offered the
choice of a transfer within the company or a severance payment coupled with assistance in finding
another job. In Belgium, Britain and France the public authorities and the coal mining companies
established special outplacement agencies to advise redundant employees on job search and
retraining and to identify job vacancies which were not formally advertised. French redundant
workers remained employees of Charbonnages de France while being retrained and were then
resettled into vacant jobs within or outside of the region by the companys employment service. A
proportion went to work in the national electricity company, Electricit de France.

Encouraging the creation of new jobs by direct or indirect means was not normally the task of a coal
mining enterprise, but in France and Britain, special companies were established by the coal mining
company to resettle redundant mineworkers and provide aid for economic regeneration of the
coalfields, while in Belgium the mining company provided resources and participated in an
investment company along with the public authorities. Severance pay was necessary to cushion
miners against the sudden loss of income although it had little long term impact on the individuals
chances of obtaining another job. It was different in concept to providing a pension to a worker who
was retiring early, and thus leaving the labour market. If unemployment benefit is not related to
overall earnings there will be an immediate drop in household and individual income.
Unemployment benefit also ceases to be paid after one or at maximum two years of continuous
unemployment in many countries. In either case there is a drop in income and a reduction in the
individuals credit worthiness. Debts which have been accumulated by redundant workers, for
homes, cars or household goods, may have to be honoured by selling these assets if unemployment
is more than transitory. Severance payments therefore allowed a miner to clear these debts without
the forced sales of personal goods or the family home.

A greater proportion of Belgian and French mine employees received retraining from the mining
company than was the case in Britain. Nearly 80 percent of mine employees either went into early
retirement with a pension or obtained an alternative job in Belgium; in France a 100 percent success
rate was achieved, but in Britain only 50 percent. High rates of resettlement were associated with
high levels of social spending. In France and Belgium, between 61,500 and 82,300 was spent for

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each mining job lost on social programs, while in Britain around 45,300 was spent. Compared by
the ratio of social expenditure to the number of resettlements, France spent less with better overall
results than either Britain or Belgium.103

The same forces were at work in North America, where coal production has shifted from deep mines
in the east (the Appalachians and Nova Scotia) to surface mining in the west. Improvements in
labour productivity through mechanization also put pressure on employment. While restructuring in
the USA was undertaken by private mining companies without state subsidies or special federal
social programs, the states and municipalities adopted, and indeed pioneered, many of the
measures for economic regeneration found in Europe. A major difference between the USA and the
EU was that in the former workers were more ready to relocate to other parts of the continent than
was the case in Europe. Moreover, although it was legally permitted for companies to make mass
lay-offs of their workforce for economic reasons, in Europe this was seen as a last resort. The
European social model put greater emphasis upon obtaining a consensus between the social
partners, employers and workers, in resolving the social impacts of industrial restructuring. The
British experience was much closer to the US approach, in that restructuring was undertaken
without a social plan, and was facilitated by making large severance payments to win the
acquiescence of the workers.

While many factors lay behind Donald Trumps election to the US Presidency in 2016, among the
most prominent was the support his candidacy received from working people, especially in the Great
Lakes region and Appalachia. Many of them, and their trade unions, blamed the creation in 1992 of
the North American Free Trade Area, which occurred under Bill Clintons presidency, for the loss of
mining and manufacturing jobs. In fact the process of de-industrialization had begun under Ronald
Reagan in the 1980s with the rise of neoliberalism.104 More recently, of the six million manufacturing
jobs lost in the USA between 1999 and 2011, 10 percent, or 600,000, may have been the result of
displacement from Chinese imports. Chinas accession to the World Trade Organization in 2000
allowed its exporting industries to capture one-fifth of world manufacturing exports by 2013, from a
tiny base of two percent. Another 720,000 jobs could have been displaced through trade with
Mexico, by the authors calculations. Altogether about 40 percent of the jobs lost from US
manufacturing occurred as result of the internationalization of supply chains, relocating work to
cheap labour destinations, while the rest could be attributed to improvements in productivity. Even
though manufacturing employment fell from 19 million in 1980 to 12 million by 2016, the USA was
producing twice as much by value.105

Neoliberal prescriptions were not confined to countries which found themselves in trouble
financially. Many of the mature market economies also opened their economies to market forces in
the 1980s and 1990s. They reduced the extent of state intervention by cutting back on subsidies to
enterprises and encouraging the private sector to compete in the delivery of public services.
Governments also strengthened competition authorities and loosened regulations. A study of
liberalization policy across 18 countries found that the degree of state intervention had fallen by half
on average since 1985. The study examined regulatory liberalization in energy, transportation,
communication, credit and labour markets, and the opening up of social security and health services
to private provision. Some countries did more of the latter than the former, and others, less.106 The

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overall degree of liberalization is shown in Table 2.1. The level of state intervention in the economy
is expressed as an index from low to high.

Table 2.1: Level of state intervention in 18 mature market economies

Country Index of Intervention Index of Intervention Index of Intervention

1985 2002 2015
Sweden 162 64 62
Norway 154 99 93
Italy 151 78 76
France 142 99 92
Netherlands 140 55 54
Belgium 139 75 74
Denmark 136 71 66
Finland 125 66 66
New Zealand 124 42 41
Austria 119 80 76
Germany 118 55 52
Ireland 112 75 79
Japan 93 62 56
Switzerland 81 68 67
Canada 78 39 37
Great Britain 78 21 20
Australia 72 22 21
USA 16 1 1
Average 113 58 57
Source: Authors calculations based on Wirtschafts-und Sozialwissenschaftliches Institute and Hans
Bckler Stiftung and Heritage Foundation.107

As can be seen, the largely English-speaking countries liberalized the most (Australia, New Zealand,
Britain, Canada and the USA), with scores below 50 points by 2002. The Continental European
countries also liberalized to bring the scores below 100 points by 2002, although a small group
remained above the average in terms of intervention (the Nordic countries, Austria, Belgium, France,
Ireland, Italy and Switzerland). Japan was already a country with a relatively low degree of
intervention in 1985 and kept up with the rest in the following years.

After the 2008 financial crisis, a number of governments lined up to borrow from the IMF. They were
mostly small economies with a narrow tax base, with a significant scale of tax evasion by the richer
inhabitants and locally-based corporations, and with weak public administrative capacity to tackle
public financial management and corruption. In the good times, governments were able to make up
shortfalls in revenue collection by borrowing a bit more, but under recessionary conditions with
falling revenues and a growing debt burden, they were forced to rein back on spending. The IMF
considered that a public debt equivalent to 50 percent or more of GDP was unsustainable, even
among relatively prosperous and politically stable Eurozone member countries.108 There was little
evidence that high levels of public debt actually harmed or destabilized a countrys economy,
especially if the majority of bond-holders were residents. Domestic bondholders and domestic

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taxpayers were often the same, mostly above average income, people: on the one hand they derived
a benefit from buying government debt (as they collected an annual interest payment on their
bonds. which was a form of saving) and on the other hand they were liable as taxpayers to repay
themselves at a later date. This situation was often misrepresented as being a debt burden, which
their children would supposedly be forced to pay off.109 (If the children inherited a long-term
government bond they, of course, received the same interest payment as their parents did in their
capacity as savers, while as taxpayers, and hopefully a bit richer than their parents, they also
inherited the liability to repay the bondholders, that is, to repay themselves!)

Foreign creditors might create problems if they all tried to sell their bonds at the same time, which
could affect the exchange rate. Although they saw themselves as exposed to a possible sovereign
default if the government reneged on its obligations to pay interest on the bond or reimburse its
face value on maturity, there were ways they could hedge against this possibility to protect the value
of their investment. In any case, what mattered was the nations overall position. A companys
balance sheet shows whether its assets match or exceed its liabilities and therefore whether it is a
solvent enterprise. Countries do not publish balance sheets but if they did then the sum of all assets
held by the public sector and private residents, including companies, would be compared with their
aggregated liabilities. In 2010, the combined capital assets of the public and private sectors were
equivalent to 500 and 600 percent of GDP in Great Britain and France respectively, while their
combined debts stood at around 250 and 280 percent of GDP. (More than half of the UKs assets
comprised the value of residential housing.)110 In other words, if the British government, its citizens
and resident enterprises decided to repay everything they owed (mostly to each other, but some of
it to foreigners) by selling their capital assets (again, mostly to each other), they would still be
wealthy afterwards. If, instead of selling their assets, they decided to devote a quarter of their
national income each year to paying off their debts, it would take the British 10 years to do so. The
French would take 11 years, 2 months and 12 days to pay off their combined debts at the same rate
of 25 percent of national income a year. And they would, collectively as nations, still have assets and
cash worth nearly five to six years of national income in the bank as savings or investments. Britain
and Frances national balance sheet looked very healthy, even though their governments,
households and enterprises owed a lot of money.

An internal analysis of the IMFs response to the financial crisis showed that much of Stiglitzs
criticism regarding structural adjustment remained valid a decade and a half later.111 In the main, the
IMFs post-crisis clients 27 mainly European governments who borrowed $78.5 billion in special
drawing rights from the Fund between 2008 and 2013 avoided devaluing their currencies in order
to prevent disinvestment by foreign investors.112 This meant that external adjustment through
exchange rate flexibility was not possible. Internal adjustment was attempted instead, by
introducing labour market reforms that would reduce wages and make the country more
competitive internationally. Cutting wages or, at least, keeping wage increases below the rate of
inflation, hit consumer demand and encouraged recession. At the same time, these governments
had turned to the IMF to provide them with emergency loans to enable them to pay off existing
private creditors, mostly banks and professional investors who had purchased bonds from the
government and expected to be repaid. The IMF required the borrowing government to repay its
emergency loans in a few years time and to be able to do this, the government had to raise more
revenues from taxes and/or cut public expenditure: to introduce austerity, in other words. Under
Keynesian economic policies, cutting government spending at a time of recession because

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consumer demand was being undermined by wage cuts was exactly the wrong thing to do. The
governments should have been borrowing more (not less) in order to maintain a macroeconomic
balance. But, of course, the governments that had run out of money simply could not afford to apply
a Keynesian-style stimulus (which was why they had called on the IMF to help them out). So the
central banks stepped in to help, in some case, by loosening monetary policy in order to compensate
for the tightening of fiscal policy. Reducing interest rates and pumping money into the banking
system which was itself in trouble was expected to incentivize households and enterprises to
borrow and invest. With a more competitive cost structure, as a result of labour and product market
reforms, the country might be better able to expand its exports. Higher exports and more private
investment would offset the reduction in public spending over time and the economy would adjust
structurally and return to balance. That at least was the plan.

Top of the class for structural adjustment following the 2008 financial crisis was Latvia. The countrys
achievement came at a high social cost, however. Success for the IMF meant unemployment,
although still high, is now mainly structural in nature.113 Before the financial crisis unemployment
had stood at six percent (in 2007); it rose to 19.5 percent in 2010 and by 2015 was down to nine
percent. Around 250,000 jobs disappeared between December 2007 and December 2009 a fall of
23 percent in total employment.114 Unemployment had risen so rapidly during the crisis that a trade
union protest in January 2009 led to riotous disorder in the capital Riga and the fall of the
government. With a new government headed by the conservative former finance minister Valdis
Dombrovskis (later a vice president of the European Commission) in place, the government swiftly
took advantage of an emergency IMF financing loan of 1.7 billion to slash government spending,
wages and jobs.115 The authorities remained firmly committed to their program strategy [of]
maintaining the fixed exchange rate to the euro, reducing the fiscal deficit, taking further steps to
stabilize the financial system and, in the medium term, qualifying for euro adoption, the IMF
reported in 2010. They felt that the strategy, while challenging, was succeeding [ and] the
authorities accepted its necessity in order to meet the Maastricht criteria for entry to the euro zone
as soon as possible.116 Wages were cut by around four percent overall in 2010, six thousand public
sector workers were sacked, and a wage cut of 18 percent imposed on the remainder, leading to
consumer price deflation, but providing the boost to competitiveness through internal devaluation
to allow an export-led recovery. National income fell by 14 percent in 2009 and three percent in
2010 but growth rebounded by between four and five percent a year subsequently. The
governments fiscal deficit was reduced from seven percent of GDP in 2008, to three percent in 2011
and brought into balance in 2012 and 2013. Very few countries have managed to implement the
adjustment Latvia has undertaken, the IMF review noted.117 Latvia adopted the euro in 2014. Even
if the costs were relatively high, the IMF asserted, as a small open economy, with flexible product
and labour markets [ Latvia was able] to generate a rapid supply response through internal
devaluation, which was a key objective of Euro Area programs.118

Notwithstanding such claims, by any reasonably rational criteria the IMF-supported crisis programs
failed to restore macroeconomic stability in any of the 27 countries and territories that had
approached the Fund for assistance. In addition to Latvia, they included Cyprus, Greece, Hungary,
Iceland, Ireland, Jordan, Portugal, Tunisia, Sri Lanka, the Seychelles and several Caribbean islands. In
the words of the IMFs own review of 2015: unemployment remains high and growth generally
tepid, reflecting weak global demand, limited exchange rate adjustment, continuing deleveraging,
and a reduction in potential growth notwithstanding structural reforms. Unlike earlier structural

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adjustment programs, there was almost no exchange rate flexibility and therefore greater reliance
on internal devaluation in order to protect the interests of foreign investors. Balance sheet
adjustment was complicated by the fact that where the public sector, households and corporates
all sought to deleverage, the reduction in spending undercut domestic demand and contributed to
raising the real burden of debt further. In several cases the central banks raised interest rates to
support the exchange rate and limit the outflow of foreign money.119 Early on the crisis, the
European Central Bank began to raise the Eurozone interest rate, which it had cut in 2008 to below
one percent, only to be forced into reverse by the weakening economy. The consequences from
limited exchange rate devaluation, fiscal austerity, an unnecessarily tight monetary stance, and
reliance upon internal devaluation to improve international competitiveness was the prolongation
of recession.

For the IMF, the problem lay in the limited progress in improving competiveness. Labour
market reforms were attained ahead of product market reforms, with the benefits of lower labour
costs for competitiveness being blunted by limited adjustment in producer prices and supply
response because of barriers to entry, indicating that an oligopolistic market structure existed.i
Banks were in trouble and shrinking bank credit and the need by private enterprises to rebuild
balance sheets slowed any potential economic recovery.120 The payoff from structural reforms
was always likely to be modest over the short-term the IMF acknowledged. Its structural
adjustment programs had overestimated the contribution of internal devaluation to raising GDP
programs had assumed that one percentage point would be added to the long-term average growth
rate (which did not materialize in practice) and underestimated the detrimental impact of fiscal
consolidation, that is, cuts in public spending, on the economy.121 As Stiglitz and Toye had pointed
out earlier, poor program sequencing and reliance on unrealistic economic modelling and analysis
had led the IMF and its client governments into error-prone policy-making, at the expense of
working peoples standard of living. Restructuring the repayment profile of public debt was resisted
and when eventually attempted it was often too little too late.122 The IMF ignored the existence of
oligopolistic markets and assumed implausibly that enterprises would reduce their prices if they
benefited from lower labour costs. Furthermore, the distributional consequences of prioritizing
spending cuts over tax rises, which tended to be detrimental to women and the poorer sections of
the community, were largely passed over in the IMF review.

The overall impact of economic reform, structural adjustment and industrial restructuring around
the world led to a lost decade for development in the 1980s and early 1990s, as Table 2.2 indicates.
About one percentage point was knocked off annual world growth a quarter less in other words,
year after year. Since the end of the Second World War, world economic growth varied typically
between three and five percent a year. Growth decelerated in the 1970s and early 1980s before
picking up somewhat as the business cycles in North America and Western Europe off-set one
another (in other words, Europes economy was in an expansionary phase at the same time as there
was recession in America and vice versa). From the late 1990s onwards the business cycles in

A monopoly means that one seller dominates the market, while in an oligopoly there are a few dominant
suppliers; the same is true in a monarchy, where one ruler is sovereign, whereas an oligarch is one of a small
group of rulers.

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America and Europe coincided, pushing world growth back towards the highs of five percent a year
not seen since the 1960s.123

Table 2.2: Economic growth under the influence of neoliberalism

Average percentage change per year in Gross Domestic Product

Country/ Region Lost Bull Run I Asian Bull Run Long

decade Crisis II recession
19801993 19941997 1998 19992007 20082015
World economy 3.0 3.7 2.5 4.4 3.2
North America 2.5 3.7 4.4 2.9 1.2
USA 2.8 3.8 4.4 2.8 1.2

Latin America & the Caribbean 2.3 3.5 0.1 3.6 2.6
Brazil 2.2 3.8 0.3 3.3 2.2

Mexico 2.8 3.3 2.7 2.8 2.0
European Union 1.9 2.5 2.9 2.7 0.4
France 2.0 2.0 3.6 2.3 0.4
Germany 2.1 1.8 1.8 1.7 0.9
Italy 2.1 1.9 1.6 1.5 -1.0
United Kingdom 2.1 3.1 3.4 2.9 0.9

Emerging European economies 1.4 3.9 0.0 4.9 2.6

Turkey 4.7 3.9 -3.4 5.2 3.4
USSR/ CIS 0.1 -5.3 -3.8 7.4 1.5
Russia -0.5 -4.8 -5.3 6.3 1.0
Ukraine 0.5 -12.0 -1.8 6.7 -2.9
Developed Asian economies : : : : :
Japan 3.9 1.8 -2.0 1.3 0.2
South Korea 8.6 8.1 -5.5 6.1 3.1
Developing Asian economies 7.0 8.2 2.8 8.1 7.4
China 9.9 10.8 7.8 10.2 8.6
India 5.2 6.5 6.2 7.3 7.0
Indonesia 6.9 7.1 -13.1 4.6 5.8

Middle East & North Africa 2.2 3.3 2.5 5.9 3.5
Sub-Saharan Africa 1.2 4.0 2.9 5.6 4.9
South Africa 1.4 3.3 0.5 4.1 1.9
Data for 1999
Sources: International Monetary Fund; The World Bank.124

The lost decade saw a short period of economic growth in the second half of the 1980s as high real
interest rates began to fall back from their peak.125 Overall, however, the lost decade was a period of
profoundly damaging recession for working people around the world. There followed the first of two
long booms bull runs to adopt the jargon of the stock market. In retrospect the return to growth
can be seen as a single long Bull Run that was briefly interrupted by the Asian financial crisis of
199799. It led to the asset price inflation that will be examined in Chapter 11. The Bull Run saw
world economic growth averaging around four percent a year for two decades. It appeared to many
economists that neoliberalism worked. To be sure, the deep depression in which the former socialist
countries found themselves during the 1990s was painful, but it was supposedly a price worth

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paying for their transition to the market, although as the next chapter will show, the opposite was
the case.

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3 Transition
Misguided theorizing by neoliberals led them to promote disastrous policies in effecting the
transition of the formerly planned economies towards a liberalized market system.126 Moreover, the
neoliberal policies adopted failed to take account of the structural features of the socialist countries.
Conceptually the strategy for transition was formulated by a group of mainly French and mainly
socialist officials: Jacques Attali, a close aide to President Mitterrand and the first head of the
European Bank for Reconstruction and Development (EBRD); Michel Camdessus, former chairman of
the Paris Club of creditor countries and then then the Managing Director of the IMF; Jacques Delors,
President of the European Commission; and Jean-Claude Paye, Secretary-General of the
Organization for Economic Cooperation and Development (OECD); along with Stanley Fischer and
Larry Summers, the Chief Economists at the World Bank between 1988 and 1993.127 They sought,
within the frame of the Washington Consensus, to extend the single European market eastwards,
thus integrating the socialist countries into a common economic and security architecture and avert
a potential breakdown of government in Central and Eastern Europe and Central Asia. These aims
coincided with those of Mikhail Gorbachev, the Soviet leader, to build a common European home
and replace the rival defence associations NATO and the Warsaw Pact with an Organization for
Security and Cooperation in Europe.128

In terms of economics, the foundations were laid between 1989 and 1991 by Jeff Sachs and David
Lipton in association with Leszek Balcerowicz, Yegor Gaidar (19562009), Jnos Kornai, and Grigori
Yavlinsky.129 An important element of their analysis concerned so-called repressed inflation, which
Sachs and Lipton claimed was a monetary problem, rather than structural, and could be righted with
a strong dose of macroeconomic austerity (tight monetary and fiscal policies). Repressed inflation
was associated with the shortage economy and represented excess demand in the economy,
caused by government and enterprise deficits and easy money policies pursued by central banks.130
They laid out a strategy for transition:

The transition process is a seamless web. Structural reforms cannot work without a working
price system; a working price system cannot be put in place without ending excess demand
and creating a convertible currency; and a credit squeeze and tight macroeconomic policy
cannot be sustained unless prices are realistic, so that there is a rational basis for deciding
which firms should be allowed to close. At the same time, for real structural adjustment to
take place under the pressure of tight demand [that is, austerity in government and
household spending], the macroeconomic shock must be accompanied by other measures,
including selling off state assets, freeing up the private sector, establishing procedures for
bankruptcy, preparing a social safety net, and undertaking tax reform. The process must be

The non-communist governments of Central and Eastern Europe and Gorbachev had called upon the
services of Professor Sachs because they needed to borrow from the IMF and persuade the
developed market economies to invest in their industries. In an attempt to modernize their
industries most of the socialist countries had taken out hard currency loans in the 1980s from
international investment banks to import up-to-date equipment and machinery.132 When these
same countries decided to introduce market reforms they gave state-owned enterprises autonomy
from their supervisory ministries. The foreign debts were, however, left with the government, which

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remained responsible for the repayment of the loans, while at the same time losing the revenue
streams generated by the enterprises that would have enabled them to do so. Accordingly, at the
close of the 1980s several countries, including Bulgaria, Hungary, Poland, the USSR and Yugoslavia,
owed substantial debts that they were unable to repay, unless, like the government of Romania
under Nicolae Ceauescu (19181989), they switched domestic production to exports and deprived
the population of basic necessities eventually leading to an uprising and a Soviet-backed coup in
1989. The situation was made worse by faltering economic growth and price inflation.133

Unsurprisingly the IMF and its major shareholders wasted little time in deploying the leverage
offered by these debts to dictate the terms of the transition. At the Paris meeting in July 1989 of the
Group of Seven (G-7) leading economic powers, it was agreed that they would support the economic
reforms in the countries of the East and consider extending economic assistance aimed at
transforming and opening their economies in a durable manner. They also declared that they stood
ready to support the rescheduling of debts in the Paris Club and applications to join the IMF
provided the countries met the conditions for membership.134 The European Commission set up the
Phare program to help Central and Eastern European countries soon afterwards Phare was an
acronym in French for Pologne Hongrie Aide la reconstruction conomique, and since the word
meant lighthouse it signified an intention to guide the countries towards a safe berth in the EU. Over
the following year the OECD established a Centre for Cooperation with the European Economies in
Transition and the EBRD was founded in 1991 with offices in London.

Meanwhile, the G-7 had called upon the IMF, the World Bank, the OECD and the EBRD to undertake
a study of the Soviet economy in consultation with the European Commission, at its Houston Summit
in July 1990. The study was to make recommendations to establish the criteria under which
Western economic assistance could effectively support reforms. In fact two studies were prepared:
one by the OECD, IMF and the development banks, and the other by the European Commission.135
The studies concluded that the USSR must move quickly to become a market economy and that
Western aid would be wasted if the country attempted to follow a path of gradual reform that
minimized economic disturbance. The pain from a quick transition would be smaller than that
inflicted by deferring reforms, the institutions averred.136 In the spring of 1991, Sachs worked with
Yavlinsky and others to design a reform package that he hoped would unlock $30 billion a year in
Western financial assistance, although nothing of this size was ever provided. Jacques Attali flew to
Moscow to confer with Gorbachev and they composed a letter to the G-7 setting out the main
elements of the USSRs transition strategy. Attali manipulated a situation under which the G-7 was
forced to invite Gorbachev to London for its summit in July 1991, earning him a rebuke from the UK
Prime Minister John Major (and being forced out of the presidency of the EBRD). Despite promising a
stringent [spending] regime and real-term reduction in funding of defence-related and other
state expenditures [ and] the cancellation of individual social programs, the cutting of the
investment program, [] and retail price decontrols, Gorbachevs plans to impose more stringent
constraints on peoples incomes and a program of destatization and privatization met with a
lukewarm reception in London.137 Following his return, a group led by Gennady Yanayev (1937
2010), the vice president and a former trade union leader, attempted a coup dtat to replace
Gorbachev. Although it was unsuccessful, Gorbachev was forced from power and the USSR broke up
into separate countries.

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Before the year end, the European Commission established the TACIS program of technical
assistance to the Commonwealth of Independent States (CIS), as the successor organization to the
Union of Soviet Socialist Republics was called. The newly established EBRD became the mechanism
that the neoliberals used to drip feed investment to the transition economies and with the Phare
and TACIS programs the European Commission obtained a front seat in the control room of
economic reform.

Every economic system represents an attempt to solve three fundamental and interdependent
problems: 1) What types of goods and services are to be produced and in what quantities? 2) How
shall goods and services be produced? That is, by whom and with what resources and technologies?
3) For whom shall goods and services be produced? That is, who is to enjoy the benefits of the goods
and services and how is the total product to be distributed among individuals and groups in the
society?138 Thus every economy is a system that allocates resources for exchange, production,
distribution and consumption. An economic system is stabilized through a combination of threat and
trust, which are the outcome of institutional arrangements.139 For example, buyers and sellers need
to be able to trust each other not to cheat on the deal they make, and if one does, then there is the
threat of going to court. Institutionally an economic system must possess a control and decision-
making system; a coordination mechanism to balance demand and supply; an incentive system to
induce and motivate economic agents to engage in productive activities; a distribution system that
allocates the proceeds from productive activity; and public choice mechanism for law-making,
establishing rules, norms and standards and for levying taxes. Usually this last institution is the
responsibility of the state but other means of collective decision-making are possible, such as
workers councils or private corporate bodies. There are two basic forms of organization: actors and
regulators. Economic actors include households, work gangs and production teams, enterprises,
joint-ventures and cartels. Economically regulative organizations are represented by the state and
market authorities; the latter may be private or public entities.140

The transformation of the socialist planned economies to capitalist market economies in Central and
Eastern Europe and Central Asia in the 1990s involved a series of institutional changes that
addressed each systemically important institution. Control over the means of production was
removed from the state through privatization and private property rights were re-established over
the means of production. In several countries property was restored to its former owners or their
legal successors. If the actual property could not be returned the former owners received
compensation. This occurred in Eastern Germany, Czechoslovakia, Hungary and Estonia. In the
countries of the CIS, the new governments decided against restoration or compensation on the
grounds that too much time had elapsed since the 1917 Revolution and in many cases compensation
had already been made through bilateral treaties between the USSR and foreign governments
representing the former owners. Voucher privatization in which citizens and workers in the
enterprises received free shares was undertaken in most of the transition economies.141

The decision-making system was de-centralized through the ending of general planning and the
privatization of enterprises. Work collectives and trade unions lost much of their influence in
enterprise decision-making. From the point of view of many state-owned enterprises it appeared
advantageous to adopt the market mechanism since they anticipated being able to profit from the

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higher prices found in the market place. In 1990, the soon to be dissolved Council for Mutual
Economic Assistance (CMEA) decided to move onto world prices and to settle their trade in hard
currencies.142 Gorbachev, soon to step down from presidential office in the USSR, accepted price
liberalization for almost all goods from January 1992. Markets became the dominant coordination
mechanism between buyers and sellers following price liberalization and the deregulation of foreign
trade that permitted more or less unrestricted importation of goods in 1990-92. Queues at retail
outlets disappeared as did hoarded inventories at factories. Stock exchanges were established
between 1990 and 1995. Anti-monopoly legislation was introduced.143 As workers lost their jobs or
found their wages unpaid, informal labour markets sprang up along certain streets, particularly for
construction trades, but the government also established employment exchanges to help people
find work.144

The incentive system was modified by the legalization of private enterprise and alteration to
employment laws. A large informal sphere developed estimated as comprising 20 to 30 percent of
official calculations of GDP.145 The organizational forms prevailing in the socialist planned economies
were restructured by breaking up vertically-integrated industrial and agricultural concerns and
closing non-viable undertakings. The hardening of enterprise budget constraints was more
significant in driving industrial restructuring than privatization according to some studies.146

The distribution system became more unequal as price controls on necessities were removed,
fuelling the growth of poverty among people on fixed incomes such as pensioners. Growing levels of
unemployment meant workers in jobs were unable to secure wage rises that matched consumer
price inflation. Redistributive measures through taxation and social safety nets proved unable to
counteract the growth of poverty and, at the other end of the income scale, the emergence of a rich
business elite. The public choice mechanism was overhauled to rescind the communist partys
leading role and introduce a liberal constitution entrenching civil rights and representative
democracy in almost all transition economies except Belarus, Turkmenistan and Uzbekistan.

The most influential strategy for the transition to a market economy was that adopted by Poland,
launched in January 1990 and upon which Jeff Sachs had worked.147 The strategy was strongly
influenced by IMF and World Bank policies for stabilization and structural adjustment programs
which had been adopted in Latin America in the 1980s. It incorporated a number of interdependent
measures including macro-economic stabilization; the liberalization of wholesale and retail prices;
the removal of constraints to the development of private enterprises and the privatization of state-
owned enterprises; the elimination of subsidies and the imposition of hard budget constraints; and
the creation of an export-oriented economy that was open to foreign trade and investment. The
creation of a social safety net targeted at the individual to compensate for the removal of job
security and the removal of price controls on staple goods was also part of the strategy.148

The choice of the transition strategy was influenced by the critical economic state of most post-
socialist countries. Policy-makers were persuaded that political credibility took precedence over a
sequenced reform plan and to introduce macro-economic stabilization measures ahead of structural
measures that would by their nature take longer to implement. Stabilization was deemed a necessity
in Hungary and Poland where state budget deficits had grown and foreign debts had become larger
than the countrys capacity to service them. Western advisers and domestic experts working with

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the national governments and the IMF introduced stabilization programs aiming to achieve external
and internal balance. It was argued that one cannot jump over a chasm in two leaps.149

The many foreign advisers from, principally, the United States, the United Kingdom, France,
Germany and Scandinavia, were usually under contract to the international financial institutions and
bilateral or multilateral technical assistance programs.150 They favoured free trade and exchange
rate convertibility rather than trade protection and capital controls, which might have checked
capital flight. They tended to support privatization without prior industrial restructuring. An
exception was to be found in Eastern Germany where the Treuhand (Trust Agency) prepared state-
owned enterprises for the market at considerable cost to the government.151 Western technical
assistance programs were established by European Union through the Phare and TACIS programs
and other donors (including the US AID, the UK Know-how Fund and the UN Development Program)
and by the IMF, the World Bank, the EBRD, and the German state-owned lender KfW, which also
advanced loans for stabilization, structural adjustment, industrial restructuring and social protection.
Technical assistance was delivered through the exchange of civil servants and by management

It had been expected that the introduction of current account convertibility and foreign trade
deregulation would force a currency devaluation that would support export-led growth.152 However,
when prices were de-controlled enterprises and retailers raised their prices to match those
prevailing in the black market, or towards world price levels, earning them windfall profits initially.
Consumers reacted by reducing their purchases and by substituting better quality imported goods in
place of domestically produced goods (since these now cost much the same). Falling sales led to the
collapse of many domestic enterprises, with personnel lay-offs or reduced hours of work and pay.
This further reduced effective demand. As imports grew and exporters failed to respond to
opportunities in world markets due to the poor quality of their products and lack of resources for
investment, the trade deficit expanded, putting further downward pressure on the exchange rate.
Many wholesalers and retailers marked prices according to their dollar values and the falling
exchange rate thus fed consumer price inflation. The central banks in several countries raised
interest rates and tightened credit conditions, depriving state agencies and enterprises of working
capital. These in turn found it impossible to pay wages on time, dampening effective demand still

Markets were never eliminated within the socialist planned economies.154 However, granting access
to the market for sellers was vulnerable to racketeering, since the profits from sale were high. Local
governments which controlled retail markets had become corrupted by racketeers, a pattern
established during the upheavals and deprivation of the war years. A legitimate license for selling
pets could be exploited by the black marketeers in economies where shortages were endemic. You
could buy anything, provided that you paid the price. Inter-enterprise transactions were similarly
infiltrated by black marketeers. The state procurement agencys procedures were cumbersome and
slow. If an enterprise needed to obtain a component which it had failed to order two years
previously, or which had gone missing, it was obliged to buy it directly from a supplier.
Manufacturing co-operatives were well placed to exploit this opportunity. Co-operative farms could
set up workshops to supply themselves with spare parts and components. Estonian co-operatives

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were notorious for their flair in supplying Soviet industry with machine components in competition
to the state factories. These activities however required the use of cash, including dollars if imported
items were to be purchased. The internal demand for dollars enlarged the differential between the
officially fixed exchange rate and the street corner rate. Dollarization of the transition economies
remained a significant feature, with over half of bank deposits and loans transacted in dollars as late
as 2010.155

There is almost no information on the extent of the black market in the USSR.156 Nevertheless it
seems clear that almost every economic or political organisation was at least to some degree
involved at one time or another. Economist and former Russian Prime Minister Yegor Gaidar
characterized the Soviet economy as a network economy.157 Prices were determined through a
bargaining process between enterprises and agents within a network of suppliers and buyers, but
since such deals were unofficial, the contracts were not enforceable by law. In comparison with
state administered prices or a competitively set market price, these deals tended to be favourable to
the seller (or producer). Economic activity was impractical without building up a set of connections,
whether this was in the formal sphere or the informal (black market) sphere. Under Gorbachev, the
practices associated with black market were increasingly legalized. Those who had started business
in the black market formed co-operatives. Once private property was permitted, they became

The liberalization of prices and of international trade led to price inflation which in turn left most
people unable to afford an adequate level of consumption. In an economy dominated by
monopolies and cartels, price liberalization meant that in practice producers and distributors raised
prices to the highest point consistent with the quality of the goods being offered for sale that is, to
match the price of imported goods or those found on the towns markets. The markets themselves
were usually controlled by cartels mafias who regulated the entry of sellers and took a
percentage of the takings for protection against other gangs and extortion by the authorities.

The impacts of the conventional transition strategies thus proved to be de-stabilizing and left the
population impoverished. Economic output declined much more than the neoliberals expected.158
The decline in output lasted until 199296 in all the transition economies. By 1994, economic output
had declined across all transition economies by 41 percent compared to its 1989 level. The Central
and Eastern European economies began growing again around 1993, with Poland, which had begun
its transition program earliest, emerging from the depression in 1992. The Baltic States came out of
depression in 1994 and the rest of the former Soviet Union around 1996. Inflation remained above
20 percent a year (except in the Czech Republic and Hungary) until the mid-1990s. Across all
transition economies the peak annual inflation rate was 2,632 percent (4,645 percent in the CIS).159
Unemployment increased and wages fell in real terms, although in Russia and other CIS economies
the rate of unemployment recorded at employment exchanges remained low. Labour force surveys
undertaken by the International Labour Organization showed significantly higher rates of joblessness
and there was considerable internal migration.160 High interest rates induced a credit crunch,
fuelled inter-enterprise indebtedness and hampered the expansion of small and medium-sized
enterprises, which often lacked the connections to obtain finance legitimately and forced them to
turn to the gangsters for loans.161 It accounted for the high murder rate among enterprise owners
and for Russias reputation as the Wild East.162

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In time domestic producers were able to upgrade their production capacity and foreign direct
investment was attracted to the transition economies. Locally manufactured higher quality
consumer goods became available and won market share back from imports. Stabilization of the
exchange rate was made more difficult by large-scale capital flight, with domestic agents sending
part of their earning abroad to destinations where they believed their capital was more secure. The
promise of European Union membership and the adoption of the EUs legislation and regulations
(80,000 pages of the acquis communautaire) helped secure trust in property rights and economic
and governmental institutions in much of Central and Eastern Europe and contributed to an earlier
stabilization than was the case in the CIS countries. Ten Central and Eastern European countries
joined the EU between 2004 and 2007 and travel restrictions were eased for most of the others.163

Some economists argued that the poor growth performance of the transition economies stemmed
from their low level of development, decades of trade isolation and distortions in the socialist
planned economies. They emphasized that the transition strategies adopted reflected the need to
resolve the economic crisis besetting the socialist planned economies and the overriding objective
was the transformation to capitalist market economies rather than the foster economic growth and
welfare.164 But the influence of these historic factors would have diminished as time went on. By
2000, the EBRD was reporting that the effects of the initial starting point in each transition economy
on the reform process had faded. Although the foundations had been laid for a functioning market
economy through sustained liberalization, comprehensive privatization, openness to international
trade and investment, and the establishment of multi-party parliamentary political systems, the
countries of Central and Eastern Europe and the CIS still faced problems. The newly liberalized
markets were not necessarily competitive and political freedom had not prevented powerful private
interests from exercising undue influence, according to the EBRD.165

Another ten years on, in the Transition Report for 2010, the EBRD was still finding that the quality of
market-enabling institutions fell short of what was necessary for well-functioning market economies.
Growth in the transition economies had been driven by trade integration into the world economy
with impressive export performance, and by rapid capital inflows and a credit boom. But such
growth had proved to be volatile and the EBRD considered that governments in the transition
economies had to do more to foster the development of domestic capital markets and improve the
business environment, including financial institutions, real estate markets and the energy, transport
and communications infrastructure. The EBRD expressed concerns about regulatory independence
and enforcement, price setting, and the market power of incumbent infrastructure operators.166 In
short, the market economies in transition were still dysfunctional.

Income inequality rose significantly in the transition economies between 1987/88 and the mid-
1990s. Poverty re-emerged with between 20 and 50 percent of people living below the national
poverty line in the transition economies. The UN Development Program calculated that overall
poverty in Eastern Europe and the CIS increased from four percent of the population in 1988 to 32
percent by 1994, or from 14 million people to 119 million.167 Unemployment and rates of economic
inactivity were still high in the late 1990s according to survey data.168

By 2007, the year before the global financial crisis hit, the index for GDP had reached 112 compared
to 100 in 1989 for the transition economies. In other words, it took nearly 20 years to restore the

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level of output that had existed prior to the transition. The index of economic output (GDP) in the
countries of Central and Eastern Europe was 151 in 2007; for the Balkans/ South-eastern Europe the
index was 111, and for the CIS and Mongolia it was 102. Several CIS countries in the Caucasus and
Central Asia as well as Moldova and Ukraine still had economies that remained substantially smaller
than in 1989.169 The depression had been as deep as the Great Depression of the 1930s, yet
neoliberals misnamed it a transformational recession and pretended that it occurred as a logical
continuation of socialist policies, and not of their own doing.170

According to the EBRD, a well-functioning market economy should enjoy a diverse range of
economic activities, equality of opportunity and convergence of incomes. Progress in establishing
well-functioning market economies had stalled in the early 2000s. On the EBRDs measure of
transition indicators, the transition economies had become stuck in transition. Price liberalization,
small-scale privatization and the opening-up of trade and foreign exchange markets were mostly
complete by the end of the 1990s. However economic reform had slowed in areas such governance,
enterprise restructuring and competition policy, which remained substantially below the standard of
other developed market economies.171

Inequality of opportunity was higher in the transition economies of Central and Eastern Europe and
Central Asia than in several other developed economies in Western Europe (except France, where
inequality of opportunity was relatively high). The highest inequality of opportunity was found in the
Balkans and Central Asia. In terms of legal regulations and access to education and health services,
inequality of opportunity related to gender was low in Europe and Central Asia but medium to high
in respect of labour practices, employment and entrepreneurship and in access to finance. In Central
Asia women also experienced significant lack of access to health services, to a similar degree as in
Arab countries.172 While many transition economies performed well with respect to primary and
secondary education, and matched that available in many other developed economies, they were
assessed to be weaker when it came to training and tertiary education.173

Neoliberals sought to explain these disappointing returns from the transition as stemming from the
weakness of political institutions which had allowed entrenched interest groups to hinder
economic reform. The EBRDs Transition Report 2013 looked at the relationship between transition
and democratization. The report acknowledged that the academic literature was divided on whether
economic development fostered democracy but argued that there was nonetheless strong empirical
support for the hypothesis. It suggested that countries with high inequality were less inclined to
support a liberal constitution with a limited and accountable state. In general, the proportion of the
population with an income of between $1050 a day (the so-called middle class) correlated with the
level of democracy in a country; however this correlation disappeared in transition countries with
high income inequality. Those countries with large natural resource endowments, for example oil
and gas producers like Russia and Kazakhstan, had less accountable governments and faced less
electoral pressure to tackle powerful vested interests because the government could rely on
resource rents and did not have to tax the population heavily. Countries with a strong liberal
institutional environment that is, effective rule of law, secure property rights, and uncorrupted
public administration and corporate governance were better placed to attract investment and
undertake restructuring and regulatory change.174 To spur further economic reform and break out of

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a vicious circle, the EBRD Transition Report 2013 proposed that the transition economies should
further open-up trade and finance to competition and seek access the EU single market either as
member states or through association agreements.175

The EBRD undertook a survey of opinion in the transition economies in 2010 and discovered that
overall only 42 percent of respondents preferred a market economy, while about 26 percent
believed that a planned economy to be preferable; and another 26 percent did not think either
economic system mattered.176 The proportion of people satisfied with their life was also only 40
percent, compared with about 70 percent in Western Europe. (Surprisingly, perhaps, the proportion
of people in Western Europe preferring a market economy was not much larger than in the
transition economies.)177 Commenting on these results, Vaira Vike-Freiberga, the President of Latvia
between 1999 and 2007, suggested that in a controlled economy, where there was a systematic
deficit of goods, the communist party took care of things and people were liberated from the
responsibility to make choices. In a market economy, with a glut of goods to choose from, people
had to take responsibility for their choices, even those which they later regretted. There was further
anxiety induced from advertising. Thus, people found life more stressful in market economies than
in planned economies.178 The detrimental consequences arising from the transition to a market
economy fell mostly upon working people, whose jobs and incomes were disrupted.

The lengthy and troubled transition had not been expected by neoliberals, convinced that market
economies were superior to planned economies in terms of overall prosperity as well as on grounds
of efficiency. Friedrich Hayek (18991992) asserted that economic liberalism is opposed [] to
competition being supplanted by inferior methods of coordinating individual efforts. And it regards
competition as superior [to planning] not only because it is the most efficient method known, but
even more because it is the only method by which our activities can be adjusted to each without
coercive or arbitrary intervention by authority.179 Neoliberals had consistently argued that markets
were a better coordination mechanism and delivered a higher standard of living than central
planning. It was, however, a contention based on a misrepresentation of the neoclassical economic
theory on how markets and planning worked. By the early twentieth century, economists had
reached a consensus that capitalist and socialist economies each had to produce the largest value of
goods and services at the lowest resource cost to be considered efficient. They drew a distinction
between the aims of a socialist society (for example, greater equality) and the means of achieving
these ends (through planning or through a market system).180 Vilfredo Pareto (18481923) and his
friend Enrico Barone (18591924) set out to prove that either system could in principle satisfy this
test of efficiency.181 They thus hoped to demonstrate to those sympathetic to socialist aims that they
did not have to introduce central planning to reach their objectives and it would be preferable to
retain a competitive market economy.
Barone published a mathematical model in 1908 that could theoretically produce exactly the right
quantities and values of goods and services to satisfy consumer demand, regardless of whether it
was organized as a competitive market or a centrally planned system.182 The model was derived
from the work of Lon Walras (18341910), one of the founders of neoclassical economics, and is
known as a general equilibrium model. A competitive market economy can be shown to balance
demand and supply in line with consumers preferences and means. When such a theoretical market
closed, and all goods on offer had been sold, Pareto had proved, all economic agents would be

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either better off for having completed their transactions and no-one would be worse off. In his
paper, Barone demonstrated that a planned system could meet this same test. But it required
socialists to accept the existence of wages, savings, banking and interest earned on loan capital;
institutional arrangements that many socialists hoped to do away with after the revolution. Socialists
at that time associated the cyclical crises of capitalism with the existence of money and credit,
although the way these were linked was unclear until Keyness theories were formulated. Thus
socialists saw planning as a way to eliminate money, interest and profit from economic transactions
and avoid periodic crises and the chaos that market anarchy could inflict on working people. Pareto
and Barone argued that these aims were misguided. It is obvious how fantastic [socialist] doctrines
are which imagine that production in the collectivist rgime would be ordered in a manner
substantially different from that of anarchic production, Barone concluded.183 In order to provide
for investment to renew or supplement the means of production (capital goods), a planned economy
would have to pay a rate of interest on savings deposited at the state bank. Moreover, the
collectivist rgime would have to align the rate of interest with population growth as well as having
to cover amortization in order to provide sufficient products for the consumption of future
generations.184 Economists call this the social cost of capital, the social discount rate or the social
rate of time preference.
As a liberal Barone wanted to prove how muddled socialist ideas about the economy were in his day.
He also drew attention to army of officials whose services would be devoted not to production but
to the laborious and colossal centralization work of the Ministry of Production, as he and Pareto
called the state planning authority.185 Pareto ended his discussion of a socialist planned economy by
pointing out that the free market employed entrepreneurs who followed their own interests
automatically, whereas a socialist regime employed bureaucrats who followed the rules imposed by
the public authority.186 The supposed impracticality of organizing a centrally planned economy was
highlighted by many subsequent neoliberal economists. Hayek suggested that It was impossible for
central planners to have complete information on consumer preferences now and in the future and
thus to comprehend and decide upon what should be produced. Since much of dispersed knowledge is
tacit and not in the public domain, Hayek emphasized the role of price signals to convey information on
consumers preferences and to balance demand with supply (although in market economies many
prices are commercially sensitive and kept confidential). 187 The state planning authority needed to
know millions of technical coefficients and production cost data in order to construct the plan, which
was humanly impracticable and impossible.188 Barones model, like Walras model, assumed that
economic agents had complete information, for otherwise the model would fail to calculate the optimal
set of products needed to satisfy consumer demand. This unrealistic assumption was a necessary
feature of the model, which neoclassical economists did not try to hide. Walras contended that in
practice markets discovered the optimum set of products and prices through an iterative search
process, known as ttonnement, a French word describing a trial and error procedure of finding ones
way to the correct result. Economic actors only needed to know about their corner of the economy
because markets were linked by arbitrageurs and new entrants who would take advantage of price
differences and, in so doing, equalize prices across the economy in successive iterations until a general
equilibrium between supply and demand was achieved. This was not possible in a centrally planned
economy, neoliberals asserted.
In fact, as Oskar Lange (19041965) was to point out, a planned economy could also practice
ttonnement.189 The state planning authority would, in the process of drawing up a five-year plan,

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consult the ministries of mining, transport, energy, health and so on to discover their sector plans
and resource requirements. The ministries would in turn consult the enterprises and agencies under
their control to discover their capabilities and requirements. The enterprises and agencies would
consult their work collectives and undertake product and consumer research. In the USSR the
enterprises plan was signed off by the director, the chair of the trade union committee and the
secretary of the works communist party cell after a production conference involving all
employees.190 This form of planning was correctly called bureaucratic, but neoliberals misnamed it
central planning in order to avoid facing up to the fact that a planned system of production and
distribution could manage the challenge of the decentralized distribution of knowledge in society.
The formulation of the general plan was undertaken through aggregation, iteration and the
reconciliation of conflicting objectives; it was never conceived as a centrally planned plan, but a plan
of plans.191 Prices did not serve the same purpose in planned economies as they did in market
economies (and were set according to formulae), but, as Lange explained, they could be varied in
accordance with volume signals: a surplus or shortage of products would indicate that supply and
demand were out of balance and either prices could be altered or production expanded or
contracted. Furthermore, the planning system included a parallel consultation process through
which local and regional councils and the national parliament could make an input into the general
plan and the formulation of its goals and targets. The state planning authority would through
successive variants of the draft plan produce a consistent version, which would then be endorsed by
the democratically elected bodies. The socialist countries were centrally managed economies, not
centrally planned.192
The general plan was never intended to schedule every rail wagon load up to five years ahead, as
Albert Veinshtein (18921970) observed.193 Criticism of central planning based on the proposition
that everything should be planned to its minutest detail in advance was not just misplaced but
mischievous. The Soviet State Planning Commission had a staff of less than three thousand but 12
million people were engaged in managing the planning process. Much of the planning took place at
enterprises and they could make alterations even after the general plan had been approved.194 The
plan was a living document. Nevertheless, by the 1960s many socialist economists, such as Ota ik
(19192004), Mario Nuti, Alec Nove (19151994), and Wodzimierz Brus (19212007), had
concluded that the socialist countries should reform by adopting the market system at the
microeconomic level to coordinate production and consumption by enterprises and households
and planning at the macroeconomic level (the latter was a missing feature in the Soviet planning
system).195 These arguments in favour of more markets set the tone for the neoliberal assault on the
socialist countries.196
Twentieth century socialists had promoted the idea of a general plan to guide societys development
precisely to surpass the market in producing enough goods and services that were so desperately
needed by working people. They had no intention of establishing the planning system simply to
mimic the results of the market system. What Pareto and Barone had shown theoretically, using
some elegant mathematics, was that a planned economy could be one where consumers and
workers were free to choose what to buy and what job to take. They showed that a planned
economy needed banks and a social rate of return on capital, not to mention money. Anarchists and
utopians had envisioned a socialist society without money and claimed that the rate of interest was
just another name for profit. Radical critics of the USSRs planning system alleged it was state
capitalism.197 Actually, it reflected the design neoclassical economists had constructed and was used

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to deliver real existing socialism, with retail markets, prices, cash, and funds set aside for
investment. The neoclassical theory of planning (and its accompanying critique) promulgated by
Pareto and Barone filtered through to the revolutionary leadership in Russia by way of the writings
of Karl Ballod (18641931) and Otto Neurath (18821945). The leader of the Russian Revolution,
Vladimir Lenin (18701924) called Ballods book The Future State (1919) the only serious work on
economic planning and Nikolai Bukharin (18881938) was familiar with Neuraths From War
Economy to Socialism in Kind (1919) and had studied economics in Vienna.198 Neurath had been
Commissar for the Socialization of Production in the short-lived Bavarian Soviet Republic.199 When
Lenins old friend Gleb Krzhizhanovsky (18721959) was appointed the first head of the State
Planning Committee (GosPlan) of the USSR in 1921 he set about implementing a planning system
that accepted the role of banking, investment funds, money, and retail markets, much to
disappointment of some in the leadership, like Evgeny Preobrazhensky (18861937).200
Krzhizhanovsky continued to hold his position as head of GosPlan under Stalin, and led the
preparation of the USSRs first Five-year Plan. There were many problems in managing the planning
system, to be sure, and these will be examined in Chapter 7, but the claims advanced by the
neoliberals that planning was inherently inefficient and generated worse outcomes than competitive
markets could not be sustained according to economic science, or in the practical implementation.

The market is undoubtedly a powerful means of coordinating buyers and sellers. In 200708 half of
humanity made a collective but spontaneous decision that the Apple iPhone was the best available
portable cell phone, astronauts included.201 Apples competitors agreed and soon produced similar
devices, some successfully like Samsung Galaxy and others less so, notably Nokia and Research In
Motion, the maker of the hitherto popular BlackBerry. Steve Jobs (19552011) and his team at Apple
had put in enormous amounts of technical development, consumer research and product testing in
developing the iPhone before bringing it to market. Apple had collected knowledge on consumer
preferences as part of its product development process. The design and planning undertaken by
Apple confirmed the insights of Nobel prize-winning economist Oliver Williamson that enterprises do
not rely only on price signals from the market. According to Williamson, there are three forms of
economic coordination: market coordination, hierarchal command and control, or some hybrid of
the two. In a market, a producer buys in goods and services from other producers and pursues a
procurement strategy of externalization a buy strategy. In a hierarchy, the producer hires
employees to directly produce the goods and services necessary for production that is, adopts a
strategy of internalization a make strategy. The hybrid form combines features from the two
strategies of buying and making through the formation of joint ventures, strategic alliances,
temporary secondment of staff, leasing and sub-contracting. A hybrid form is necessary in situations
where the parties are mutually dependent and must form a longer-term relationship since, if
unexpected difficulties arise, the costs of walking away from the contract are high (in terms of
reputational damage, for instance). The character of the relationships involved differ: in the market
form, relationships are more fluid, in the hybrid they are more stable, and in the hierarchal they are
firm.202 In developing the iPhone, Apple collaborated with Cingular Wireless, later part of AT&T,
under a profit-sharing agreement; but it undertook much of the design, engineering and
development in-house. To be sure, capitalism is principally a market system but it also relies upon a
wider set of institutions, including planning.

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Furthermore, Williamson contended, the arguments put forward by neoclassical economists on the
impossibility of a planned economy and on the importance of price signals were misguided.203 He
agreed with Oskar Lange that the bureaucratization of economic life in a planned economy was
the principal problem as it could contribute to the wasteful use of resources.204 Economists had
neglected the waste of resources occasioned by the poor organization of tasks, lack of delegated
authority in decision-making, perverse incentives and uncooperative relationships. If economic
organization is formidably complex, which it is, and if economic agents are subject to very real
cognitive limits, which they are, then failures of alignment [in transactions] will occur routinely.
Excesses of waste, bureaucracy, slack and the like are mainly explained by failures of alignment.205
Complexity varies according to the number of interconnections between the activities necessary to
deliver an organizations goals. Activities involve economic agents who enter into transactions
expecting a payoff of some sort, but because the knowledge they have is limited or uncertain, the
deals they make could well not turn out as expected. There must be transparency (and a recognition
that, say, more information is needed) if the expectations between the parties to transactions are to
be aligned. Misalignment can mean that plans are not fulfilled as planned. These risks were much
larger in a market economy, but, on the other hand, the mistakes showed up quicker and economic
agents either adapted their strategies or went out of business. In a bureaucratic organizational
structure there was greater trust between economic actors but there was a tendency to carry on
repeating the same activities because they appeared to have worked in the past instead of adapting
to change. Markets, Williamson thought, excelled, comparatively speaking, at autonomous
adaptation when price signals were sufficient but hierarchies excelled at cooperative adaptations
when coordinated responses are required.206 In advocating the abandonment of planning and the
reliance on markets and price signals, neoliberals had propounded a misleading interpretation of the
economic analysis on the merits and demerits of markets versus planning.

The damage arising from as a result of the neoliberal strategy for transition was magnified by their
failure to appreciate the deep structural differences between the capitalist and socialist systems. For
example, small and medium-sized towns organized around a few dominant industries were a feature
of Central and Eastern European scene in the socialist epoch. They were the base for wider
development, and stimulated demand for locally produced foodstuffs and building materials from
the surrounding countryside. However, their raison dtre remained one or two dominating
production enterprises, which organised many social and cultural activities as well as providing the
bulk of employment. Such enterprises, often mines and associated processing plants, were known as
town-forming enterprises.

The transition to an open market economy was accompanied by industrial restructuring that
affected all industries and agriculture. In the USSR the coal industry was among the so-called key
sectors, and the expansion of coal production was one of the governments priorities. Coal was
referred to as the bread of industry. Formerly, in making decisions on coal industry development,
the key criterion was output growth, while efficiency was a less important issue. The energy crisis of
the 1970s, the rising oil prices, and the inflow of petrodollars made it possible, for a certain period,
to subsidize the coal industry. As a result the USSR as a whole and Russia in particular continued, up
to the late 1980s, an extensive build up in coal production, making little attempt at shifting
extraction to more promising coal fields in Eastern Siberia, which in any case were the furthest away

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from the centres of industry. The number of miners was not reduced but rather increased, thus
keeping productivity low during the 1980s. The situation in the USSR, in this respect, was markedly
different from that in the mature market economies, both in the countries curtailing coal production
and in those increasing it.207

The start of the transition process brought about a lowering of demand for coal as industries
collapsed. But rising mining costs led to an ever-greater dependence on government subsidies. By
early 1993, subsidies accounted for 70 percent of the sectors budget. Restructuring began with the
establishment in 1992 of RosUgol, a state-owned enterprise that took over many of the
responsibilities of the Coal Ministry. The government sought a sector adjustment loan from the
World Bank to help it restructure the coal mining industry in 1994. A second loan was negotiated in
1997 to pay overdue wages and to cover the cost of writing-off mine debts so as to ready the
industry for privatization. During 1993, 36 of the less profitable mines (out of 232 operating mines)
were shut down. Cuts in the size of the workforce meant that from 1994 onwards there was a slow
upward trend in productivity. Average government subsidies also fell from 7080 kopecks per rouble
worth of saleable product in 19931994 to 31 kopecks in 1995.208

Altogether 94 deep mines were closed by early 1998 along with one open-pit mine. Under its loan
conditions with the World Bank, the government promised to close another 86 mines by the end of
1998 and by 2006 only 97 deep mines remained in operation. Employment in coal mining dropped
from 841,000 in 1993 to 380,000 in 1998. Around 70 percent of the mines closing under agreement
with the World Bank were town-forming enterprises.209 There were 45 coal mining towns in the
Russian Federation where 40 percent or more of the employees employed in industry were involved
in coal mining.210

Redundancy meant that miners received their wage arrears and a termination benefit, providing the
equivalent to around a years earnings as a lump sum to each worker.211 In 1998, the number of
redundant workers in mining towns was six to twelve times that of newly created jobs. At 12 percent
the unemployment rate in mining towns in 1998, computed according to International Labour
Organization (ILO) guidelines, was one and a half to two times that of the regional and Russia-wide
levels. These rates of unemployment were much higher than the rate of those registered with the
employment service, partly because unemployment benefits were very low and not paid on time, so
job seekers saw no point in registering. More than 26 percent of discharged mine workers from the
towns and settlements in five coal mining regions surveyed by the World Bank wanted to relocate to
the large cities in their region but could not do so due to the lack of housing or the cost.212 In the
Kuzbass, Western Siberia, and Vorkuta, in the Arctic Pechora basin, nearly half of miners laid-off in
1998 had found jobs by the time of the survey (January 1999), and just a quarter of them were still
searching for jobs. In other regions, the Donbass, the Moscow basin, Chelyabinsk and Perm in the
Urals, and Primorye, in the Far East, the situation was worse: only 20 to 30 percent of laid-off miners
managed to find jobs, while 40 to 60 percent of them were unemployed and still looking for work.213

According to survey data, some 54 percent of Russias urban residents could be classified as poor in
1999, as their incomes were below their own perception of a minimum necessary income. The
proportion was higher (at 64 percent) in the surveyed coal mining regions. Average household
income per household member was 529 roubles a month in the mining basins but respondents
claimed on average that 2,240 roubles per adult were necessary to meet living costs. Cultivating a

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household plot could boost incomes by a third or more but home produce and occasional work in
the informal sphere of the economy did not alter the gulf between a minimum necessary standard of
living and peoples actual circumstances.214 The rates of poverty in Russia revealed by these surveys,
funded by the World Bank, were far in excess of the situation prevailing before the transition. In
1975, an allowance for children was introduced in the USSR to help poorer families, whose income
per person was less than 50 roubles a month. This was raised to 75 roubles in 1985. At that time
(1985), 16.3 percent of employees families lived below this threshold and 27.6 percent of collective
farmers families. The low-income threshold was determined according to a consumption basket
based on prices charged by state shops and was in effect equivalent to half the average income. In
other words, a relative approach to poverty was taken to determine social allowances in the USSR. If
this definition of low-income had been maintained, around 60 percent of people in the Russian
Federation would have been considered as deprived (or under-provisioned) in 1999 according to
poverty expert Anthony Shorrocks.215 The main culprit for the increasing incidence of poverty, apart
from the general fall in GDP and employment, was the huge rise in the cost of living brought about
when prices were liberalized.

The change of ownership of the social facilities in towns and settlements, located near coal mines
and opencast sites was carried out quickly and on a massive scale. In 1993, some 15 percent of all
subsidies were expended on social facilities. The coal mining enterprises divested approximately 80
percent of their social assets during the latter part of 1995 and 1996 to the municipal authorities. A
high share of non-municipal housing was provided by the town-forming enterprises. While in Russian
cities this averaged around 60 percent of the nominal urban housing stock, in the majority of mining
towns, such as in the Kuzbass, it averaged at 80 percent. The coal mining estate housed two million
people in 1993, a size only rivalled by the military. Between 1993 and 1996 coal mining enterprises
divested 80 out of 413 dormitories, 535 out of 807 childcare institutions, 217 of 307 social clubs, 12
out of 134 sanatoria and recuperation centres (profilactoria), and 105 of 481 recreation centres,
sports facilities and childrens summer camps. Housing (including dilapidated housing subject to
demolition), central heating pipelines and boiler houses were also transferred. In some cases the
municipalities were able to absorb these facilities but in others they lacked the resources to pay the
staffs salaries and maintain the physical condition of the properties.216 Where mines closed, the
district heating schemes for the associated settlements also shut-down; this, in turn, required the
municipality to fund extensions from its own network or to replace the boilers. The EU TACIS
program sought to address some of these problems through its Municipal Economic Reform
Initiative (MERIT) in 1999, but as with all its TACIS projects, the EU only funded consultancy and
research and there were no capital grants to permit the local partners to invest. Nor was there any
linkage between the TACIS program and the financing provided to municipalities and enterprises by
the EBRD. The World Banks sector adjustment loans to the coal industry were aimed at the mining
enterprises but not at the coalfield communities.

Not surprisingly these conditions generated protests by the mining trade unions and their families.
The Rail Wars of spring/summer 1998, when miners and their supporters blockaded railways and
highways, were an indication of the level of social tension in the country as a whole and mining
regions in particular. Although it was clear that the failure to pay salaries on time was at the heart of
the protests, and negotiations leading to a return to work involved payment of back wages or other
substitutes by the government, the events of 1998 followed a decade and a half of intermittent
protests by Russian miners. Surveys carried out in 1999 indicated that more than half of respondents

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from coal mining regions said that in the previous year their town or settlement was a site of protest
demonstrations, meetings or strikes, accompanied by other forms of protest such as picketing 33
percent; railway or motor road blockades 31 percent; hunger strikes 26 percent; refusal to leave
mines 21 percent; occupation of mine administrative buildings 0.9 percent; and other protest
actions such as gatherings in the towns main square in front of the municipal headquarters
(formerly that of the communist party). Interviews with focus groups revealed that some favoured
more radical action, similar to that undertaken by the Romanian miners from the Jiu Valley, who
commandeered trains to descend upon Bucharest in 1991 to overturn the government.217

The transition to an open market economy in former Soviet Central Asia was especially hard. The
shock which the Kazakhstan economy endured massively affected production, employment and
prices, but also reduced the provision of public services and left half the population on the breadline.
From 1990, the linkages between the economies of the socialist commonwealth were disrupted, the
transfers from the USSR state budget (amounting to over nine percent of Kazakhstans GDP by the
late 1980s), and the liberalization of prices and of foreign trade contributed to hyperinflation and to
a very large fall in national output. In November 1993, Kazakhstan introduced its own currency, the
tenge. Between 1991 and the end of 1995, national output (GDP measured at constant prices) fell by
38.6 percent, while consumer prices rose 947 times. Over the same period wages went up 517
times, a cut in living standards of more than half. According to UN Development Program (UNDP)
calculations, national income per inhabitant fell from $5,442 in 1990 to $2,757 in 1995, a fall of 49.3
percent (expressed in terms of purchasing power parity). Employment fell from 7.29 million people
in 1990 to 4.68 million in 1996, of whom probably up to half a million left the country altogether. In
an attempt to control inflation, the monetary authorities in Moscow and Almaty restricted the
supply of money. Between 1991 and end 1993, broad money grew 57.1 times in Kazakhstan, while
the period 1994 to the first quarter of 1996 saw an increase of 18.7 times.218 By keeping the increase
in the money supply below the rate of price inflation, the authorities reduced liquidity. The lack of
money encouraged the growth of exchange through barter and the late payment of invoices, wages
and pensions. Although the rate of inflation slowed and the exchange rate of the tenge became
more stable in the second half of the 1990s, savers preferred to hold dollars, or other foreign
currencies, in order to preserve the value of their money holdings.

On World Bank calculations, the national income per inhabitant of the USA was $25,860 in 1994,
while that of Kazakhstan was $2,830.219 Recalling that the UNDP estimated national income per
inhabitant in Kazakhstan was $5,442 in 1990, it may be noted that average incomes were between
five and nine times lower than in the USA. Yet prices were only three times lower in Kazakhstan, a
ratio that could not be explained by differences in productivity. A more likely explanation was that
internal prices rose towards the level of international prices due to high consumption of imported
consumer goods and oligopolistic pricing policies by sellers.

There was an extensive shadow economy in Kazakhstan. Large numbers of people operated within
the informal sphere, as traders or service providers. About 23 percent of economically active people
were estimated to be making a living in the informal sphere, that is, 1.5 million people out of an
economically active population of 6.6 million in 1995.220 This mutual economy involved families,
other affiliative networks and enterprises in the exchange of services and goods; for example,

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enterprises supplied goods to their employees in place of wages. In addition there was considerable
evasion of taxes and a relatively unregulated labour market.

There was no nationally accepted definition of poverty in Kazakhstan in the 1990s. The State
Statistical Committee estimated according to survey data that in August 1995 over 22 percent of the
population had an income of below 1,280 tenge a month. According to the Ministry of Labour, the
minimum basket of goods necessary to support a person cost 2,338 tenge in December 1995.221
Thus, 64 percent of the population lived below the subsistence line, including 84 percent of the rural
population and 44 percent of the urban population. These levels of absolute poverty were unknown
before the transformation process began, although, of course, inequality and relative poverty
existed during the socialist period. According to Soviet data, 40 percent of the population in the
USSR had an income below half of the average wage of 240 roubles a month in 1989 and about 14
percent had an income below 30 percent of the average.222 Absolute poverty is the lack of the basic
requirements to sustain physical life. Relative poverty is the lack of material and cultural resources
to permit participation in society, relative to social norms, such as a poverty line set at half of
average household income for a single person household, as is used in the European Union anti-
poverty program. Under this definition, on average, 14.7 percent of individuals in the European
Community lived in relative poverty in 1985.223

According to a TACIS-sponsored survey in Aktyubinsk province, carried out by the Territorial

Statistical Service, covering 750 citizens living in both urban and rural areas in June 1996, 53.6
percent stated that their income did not allow them to eat adequately. The average wage in 1995
was 5,045 tenge for the country as a whole and 5,847 tenge in Aktyubinsk, an industrial region in the
west of Kazakhstan, close to Russia. However, the average income in Aktyubinsk was only 1,672
tenge because wages were not paid in practice and many were out of work and not receiving a
wage. According to the survey, 83 percent of respondents had an income of 4,000 tenge or less a
month, that is about two thirds of the average wage in mid-1996. It was clear that half the
population of Aktyubinsk province lived in poverty, whether this was defined in absolute or relative

Unemployment in Kazakhstan grew massively, but measuring problems obscured the true level for a
number of years. On official figures, the number of people seeking work who were registered with
the employment offices rose from 0.5 percent at the start of 1993 to 1.8 percent at the end of 1995.
Adding in those employees who were on short time working or on compulsory leave from their
enterprises due to lack of orders, so-called suppressed or hidden unemployment, increased the
rate to 2.1 percent and 11.5 percent respectively. However, a survey using the ILO definition (which
was stricter on the size of suppressed unemployment) pointed to a figure of about six percent in
mid-1995. According to the TACIS survey in Aktyubinsk the level of unemployment was 11.8 percent
in June 1996, compared to the officially calculated rate of five percent.225

An ingenious explanation was put forward by the ILOs economist Guy Standing to explain the large
degree of suppressed unemployment, whereby enterprises avoided mass lay-offs as output fell by
revising wages downwards and by cutting the number of working days, or by putting employees on
enforced unpaid administrative leave. By mid-1994, suppressed unemployment affected 35 percent
of the total workforce in Russia according to ILO surveys of enterprises. Low levels of registered
unemployment could in part be explained by the reluctance of enterprises to dismiss surplus

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workers and to instead adopt wage cuts or work-sharing arrangements. Standing proposed that
workers were unable to enforce employment contracts in court, thus permitting managers to
respond to lower sales and interruptions in supplies by cutting back on salary payments rather than
releasing surplus workers onto the labour market. Such low levels of registered job-seekers
encouraged neoliberal reformers to continue with economic shock therapy, Standing alleged, and
to assume that labour markets were successfully reallocating employment between uneconomic
industries and the emerging private sector. In fact labour exchanges were not effectively transferring
redundant workers to new jobs.226

The Soviet system had created social enterprises, Standing claimed, where workers received
relatively low wages in return for low levels of effort and extensive social benefits, such as subsidized
food, housing and pre-school child care. Managers were employment maximizers since a large
workforce enhanced their status. Many posts were in practice left unfilled; dead souls according to
Standing (echoing the title of a famous nineteenth century Russian satire by Gogol). Managers
continued to preserve employment in loss-making activities during the transition and persisted in
holding onto paternalistic functions, such as the provision of housing and kindergartens.227

It was, of course, true that the Soviet social policy allocated social benefits through enterprises,
which organised social funds for this purpose from their retained surpluses (profits). This was an
important component of the workers social wage, along with the state health service. Larger
enterprises were able to provide goods for sale at preferential prices, housing, leisure and
recreational facilities, clinics and child care for the pre-school age children of employees.228 Local
authorities provided social services to those who were not employed, including mothers staying at
home to look after their children, pensioners and the self-employed craft workers. In the socialist
period, social sphere assets were often better financed by enterprises than those operated by local
authorities. But the economic problems of enterprises once the transition had started forced most
companies to cut back on their expenditures, although many still tried to maintain them in order to
provide a minimum level of social protection. Kindergartens were badly affected. In Aktyubinsk, the
proportion of pre-school age children in kindergartens fell from 53 percent in 1990 to 23 percent in

The World Bank supported the divestiture by enterprises of social facilities since these could be a
constraint on privatization. It also believed that the country needed to rationalize social services in
the depressed economic circumstances that the country now found itself in and to target its limited
resources on those groups who were most in need, rather than seek to maintain a universal service
for all employees (and sometimes for non-employees as well).230 Under a memorandum of
understanding between the World Bank and the Government of Kazakhstan, linked to a structural
adjustment loan agreement of 1995, the government recognized that without a viable social safety
net for people living below the poverty line and a strategy to ensure the delivery of primary services,
the entire economic reform program would be threatened. It therefore agreed to maintain essential
social services through public provision and introduce the principle of cost recovery for their
operation, without denying access to services by the poor. Given the fact that nearly two-thirds of
the population lived below the subsistence level, this strategy was patently unrealistic.

Those familiar with western accounting practice tended to assume that social or in-kind benefits to
employees represents a cost to the enterprise. Under Soviet accounting practice, however, the social

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fund (or consumption fund) was made up of retained earnings. Therefore, divestiture of social
facilities did not improve the efficiency of the enterprise, since enterprises costs remain unchanged.
The only efficiency gain was the marginal one that enterprise management was free to focus on
running the business and no longer had to deal with social sphere problems. Where the World Bank
was correct, of course, was that these social costs came at the expense of potential dividend
payments to any future private owners of the enterprise.

A TACIS survey of enterprises in Aktyubinsk province showed that 57 percent of enterprises had
social assets in June 1996, down from 64 percent four years earlier. Outside of Aktyubinsk city, the
proportion was 80 percent. Enterprises with social assets tended to have kindergartens or day care
nurseries, housing, shops selling goods at preferential prices, clinics and palaces of culture. A
minority (under 20 percent) had sports facilities or rest and recreational homes. Half of the
responding enterprises provided free food to certain segments of the local population. For more
than 40 percent of enterprises, the social sphere accounted for less than five percent of total
expenditure; while 36 percent of enterprises spent over ten percent. Most enterprises felt a moral
obligation to provide social services and more than half aimed to increase their activity in the social
sphere in the next three years. Only one quarter of enterprises intended to sell or divest their social
assets to the local authorities, which lacked the resources to operate them. The social assets of
enterprises were nonetheless transferred to the local authorities under a government decree issued
in February 1995.231 The demands that enterprises be privatized had a direct social impact on all
communities, through the loss of public services.

Standing did not choose to explain whether the reluctance of managers of state-owned and
cooperative enterprises to shed social facilities and to hold onto workers (but not to pay them)
rather than making them redundant was due to habit, a social conscience or a misguided attempt to
sabotage the transition to an open market economy. More likely, since, at the time of the industrial
meltdown, 74 percent of workers were trade union members, the choices made at enterprises
across the former Soviet Union were the result of compromise.232 Internal decision-making at
enterprises tended to be consensual according to the authors observations, at least until the new
owners were in place after privatization. Workers expected to be paid when work was undertaken;
they did not expect to be paid for sitting at home and there was plenty to do on the vegetable patch
or to fix a broken-down vehicle in any case; nor did they pay their rent or energy bills to their
employer or the local authority if their wages were in arrears. A society without enough cash does
not stop economic activity, especially if reciprocity is possible in socially cohesive communities.

The transition hit the countryside as much as the industrial regions and small and medium-sized
towns. Much of the land in Southern Russia and Ukraine is very fertile, with extensive chernozerm
(black earth) soils enjoying over 160 frost-free days a year. Ukraine was an exporter of grains,
sunflower and rapeseed oils, sugar beet, flax, vegetables, fruit, meat and dairy products. This asset,
the land, was and remains a key factor for economic growth and the foundation for living standards
in the countryside. Whether that natural potential and, more especially, the human resources found
among rural dwellers could be translated into expanded and viable business opportunities in a
market economy depended upon providing practical solutions to a complex of inter-related

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Transformation to a market economy was particularly painful for the rural economy for a number of
reasons. Agricultural prices had fallen once products were exposed to international competition. The
terms of trade for the rural economy had deteriorated due to the increase in fuel prices compared to
agricultural products.233 Demonetization increased transaction costs, as barter trade forced
producers to sell at a discount and impeded the provision of agricultural credit, mortgages for real
estate and insurance. In 1999, 40 percent of all payments for grain received by Russian agricultural
enterprises were barter through offsetting transactions.234 The internal market within the former
Soviet Union had become fragmented, as regional protectionism blocked trade in staples, such as
grain, to ensure self-sufficiency in food supplies. Bottlenecks in agro-processing kept farm gate
prices low while inefficiencies, barriers to market entry, and collusive intermediation in processing,
wholesaling and distribution forced up consumer prices to such an extent that the price
differences made it worthwhile for urban residents to undertake micro-horticulture on a mass scale
on their personal plots to feed themselves. If wages went unpaid, gardening became a necessity.

Despite the potential, agriculture stagnated, with, in general, declining output. In Russia, between
1990 and 2000, agricultures share of GDP more than halved to just 7.1 percent from 16.6 percent.
Although the situation stabilized in the second half of the 1990s, there was no recovery. On the
other hand, agriculture employed 13 percent of the national workforce at both the start and the end
of the decade.235 Agricultural output fell by 30 percent over the decade 1991 to 2001. Meat
production collapsed by four-fifths and dairy products by two-thirds. Vegetable production held up
as people turned to growing their own. Livestock herd sizes fell by up to 50 percent.236 Drought
reduced yields and water management inefficiencies and the lack of public or private funds to
address water shortages compounded the problem. Past overuse of irrigation had leached some
soils, particularly in the dry steppe, and the most badly affected of these ploughed lands needed to
be set aside to permit crop rotation or to be returned to their natural state. Long-term programs to
reverse the environmental degradation of the Eurasian steppe and return parts to pasture or natural
grassland and woodland were necessary but this had to take account of the livelihood needs of the
people who lived in the region.

A comprehensive diagnosis carried out in 1996 by the EU TACIS program in Ukraine noted that yields
from land were several times lower than in the EU. For example, in Ukraine, a hectare yielded 2.5
tonnes of wheat on average, compared to 6 tonnes in the EU; sugar beet yields in Ukraine were
under 3t/ha, while the EU average was 9t/ha. Potato yields were also lower. A Ukrainian cow
produced two thousand litres of milk on average, compared to over five thousand litres a year in the
EU. The number of cattle per hectare was higher than in the EU on the other hand. The TACIS
agricultural strategy aimed to improve animal feed production (through the development of protein
rich oil crops), finesse crop-rotation and stocking rates (livestock to land ratios), to introduce
technologies to preserve cereals and reduce waste during storage, distribution and processing and
to upgrade breeding techniques and to introduce alternative plant varieties.237

The majority of rural people in Ukraine possessed only very small kitchen gardens, which were
operated essentially for household consumption and exchange within affiliative networks. A private
plot holder normally owned between 0.2 and 3 hectares, two to three cows and as many pigs. Very
few private plot holders owned more than one hectare and the average holding was around 0.6 ha.
A small minority, about three to five percent of the rural population, were commercially oriented
private farmers. Typically these farmed at least 50 ha and many owned well over 500 ha. The typical

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size of a former collective farm was about 2,000 ha. In Luhansk, TACIS experts noted that private
farms owned on average 36.8 ha of agricultural land, compared to the Ukrainian average of 21 ha.
This was higher than the EU average of 13.3 ha, but French and British farms were larger at 28.2 ha
and 67.9 ha respectively.

Soviet collective farms (kolkhoz) were formed during the 1930s. The collectives were set delivery
quotas at prices established under the general plan. Peasants incomes were paid at the end of the
year, after deductions to pay for social security, taxes and the costs of the equipment they used
(tractors, combine harvesters and the like). They worked a minimum workdays (trudoden) a year,
calculated according to the complexity of the task. They also farmed private plots and received a
small pension in old age. State farms (sovkhoz) were operated by employees who were paid a salary.
In 1937 the average farm collective comprised 76 households. This increased to 484 households
working 6,400 ha in the 1980s.

Between 1991 and 1993, decrees were issued to reorganise Russian collective farms and permit
individuals to withdraw from the collective and set up a peasant farm of their own. Members of the
collective were allotted a certain proportion of the land and the farms assets. In 1993, helped by the
International Finance Corporation and the UK Know How Fund, a pilot scheme in Nizhny Novgorod
province supported the break-up of five large farms. These were turned into 20 collective
enterprises, 17 family farms and six individual businesses. At the time Nizhny Novgorod was the
most prominent region pioneering privatization under its liberal governor Boris Nemtsov (1959-
2015). Nemtsov went on to gain national prominence but was assassinated in Moscow in 2015.

With the elimination of the Soviet state monopoly on land, Russian farming divided into three
sectors: large agricultural enterprises, private farmers and household plots. Although the agricultural
enterprises dominated the production of the major arable crops, especially grain, 54 percent of
gross agricultural output (GAO) in 2000 came from the household plots, which used just six percent
of the agricultural land. Individual farms produced three percent of GAO on seven percent of
farmland and the agricultural enterprises produced 43 percent on 82 percent of the land.238 In other
words, state and collective farms were more productive than the newly established private farms,
while household plots were by far the most productive.

The fact that only a minority of collective farms had chosen to convert into private, individual farms
and that the majority of the population cultivated household plots intensively indicated that the
free-market model did not convince many in rural Russia and Ukraine. Moreover, the benefits of
breaking up the collective farms and redistributing the land to individuals were not clear-cut in many
Central and Eastern European countries. There was evidence from some transition economies that
market liberalization and individual land holding did lead to improvements in agricultural
productivity but the social costs were nonetheless considerable.239 The free-market model was only
one destination for the countryside. This model was that of large, purely commercial farms selling
into national and international markets. These could found in the arable sector of the USA, Canada,
Australia and the UK and in Latin America. Some Russian and Ukrainian farms moved in this
direction. But it offered nothing for the household plot users and the majority of the rural
population and provided no answer to the questions of social infrastructure, social services and
social security. An alternative was a model in which rural life remained characterized by strong

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bonds of social solidarity, albeit within the framework of a market economy: a European model in
which cooperation and the farmers unions were central to village life and to the rural economy.
It was however a destination that depended upon state subsidies and agricultural policies to protect
incomes from being driven too low. This would not have been a painless option by any means. It
would have still required a vigorous structural transformation of the countryside. Ironically, the EU
provided little support to the transition economies to develop such a model outside of those
countries that joined the European Union, and preferred to leave the countryside to cope as best it
could in the newly deregulated market economy.

The evidence cited in these last two chapters belies the widely-held view that neoliberal therapy was
painful but necessary. Structural adjustment in developing countries, liberalization and industrial
restructuring in the mature market economies, and the transition to open markets in the formerly
socialist countries reduced economic growth rather than revitalized it; and it cut the living standards
of working people, instead of creating better jobs for them. In their various reflections on the
disaster, neoliberals found the culprit to be the victims, and not their own misplaced designs or the
instability of capitalism.

Historians often seek an explanation of events in terms the actors intentions: if they anticipated
events to unfold as they did as a result of their actions, it can be claimed that the actors were
conspiring to manipulate the situation to their advantage; on the other hand, the actors may have
misjudged the situation and the outcome of their decisions was not what they expected in which
case, mismanagement occurred. In reality both explanations may be valid history, as can be seen to
have taken place in this instance. The neoliberals conspired to wreck the socialist economies but
they failed to anticipate just how much damage they would inflict.

The European Commissions 1990 study of the USSR indicated that the first priority of any reform
program should be to stabilize the economy, i.e. to mop up the excess demand that has developed
in recent years (reflected in shortages and queues and in the monetary overhang) in order to avert
the danger of hyperinflation. In principle, excess demand can be eliminated either by increasing
imports or by reducing demand.240 In practice both methods were used. Ultimately the study
continued, the confiscation of excess liquidity through an upward price adjustment is unavoidable.
The resulting erosion of wealth [that is, of household savings] would achieve the needed reduction
in excess demand, but at a risk of giving rise to a lasting inflationary spiral.241 Thus, the neoliberals
planned a confiscation of peoples savings by means of inflation. But, they claimed, the confiscation
of unwanted savings would not necessarily reduce the aggregate welfare of the population, and
could even improve it, in so far as it would reduce or eliminate shortages without reducing the
supply of goods and services for consumption. [ Based on] back-of-an-envelope calculations []
the rise in prices could be kept to 40 percent [ although it must be recognized that] even a modest
increase in food prices would push large numbers of people below the poverty line.242 So, the
Commission accepted that liberal therapy through inflation carried risks of increasing poverty the
manipulation of events but it erred in imagining that inflation could be contained a
misjudgement. In fact, inflation was 4,645 percent, not 40 percent. They even assumed that savings
were unwanted assets and if people were forced to use their savings to buy foreign imports their
welfare would be higher than being forced to queue for scarce domestically-produced goods. For

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neoliberals, an unbalanced market economy had to be better than a poorly functioning form of

The study highlighted a trade-off. If privatization and fiscal consolidation are carried out at an early
stage, as the G-7 later insisted, a jump in the price level is unavoidable, and indeed necessary to
restore an approximate macroeconomic balance [ and] while the move towards the market can
ultimately be expected to bring about an improvement [in the welfare of the Soviet people through
an increase in supply], in the short run, no significant increase in the aggregate supply [that is, in
production] can be expected in response to reform. Rather, economic adjustment will be
protracted. Nevertheless, privatization has to proceed as fast as possible in order to avoid
stagnation as a result of bureaucratic resistance [] and [because] firms will neither engage in the
kind of restructuring or cost-cutting that is needed nor resist pressures from the employees to
increase wages [in line with inflation], but they will rather bargain for subsidies, with adverse
consequences for efficiency and for the [state] budget.243 Cuts in government expenditure were
also needed but, fortunately, nobody would be hurt since these cuts would affect investment
(presumed inefficient), defence, waste, and foreign aid.244 As has been made clear, working people
were indeed harmed as the transition unfolded. A critical mass of comprehensive reforms has to be
introduced at the outset to create the minimal conditions for development of market relations, the
study concluded.245 In other words, liberalization and economic reform had not gone far enough.

As can be seen from the European Commission study, the strategy for transition concocted by the
neoliberals included much wishful thinking. In particular they failed to appreciate the relevance of
the Soviet growth model. The strategy for transition assumed that privatization and the liberalization
of prices would guide self-interested, profit-maximizing enterprises into business lines that reflected
their countrys comparative advantage. Neoclassical economists expect countries with abundant
unskilled labour but scarce capital to have a comparative advantage in producing goods through
labour-intensive technologies, while countries with abundant capital and relatively scarce labour will
focus on capital-intensive industries.246 In fact, the Soviet growth model did not rely on the markets
for the factors of production but consciously created resources by means of state investment in the
means of production, research and development, and education and training. In consequence, when
the state stopped working, the economy began to grind to a halt. Neoliberals expected a short
transformational recession, in a phrase coined by Kornai, lasting between six to twelve months.247
The depression turned out to be deep and prolonged. The Soviet growth model meant that its
enterprises were not viable in an open competitive market even if they were well-managed and
efficient in their own setting, as economist Justin Lin has pointed out. Shock therapy on neoliberal
lines therefore resulted in large-scale bankruptcies and mass unemployment in Central and Eastern
Europe and Central Asia. A quite different approach was adopted in China with impressive results in
terms of industrial productivity and economic growth.248

The evidence from the transition economies indicated that notwithstanding the resourcefulness of
the people themselves, liberal therapy proved to be deeply damaging to the productive base and
social fabric and entailed widespread hardship. The strategy for transition reflected the many of the
deficiencies of stabilization and structural adjustment inflicted on developing countries. The World
Bank and the EBRD blamed working people for not taking advantage of new opportunities because
they had fallen back upon mutual aid in the informal sphere to cope with the withdrawal of
employment. To be sure, there was an inadequate policy environment and weak institutions that

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allowed vested interests to block reforms that would have liberalized markets further but this could
not explain the mismatch between neoliberal expectations and actual results. Since the economy did
not perform as they had predicted it should have, the neoliberals ought to have been ready to
dissolve the market system and find another to take its place, as Bertolt Brecht (18981956) might
have said.249 Instead they pressed for yet more reforms, for less government, and for even more
market. Nothing that happened in the 1980s and 1990s appeared to have dented the Washington

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Part II: Origins

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4 Washington Consensus
Neoliberalism took hold in the 1980s as an accommodation by conservatives and liberals to the
expansion of the welfare state, which they wished nonetheless to reform, and for the establishment
of a stable, multilateral rules-based world order (though its intellectual origin went back a further
three or so decades).250 Over the same period, some socialists abandoned the social democratic
model of state-owned enterprises and government spending as means of ensuring full employment
and social security and adopted a more pro-enterprise approach. Thus neoliberalism drew in
supporters from both the left and right of the political spectrum.

Neoliberalism is a political philosophy that accepts a limited role for the state consistent with
maximum freedom for the individual citizen. Classical liberals argued for the states night
watchman role: preserving the peace and the security of citizens and their property, enforcing
contracts and restricting intervention in economic and social matters to allow people to enjoy as
much liberty as possible. The central premise of liberalism affirms that civil society and the state
should respect the right to own and to dispose of property freely and any curtailment of that right
(in the public interest or otherwise) should not be undertaken without the consent of property
owners.251 However, and taking their cue from neoclassical economics, neoliberals contend that the
states role may be somewhat larger still as long as it seeks to remedy market failure.252
Intervention is justified if the market fails to operate efficiently. For example, where investors are
reluctant to fund long-term infrastructure projects or to retrain unemployed people, the state
should step in. Intervention is also justified to regulate markets to ensure that there is fair
competition; that prices are set in line with costs; and external social and environmental impacts are
taken into account in business decisions.

Key premise of socialism

The equivalent central premise of socialism was defined by Sidney Webb (18591947) when he
drafted Clause Four of the British Labour Partys constitution in 1917: workers should receive the full
fruits of their labour. This phrase had been in circulation since at least the 1830s, when the preacher
William Benbow (17871864) used it in a pamphlet. The Italian revolutionary Giuseppe Mazzini
(18091872) included the phrase in an article published in the Chartist newspaper The Northern Star
in 1846 and again in his book Doveri delluomo (On the Duties of Man) in 1860. President Andrew
Jackson (17671845) in writing to the US Senate in 1832, affirmed that every man is equally entitled
to protection by law; this included the farmers, mechanics and labourers, who should be
defended against the exclusive privileges of the rich and powerful, so that they might enjoy fully
the fruits of superior industry, economy and virtue (in other words, the returns from work well
done, good housekeeping and prudence). Thus liberals would be able to respect the right of workers
to the full fruits of their labour if they accepted that employers do not enjoy an absolute privilege to
the profits realized from the production undertaken by the employees they have hired. Nor are
socialists committed to belittling property rights as such. How these liberal and socialist precepts are
to be accomplished in practice remains, of course, a matter of debate among progressives.253

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Neoliberals need not be opponents of social programs. Two of the main architects of fiscal discipline
in the US under President Bill Clinton, Larry Summers and Robert Rubin, both former Treasury
Secretaries, had no problem in arguing for progressive taxation to fund public services and income
transfers between rich and poor:

The New Democrat gurus all favour a renewed focus on education to equip US workers to
compete in a globalized economy and a more extensive social safety net and universal
healthcare, both for ethical reasons and in order to make Americans less fearful of losing
their jobs. But what is striking is the extent to which they are willing to embrace the broader
notion that dealing with inequality will require a larger role for government.254

These positions reflected the approach taken by the Democratic Leadership Council, which was
founded in 1985 to promote market-friendly and non-bureaucratic political solutions within the US
Democratic Party.255 The term neoliberalism was put forward by Charles Peters, editor of the
Washington Monthly, a magazine sympathetic to the Democratic Party, to encompass ideas
developed since the mid-1970s that accepted elements of conservative critiques of the welfare
state. It purports to favour selective state intervention in the economy, mainly to assist
restructuring of production and to find forms of welfare provision which are neither excessively
bureaucratic nor conducive to welfare dependence, according to the Fontana Dictionary of Modern
Thought.256 Neoliberalism was a reaction against the more corporatist approaches of social
democracy towards government. While seeking to reduce the scope of the state it nonetheless
advocated state action in the direction of fostering greater economic reform and competitiveness
and in providing a stable and predictable environment in which the private sector might flourish
domestically and globally.257

Naomi Klein traced the intellectual origin of neoliberalism to Milton Friedman (19122006), doyen of
the Chicago school of economics and the godfather of Monetarist economics.258 She has pointed out
the connections between Friedmans advocacy of individual liberty with a generation of earlier
thinkers, including Luigi Einaudi (18741961), Walter Eucken (18911950), Frank Knight (1885
1972), Friedrich Hayek, Bertrand de Jouvenel (19031987), Ludwig von Mises (18811973), Karl
Popper (19021994), Wilhelm Rpke (18991966), and Louis Rougier (18891982), all members of
an anti-communist discussion circle, the Mont Plerin Society, of which Friedman was also a
founding member.259 Such thinkers equated democratic freedom with the economic freedoms to
own, establish and undertake a business and of consumer choice. Democracy and free markets went
hand-in-hand, since without diffused power and initiative [] freedom may [not] be effectively
preserved (Statement of Aims of the Mont Plerin Society). Hayek convened the Mont Plerin
Society in 1947 to provide the intellectual foundations for liberal policies favouring the rule of law,
private property and competitive markets.260 It had been inspired by the example of the Fabian
Society, which had done much to make socialism intellectually respectable to liberals such as Philip
Wicksteed (18441927), J A Hobson (18581940) and William Beveridge (18791963) and whose
very success, for example in the creation of the London School of Economics, with students from all
corners of the world, now seemed to Friedman and his friends to threaten free enterprise.261

Furthermore, the rise to dominance of neoliberalism was associated closely with the neoclassical
economics of the Chicago school.262 There was considerable overlap between the members of the
Mont Plerin Society and the Chicago school, in both of which Hayek played a key formative role.

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Hayek had published a best seller on the dangers of totalitarianism, The Road to Serfdom, in 1944
and was able to attract funding for his ventures from private enterprise, notably the William Volker
Charities Fund.263 In addition to Hayek, Friedman and Knight, Gary Becker (19302014), James
Buchanan (19192013), Ronald Coase (19102013), Aaron Director (19012004), Richard Posner,
Julian Simon (19321998) and George Stigler (19111991) were members of both groupings. Other
American neoclassical economists who were Mont Plerin Society associates included Ed Crane,
founder of the Cato Institute, Robert Barro, Jagdish Bhagwati, Martin Feldstein (who chaired the
Council of Economic Advisers under President Ronald Reagan), Anne Krueger, Vernon Smith and
Oliver Williamson.264 Collectively they accepted government intervention in the economy to provide
for education and infrastructure and of redistribution to ensure everyone had a basic standard of
living, while favouring maximal individual freedom.265 A synthesis of neoclassical macroeconomics
originally dubbed Monetarism and selected Keynesian insights went mainstream among
economists in the 1980s and 1990s.266 Chicago school theories generated policy prescriptions for
balanced government budgets, inflation targeting by central banks, and structural economic reforms
to allow markets for the factors of production and products adjust more flexibly to change.267

A second set of roots came from the ordoliberal school of economics in Germany, including the
Mont Plerin Society members Walter Eucken, Alfred Mller-Armack (19011978), who coined the
phrase the social market economy in 1948, Wilhelm Rpke, and Alexander Rstow (18851963).268
The last named had in fact suggested the label neoliberal to describe the new conception of
liberalism at a seminar in Paris convened by the philosopher Louis Rougier in 1938 to discuss the
anti-New Deal arguments of Walter Lippmann.269 Rpkes book The Social Crisis of our Time (1942)
advocating federal regional or continental free market blocs within a global multilateral trading
system helped convince the anti-fascist resistance fighter Altiero Spinelli (19071986), who read it
while imprisoned on the island of Ventotene, off the coast of Naples, to become a leading proponent
of a federal and liberal Europe.270 Eucken put forward the doctrine that price stability should be the
prime goal of monetary policy, a rule that was almost universally adopted by central banks and
governments in the 1990s, and led to the downgrading of full employment as a priority.271

Prominent British members of the Mont Plerin Society, Ralph Harris (19242006), Arthur Seldon
(19162005) and Madsen Pirie, became key figures in the free market Institute of Economic Affairs
(IEA) and the Adam Smith Institute, which influenced Margaret Thatchers government in the 1980s.
The IEA was the first body to publicize Friedmans Monetarist approach in the 1970s.272 Another
British member was the Monetarist economist Alan Walters (19262009), who was Mrs. Thatchers
chief economic adviser from 19811983 and again in 1989.273

Neoliberalism can therefore be seen as the political dimension to neoclassical economics.

Neoclassical economics differs from the earlier classical economics associated with Adam Smith
(17231790), David Ricardo (17721823) and Karl Marx (18181883) in adopting a subjective theory
of value (utility), in place of the objective theory of value (based on the effort from labour). The term
was coined by the economist Thorstein Veblen (18571929), who noted that the individual is at the
centre of neoclassical economic analysis, just as in political liberalism.274 Moreover, as already
mentioned, the role of the state in contemporary neoclassical economics must go beyond that of the
night watchman in order to correct for market failure. Market failure arises where there is imperfect
competition or from the generation of external costs to society that are not covered in the market
price; in other words, where an economic activity has impacts, like pollution, on others who are not

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then compensated. 275 Informational asymmetry may also lead to the failure of a market to establish
the correct prices because not all relevant information is shared at the same time with everyone,
although it may be mitigated through state regulation or the formation of specialist markets (such as
holding auctions for licenses).276 Government intervention could therefore be justified in certain
circumstances. A primary ambition of the neoliberal project is to redefine the shape and functions
of the state, not to destroy it, as one scholar has put it.277 A market economy needed a strong state
to establish the rules of the game and ensure there was open competition in the marketplace.278 At
the same time, the market could enhance customer choice if public services were provided on a
contractual basis.

But neoclassical economics also warned of the limitations to state intervention. The idea that
consumers maximized utility over the foreseeable future implied that they were not always fooled
by changes to the nominal price of products and labour arising from policy decisions on taxes and
deficits, and this could result in inflation or deflation down the line. Households and enterprises may
alter their behaviour when taking account of the anticipated results of government intervention,
which might then turn out to have been less effective than the government expected. Market actors
were assumed to have rational expectations, and to adjust to change over the medium term. There
was thus an emphasis on formulating predictable and credible rules for government and central
banks that created a stable economic policy regime and a favourable climate for private enterprise
and investment.

Neoliberalism also had an international agenda, in providing a rationale for constructing a stable
multilateral rules-based world order.279 Neoliberals tended to favour the establishment of inter-
governmental organizations like the IMF and the World Trade Organization to regulate international
finance and commerce, and to address common problems, such as disputes over unfair trade,
aircraft safety, or global warming. They saw international institutions as providing (the often
rivalrous) sovereign states with the opportunity to make gains through cooperation and collective
security arrangements by creating rules of the game that established free trade, formed global
capital markets, and facilitated technology transfer by transnational corporations, and which set up
dispute resolution procedures to maintain peaceful relations between governments. Just as
neoliberalism based its justification for state intervention in the economy upon the neoclassical
approach to market failure, the support for rules-based inter-state relations rested upon rational
choice theory and an alleged political failure in international governance, in that nation states have
proved reluctant to cede power to an international level of government, preferring rivalry over

The current dominance of neoliberal ideas is explained in part by its intellectual coherence and
because it filled a gap in the political market place between corporatist social democracy and
reactionary conservatism. Neoliberalism married utilitarian individualism which chimed with
todays consumer culture with limitations on the size of the state (and thus the proportion of tax
taken from national income), together with an emphasis on effective public services, where these
were necessary to correct for market failure. It targeted the big state through policies aimed at
cutting taxes and welfare benefits that undermined private incentive and by privatizing state-owned
enterprises. Along with the deregulation of markets, these policies of tax cutting and privatization
became part of the Washington Consensus to be promoted worldwide.281

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The description Washington Consensus on trade and investment liberalization, rules for
macroeconomic stability, deregulation and privatization is credited to the economist John
Williamson in 1989.282 It is associated inevitably with the requirements imposed by the IMF and
World Bank for structural adjustment, when, in Williamsons words, the worst of times give rise to
the best of opportunities for those who understand the need for fundamental economic reform.283
The Consensus emerged as a result of Latin American policy-makers move towards apertura, the
opening up of their economies in the 1980s. Many Latin American countries were dependent upon
the export of a limited number of commodities and thus vulnerable to external economic shocks.
The rise in oil prices occasioned by the OPEC oil producers cartel in the 1970s had turned the terms
of trade against them. In order to import oil at much higher dollar prices they had boost their
exports in dollar terms. As they struggled to achieve this, they found it more and more difficult to
service the debts they had incurred in dollars. These debts were not just owed by governments but
by Latin American companies. After interest rates rose in 1981, the Mexican government found it
was unable to meet its debt repayments and this occasioned its default in 1982. That in turn meant
that most Latin American governments and companies found themselves unable to borrow in dollars
from 1982 until 1990 the lost decade to development.284

Chile under its dictator General Augusto Pinochet had already adopted a radical program of
liberalization, privatization and domestic austerity (not to mention political repression) as described
in Chapter 2. Among the next to do so was Bolivia in 1985, where economist Jeffrey Sachs played a
significant part in devising a package of reforms.285 Other Latin American countries were reluctant to
adopt similarly aggressive policies to reduce inflation and to balance exports and imports through
the deliberate creation of a deep recession, but they realized that without access to the
international bond market except on ruinous terms they had to rely upon the IMF. The key was to
stabilize inflation without undermining economic growth and lessons were sought from within the
Latin American experience by the UN Economic Commission for Latin America and the Caribbean
(ECLAC). These studies also examined the successful development strategies that newly
industrializing countries like South Korea had adopted. A 1987 conference in Mexico City organized
by ECLAC recommended the opening up of the regions economies and for the promotion of exports.
Crucially it recognized that export success depended upon a competitive domestic market economy
since policies to shelter domestic companies left them unable to compete internationally without
further state subsidies, which governments were in any case unable to afford. But it also recognized
the need for state intervention, especially in the area of improving the quality of human resources
through education and training and industrial policy, provided this took place in an environment
where government exercised fiscal discipline and respected the rule of law. These efforts by Latin
American governments were spurred by the completion of the Uruguay Round of international trade
talks in 1993.286

The strength of the Washington Consensus lay in the fact that it really was a consensus that
extended from the White House to the presidential palaces of Latin America and the European
community institutions in Brussels. In Mexico, three presidents in succession adopted neoliberal
policies: Miguel de la Madrid (19821988), Carlos Salinas (19881994), and Ernesto Zedillo (1994
2000). In Brazil, Fernando Collor (19901992) and Fernando Henrique Cardoso (19952003)
instituted neoliberal policies; in Venezuela, Carlos Andrs Prez (19891993) and Rafael Calderon

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(19941999) played the same role; in Bolivia, it was Gonzalo Goni Snchez de Lozada (19931997);
in Peru, Alberto Fujimori (19902000); and in Argentina, Carlos Menem (19891999). They sought to
eliminate state subsidies, deregulate markets and privatize state-owned enterprises. Some of the
Consensus biggest advocates were officials from finance ministries of Africa, Asia, Europe and the
Americas, many of whom might have spent a period of secondment at the IMF or the World Bank as
part of their career development. Through the university economic faculties, neoclassical economics
and neoliberalism spread across the world as the mainstream school of political thought.

The debate between Keynesians and Monetarists in the 1970s had spurred progressives to re-
examine Keyness ideas on the operation and stabilization of monetary commodity production
economies. Up to that point, Keyness legacy was considered to lie in the policy tools that enabled
governments to tackle unemployment. This was why, in the socialist planned economies, Keynesian
theory was seen as a means of resolving deficiencies only found under capitalism and was therefore
not relevant to their own problems. Ironically, the Monetarist hypothesis that governments should
take care of the money supply led to renewed interest among Keynesians on the role of money, the
issue of solvency (on what to do when money runs out) and economic crises. Although the circle that
emerged around Keynes in Cambridge in the 1930s and 1940s was able to formulate a broader
critique of neoclassical economics, its analysis failed to attract wider intellectual interest given the
strong linkages between neoclassical economics and liberal political tenets. After the 1970s
economics was no longer characterized by competing schools, such as Marxism, Keynesianism,
Monetarism, and so on, but by debates over methodology.287 There was only one type of economics
now, which all its practitioners accepted.

Privatization, the contracting-out public services, and deregulation were equally essential elements
of neoliberalism. They were seen as legitimate reforms of the economy since they encouraged more
market. Starting under prime ministers Margaret Thatcher in Great Britain and Jacques Chirac in
France, shares in state-owned industries were sold off in increasing quantities from the 1980s
onwards.288 Through privatization, outsourcing and the contracting-out of public services, the
government opened up new business areas for profit-taking and facilitated the growth of the private
sector. Deregulation could be undertaken under the disguise of new regulation. For example, when
British Rail was broken up and privatized, an Office of the Rail Regulator was established as an arms
length body of the government to encourage competition. The institutional set-up for these policies
required a separation of functions: a government client side to invite tenders for specified
activities; a contractor side to submit tenders and be awarded the work; and an independent
market authority to regulate the sector.289 To begin with, all three functions were performed by
public servants, but as experience was gained in managing the contracting system, the tendering
process was opened up to private providers and the public direct labour organizations, which had
delivered the goods and services as a state agency, could be sold off and the personnel transferred
to the new private owners.

These arrangements were pioneered within the military-industrial complex in the USA and the UK as
a means to obtain better value for money. In this sector, comprising a close-knit community of
private contractors, military and government officials, intellectual property, management ideas, and
staff could be exchanged and organizations restructured with little oversight from legislators and

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civil society. US President Dwight Eisenhower (18901969) recruited the then head of General
Motors, Engine Charlie Wilson (18901961), in 1953 as secretary of defence to bring private sector
experience into the Pentagon; Wilson, in turn, brought with him business executives to run many
strategic programs.290 Jack Kennedy (19171963) appointed Robert McNamara, a top executive from
Ford, as Defence Secretary at the time of the Vietnam War.291 Private enterprises were hired to run
major government facilities, commissioned to undertake research into new defence-related
technologies, contracted to supply components and systems for national projects, such as strategic
weaponry, space exploration and energy security, and to advise on management and information
systems.292 The client-contractor division enabled private enterprises to absorb much of the strategic
capability of government, leaving the public administration dependent upon consultancy and
engineering services from the likes of the AECOM, Battelle Memorial Institute, Bechtel, Booz Allen
Hamilton, Ernst & Young (EY), MITRE Corporation, Price Waterhouse Coopers (PwC), Personnel
Administration (PA Consulting), Production Engineering (later P-E International), RCA Services (later
Serco), Science Applications International Corporation (later Leidos), and others. Consultancies were
the conduits for spreading the methodologies for privatization throughout the state administration.
Among the first privatizations undertaken by Margaret Thatchers government were the sale of the
British states majority stake in British Aerospace in 1981 and several of the Royal Ordnance factories
in 1987.293

Privatization was expanded at a time of increased merger and acquisition (M&A) activity. Banks such
as N M Rothschild saw the opportunity to expand their M&A expertise by advising governments on
how to privatize state-owned enterprises and utilities. In the 1980s, John Redwood and Oliver
Letwin, later British Conservative Members of Parliament, both worked successively at N M
Rothschild and under Margaret Thatcher at her policy unit on privatization policy.294 Other banks
that advised governments and facilitated privatization included Credit Suisse, Kleinwort Benson,
Lazard, Schroders and S G Warburg.295 During the 1980s and 1990s, government shares in
telecommunication companies, energy utilities and banks were sold in Japan and several European
countries: British Telecom, Deutsche Telekom, France Tlcom, Nippon Telegraph and Telephone,
Portugal Telecom, Telecom Eireann and the Italian STET; the British Central Electricity Generating
Board and South of Scotland Electricity Board, British Gas, British Petroleum, Gaz de France, Elf
Aquitaine, ENEL, ENI and Suez among the energy companies; and Crdit Lyonnais, the UKs Girobank,
Monte dei Paschi di Sienna, Paribas, the Dutch Postbank and Socit Gnral in the banking
sector.296 Latin American governments were also keen to sell state-owned enterprises, with major
privatizations in Argentina, Bolivia, Chile, Mexico and Venezuela.297 The USA with fewer state-owned
enterprises had less to privatize and it was only under Barack Obama that a start was made on the
selloff of the Tennessee Valley Authority, set-up under Roosevelt to regenerate the Appalachians.298
Between 1990 and 2002, according to bank J P Morgan, European governments raised $675 billion
from privatization.299 Selling shares in state-owned enterprises boosted the size of continental
European stock markets and this additional liquidity provided neoliberal governments with the
chance to encourage the expansion of private pension schemes (which must buy a diverse enough
portfolio of shares to be able to pay out more money in pensions than they take in from members
contributions), as an alternative to national social security. Economic commentator Hamish McRae
noted that privatization of pensions and privatization of industry move hand in hand.300

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The Washington Consensus expressed a political viewpoint, that of neoliberalism. In turn,

neoliberalism was linked to neoclassical economics. But the economics did not define the politics.
Although many mainstream economists tried to justify neoliberal policies in terms of neoclassical
economics, the latter could be used equally well to criticize capitalism, the profit motive and the
market economy.

For example, a central proposition of neoclassical economics is that the relative scarcity of an asset
determines its price. Banks and other organizations in possession of capital charge a rate of interest
on lending to an enterprise or household which wants to borrow. In theory, the smaller the amount
of funds available for lending, the higher is the rate of interest. The rationale of relative scarcity also
applies to workers. People sell their labour power to employers and receive a wage in return. The
larger the number of people wanting work, the lower is the wage. The wage is the price of labour
and the rate of interest is the price of capital. According to the neoclassical model, in a competitive
market economy, the wage rate and the interest rate reflect the relative scarcity of labour and
capital (which are two factors of production). In a perfect state of affairs, the wage rate will be just
sufficient to supply the exact number of workers needed by enterprises to produce exactly the right
number of goods and services to be sold at prices that allow the enterprises to gain just enough of a
margin to repay the lenders. The model is cited as proof that workers and the owners of capital
capitalists are rewarded sufficiently, by just enough to make it worth their while to work in, lend to
or invest in a business.

The missing element from this story is the absolute scarcity of jobs. For a worker there is a massive
difference between having a job and not having a job. For the capitalists, the choice is between
lending the capital, investing it, spending it, or hoarding it. A capitalist is not forced by necessity to
lend the money but a worker must get a job to survive. There exists an asymmetry in market power.
Although it is rarely acknowledged, such an asymmetry provides the justification for collective
bargaining between employees and employers, as it redresses some of the imbalance in bargaining
power by placing a real cost upon employers in terms of lost production if they try to ignore or sack
dissatisfied employees instead of negotiating over their terms and conditions. Even in conditions of
full employment, it is not inevitable that a worker can quit one employer on Friday and be hired by
another on Monday morning at an equivalent or better wage.

Although capitalists and workers have parallel interests in fostering a prosperous society and in
principle will seek to use the state apparatus to advance these aims, they are also engaged in rivalry,
which makes it difficult for them to reach agreement on a common business strategy or policy
objectives. Political parties who are competing for power on the basis of a pro-enterprise or a pro-
labour base try to broaden their appeal by offering policies that bring benefits to both classes. The
political parties can shape the perspectives of the social partners by delivering public goods and
services like infrastructure, education, and scientific research that benefit both workers and
enterprise owners. This political dynamic was reinforced during the Cold War and motivated the
liberal and social democratic parties to widen the scope of the welfare state and to develop
programs to mitigate the social and environmental costs of production. As soon as the socialist
alternative was abandoned at the end of the 1980s there was less incentive on the part of capitalists
to compromise with labour interests, although the sheer weight of working people in the electorate
meant that previously established rights and gains could not easily be rescinded.

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The error in supposing a fundamental identity of interest between workers and capitalists stems
from the misidentification of profit as the price of capital. Economists generally consider the rate of
interest to be the price of capital. One of the founders of neoclassical economics, Alfred Marshall
(18421924), defined interest as the whole income which is derived from capital.301 His
contemporary, Vilfredo Pareto, wrote: interest is the price of the use of capital goods.302 Interest is
rationalized as being necessary because having money today is more useful than having it tomorrow,
or next month, or next year. Homo economicus will only want to postpone getting his hands on cash
if he is promised that by waiting a bit he will get more of it. But the rate of interest is often much
smaller than the rate of profit. Let us assume that the interest rate based on time preferences is at
minimum two percent. As a bank will have to recover its own costs, the rate it would require from
borrowers the net interest margin might be three to five percentage points more. Interest rates
at these levels bear little relation to normal profit rates of 10 to 20 percent. Thus Marshall
considered profit to be a quasi-rent. It is a type of rent because it is a fee paid for a factor of
production (in this case, capital) in excess of what would be necessary in a fully competitive market.
It is a quasi-rent because it is a temporary charge related to an opportunity to make a return, which
should not persist.303 Profit, Marshall wrote, is the yield from the investment of capital that an
entrepreneur expects to gain from his business that exceeds the interest on his capital.304

To explain this further, let us look at an imaginary small enterprise set up by two partners with their
own money. They borrow a small part of their investment from a bank for working capital and so
they must pay interest on this money whenever they need to draw upon it. The partners decide the
price of the product they sell on the basis of the costs of production and add a mark-up on top. The
mark-up provides a margin of revenues over their outgoings. Within the margin, they include a
provision for unplanned contingencies, such as an unforeseen rise in their energy bills; another
element covers the replacement of worn out equipment (an amortization or depreciation charge);
and yet another for reinvestment as the business grows. The partners also pay themselves a salary;
one partner manages the factory or office while the other does the sales and marketing. At the end
of the financial year they tally up and calculate how much tax they need to pay as a company on the
margin they have made from total sales. After paying the tax on their margin they pay the balance to
themselves as a bonus, which, being honest individuals they declare as income to the tax authorities
and so pay yet more tax. Any unused contingency can be rolled over into the next accounting period
or monetized as profit. The companys margin after tax is usually called the net profit of the

In neoclassical economics the margin (before tax) is considered to be an excess profit. It is so called
because in a perfect state of affairs the margin would be whittled away by competition. A rival
enterprise could undercut the price the partners charge their customers and take over some of their
market share. In response, the partners would have to drop their price still further to regain their
lost customers. Eventually most of the margin would be eroded altogether. Pareto made this point
explicitly in his Manual of Political Economy (1906): when there is competition among firms, they
make neither profit nor loss [] provided, of course, that all expenditures are taken into account,
including interest on the firms capital.305

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Make no mistake, the partners in our example would still be running a profitable enterprise even in
a fully competitive market place. The price they would be charging would still cover their costs,
including the interest payments, depreciation, reinvestment, reserves, and the salaries they pay
themselves. But there would be no additional margin and so no bonuses and no company tax to pay
(assuming the tax rules allow a company to reinvest part of their profits before the taxable amount
due is calculated). When the partners come to sell their enterprise, if they ever did, they would
recoup all their original investment plus some, depending on how the business had expanded. Even
if sales had grown at a low rate of two percent a year, they would get back more money from the
sale of the company than if they had deposited the same original sum in a savings account yielding
five percent a year.ii If instead of setting up their own company, the partners had each bought shares
in the stock market, then they might have received a still higher return than the interest from a
savings account. As an investment strategy, buying shares in other companies would carry a similar
business risk as running their own enterprise. A savings account would have been the safer option,
but going into business either directly or indirectly could generate a higher return provided the
economy was growing. On the other hand, if the economy collapsed and the partners could no
longer cover their costs in the face of falling sales, the company would have to be liquidated and
they could lose some or all of their original investment.

Some types of quasi-rent are protected in law. If an invention is patented, the inventor is entitled to
a royalty for some years from those who wish to put the invention to work. The same protection is
afforded by copyright to writers and the creators of new formats for TV shows. Entrepreneurs with a
new sales idea or business model can also be thought of as enjoying quasi-rents for their intellectual
property. Many would argue that there is a social benefit gained in allowing creative people to
receive these types of quasi-rent.

According to neoclassical economics, therefore, there are four legitimate types of recipients of
income generated from the use of the four factors of production. Workers receive wages for their
labour power, their capacity to perform work. Landowners and owners of mineral, water or fishing
rights receive rent from the use of natural resources under their control. The owners of intellectual
property may also gain a legitimate income from patents and copyright, as has been explained.
Fourthly, the recipients of interest from loans or bonds, who are known as rentiers, also have a
legitimate source of income. In principle, then, a neoclassical economist should argue that there is
no justification for profit-taking as it is usually understood. If an enterprise is earning a high margin
over the costs of production it is, at the very least, ripping-off the customer. Entrepreneurs and
capitalists are entitled to earn the rate of interest on the capital they employ in production, but in a
fully competitive market, they cannot expect to earn any more than that rate of interest plus any
capital gains made from the sale of the asset, which are, in turn, the proceeds from a growing

Of course, economic theory does not ignore the existence of capitalists and profits. In her book The
Accumulation of Capital (1956) its title was a tribute to Rosa Luxemburgs work of the same name
Joan Robinson (19031963) suggested that profits are made by sales, not by creating wealth and

The productivity of capital invested was augmented by the labour and knowledge put into the enterprise. The
value added from sales generated a margin that was disproportionate to the value of capital invested.

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profits are desired mainly as a means of accumulating capital.306 In making these points, Robinson
was echoing Marshall and Adam Smith in defining capital as that part of [a persons] stock from
which he expects to derive an income, that is, from profit.307 Capital is accumulated profit. Joseph
Schumpeter (18831950) made the same point in his Capitalism, Socialism and Democracy (1942):
entrepreneurs expand production (or look for other business opportunities) because from the
standpoint of every one of them that would mean more profit.308

Capital arises when profits are made from acts of exchange in commodity markets. They can be
made when an employer hires workers, whose wages are determined in the labour market. An
entrepreneur can make profits from selling goods or services to consumers in retail markets. Profits
can also be made in wholesale markets, producer goods markets and financial markets. In each of
these cases, where profits exceed the prevailing rate of interest, they are quasi-rents, which should,
in principle, only be permitted when there is a wider social benefit. In fact, there is very little scrutiny
or regulation of profits in most market economies. Capitalism is a system of largely unimpeded
profit-taking, where markets are regulated lightly enough to permit capitalists to obtain an
acceptable rate of return from their dealings. Acceptable in this case usually means acceptable to
the capitalists. Society is told that without capitalists there would be no jobs. Entrepreneurs are
supposedly wealth creators.309 But this is doctrine pure and simple, not supported by economic
science. In short, profit-taking is a privilege not a right.

Apologists for capitalism often suggest that profits are the reward for risk-taking. But as the leading
light in the Chicago school of economics, Frank Knight, explained, profit is better thought of as the
gamblers gain, not as the reward of risk-taking or the inducement to take risk.310 In a market
economy, the rules prevent an enterprise from trading at loss unsustainably and therefore profits
must exist to cover the chances of making a loss. The venture may be [] a gamble, Knight
advised.311 Nor are producers in a regulated market allowed to sell their products at a price below
the cost of production in order to drive others out of business. There is a hard budget constraint on
enterprises, which requires them to include an element for contingency to cover commercial risks in
their prices. If the business is successful then those margins for contingencies add to the enterprises
bottom line and are counted as profit. Even so, it does not follow that the rate of profit has to be
much higher than the rate of interest plus contingency. Business risks must be mitigated and
managed by enterprises. They are especially high for newly founded enterprises and this is the
moment when most business failures occur, but in an established business the risk of loss is lower
and may even be transferred to the workforce as many enterprises taking advantage of the so-called
gig economy have sought.312

An enterprise is a set of institutionalized contractual arrangements and some companies claim to

have almost no employees and to own no capital. One such was the British parcel delivery firm City
Link. In 2013, a private equity company Better Capital bought the failing enterprise for one pound.
The firm had been struggling financially against competition from new entrants and the Post Offices
Parcel Force company for five years.313 Another parcel delivery company, Yodel, was also reported to
be in financial difficulty at that time.314 To mitigate the obvious risks, Better Capital changed the
firms business model to shift some of these risks onto its workforce. Around a thousand drivers
were offered contracts as service delivery partners, whereby they had to pay for their own

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uniforms, lease vans from City Link, and were paid on the basis of a successful delivery to a
customer, not by the distance driven or the hours worked. Under these contracts, City Link had no
obligation to provide a minimum amount of work, or, indeed, any work. The drivers were considered
to be self-employed, so when City Link went into administration on Christmas Eve 2014, they had no
entitlement to any redundancy pay and stood to lose their earnings for the month, as unsecured
creditors. Better Capital had injected 40 million into City Link as a secured loan when it bought the
firm, which meant that when the bankrupt courier was put under administration, Better Capital was
first in line to be paid back from the sale of City Links assets. The administrator, Ernst and Young,
refused to talk to the 2,727 redundant employees trade union representatives and confirmed that
the value of assets would not be sufficient to make the redundancy payments required by law.
Those directly employed workers needed instead to make a claim to the government to receive
redundancy pay.315 Better Capital was a turnaround specialist, so it was well aware of the business
risk it was taking on and its owner Jon Moulton claimed to have lost 20 million of the investment it
put into City Link.316 Had it been successful in restoring City Link to profitability, and the firms
logistics centre was centrally-based in the English Midlands and able to deliver a parcel to 90 percent
of the UK population within four hours, those profits would have gone to Better Capitals owners
and partners, not to its staff and drivers, the supposed service delivery partners who were mainly
foreign workers trying to get a foothold into secure employment in Britain.

A year later, Better Capital pulled off the same trick at another business it owned to secure its funds
at the expense of the employees. Luxury yacht maker Fairline Boats made 450 staff redundant
without notice when Better Capital, the senior creditor called in administrators. Sales had fallen
since the collapse of commodity prices earlier in 2015. Staff had not been paid for 10 weeks
according to their union, Unite, and the administrator confirmed that there were insufficient funds
left in the company to make any redundancy payments and that the workers would have to apply to
the government for their money. A supplier to Fairline Boats told The Guardian newspaper that
many suppliers had not been paid for three months.317

Better Capitals business model was being applied more widely to separate the profit-taking from
the profit-making and service delivery/goods provision functions. Profits could be made by
pretending that the usual regulations that governed enterprises did not apply to the sharing
economy. An enterprise with no owners (only creditors), with no employees (only freelancers), and
no customers (only website users) could avoid its obligations to pay taxes, social security or
compensations for poor quality service. A good example was Uber, a software platform with few
employees and no assets apart from an application that smartphone users could download to book a
taxi service although Uber denied that this amounted to a taxi service and contended that
nineteenth century regulations devised for an industrial economy were irrelevant to a twenty-first
century sharing economy. As a result, the company challenged the obligations imposed on other
enterprises to negotiate collective agreements and contribute to their drivers social security
payments or to provide minimum service terms to its customers, since it asserted it had neither
employees nor clients. In Britain, Ubers drivers were receiving less than the minimum hourly wage,
which encouraged competing cab companies to cut their drivers pay. Uber accepted no business
risk but yet felt entitled to profit from 20 percent of every fare paid for journeys booked by the users
of its application.318 One non-governmental organization claimed that similar arrangements had
forced 460,000 workers into bogus self-employment, depriving the public purse of 314 million a
year in lost tax revenues and social security contributions in the UK.319 Between 2006 and 2016, the

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proportion of workers in precarious forms of employment rose from 18 percent to 22 percent, to a

total of over seven million, of whom 900,000 were on zero-hours contracts.320 Ubers profitability
was not a result of its good fortune in bringing a novel service idea to market but was based on
passing the business risks in providing a taxi service onto its agents.

Economic activity in a market economy is conducted under conditions of uncertainty, as Knight

emphasized. A producer in the old-time industrial economy therefore takes a gamble in putting
products up for sale. In a competitive market, each seller guesses how much will be sold
independently of the others. Some will be lucky, other less so. The average profit (in excess of the
rate of interest) in the market should be zero and if this is not the case, it implies that there is
imperfect competition. Knight wrote, the primary attribute of competition [] is the tendency to
eliminate profit or loss.321 Neoclassical economic theory predicts that profits (in excess of the rate
of interest) only exist under conditions of imperfect competition and imperfect knowledge about the
future. In a planned economy, by contrast, producers know how much they must produce and do
not need to build a margin into their prices to cover contingency for business risk, and therefore, in
principle, profits do not exist. (If the plan contains imbalances, of course, or if things do not work out
as anticipated, then the enterprise might make an unexpected loss or profit; but this is another

John Maynard Keynes (18831946) also described the business of enterprise and investment as
partly a lottery.322 Knight and Keynes homed in on the importance of business confidence.
According to Knight, the business man not merely forms the best estimate he can of the outcome
of his [investment], but he is likely also to estimate the probability that his estimate is correct. The
degree of certainty or of confidence [] is of the greatest practical significance.323 Keynes took this
point a step further and applied the theory to explain the reaction of investors to a panic. Capital is
most useful in its divisible form as money. Assets like real estate or machinery are lumpy, due to
their physical characteristics and durability, and are not readily saleable.324 Money and some other
paper assets are tradable and considered liquid. The preference for liquidity, according to Keynes,
determines the rate of interest, which is why, during a crisis, holdings of liquid assets are at a
premium and if the central bank stands aside the rate of interest rises fast. There is a rush to
hold liquid assets, dump less tradable assets, and a reluctance to invest or extend credit.325 A crisis
involves a loss of business confidence and the perception that the future is harder to predict and less
certain. Central banks have learnt the importance of maintaining liquidity by offering low interest
rates to commercial banks during panics and of acting as buyers of last resort for paper assets to
stabilize financial markets.

The fact that profit could not be legitimized as a reward for risk-taking by entrepreneurs posed a
potential political problem for neoliberals. Their answer lay in their wider theory of freedom and the
right of people to live their lives free from arbitrary coercion.326 For neoliberals, markets enabled
freedom of choice between which products to purchase; workers had freedom to change jobs and to
decide how many hours they should devote to employment or to leisure; and capitalists had the
freedom to choose which ventures they should invest in. Nor should the state permit trade unions to
bind their members into collective agreements since this amounted to private coercion that

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restricted a workers right to choose to accept a different wage rate or terms of employment.327
Profits helped markets to function because they provided an incentive for entrepreneurs to
undertake business. Entrepreneurs should therefore be free to maximize profits, just as consumers
were free to maximize the utility they obtained from acquiring the goods and services they bought.
Markets, neoliberals believed, fairly rewarded all participants: consumers got what they paid for;
workers found jobs with wages that reflected their experience and qualifications; and enterprises
recovered their costs and rewarded their owners investment of capital and time.

Neoliberals differed from classical liberals in that they did not accept the doctrine of laissez faire.
They thought that the state should set the rules for competitive markets, to provide the legal space
that protected property rights and consumers from monopolists and cartels.328 To be sure, the
state had a legitimate monopoly on the use of force and the means of coercion, and the rule of law
required a strong state with the capacity for enforcement. But if people were to live free from the
coercion of other people, then it was the states job to protect them and their liberties. The state
should not, therefore, try to curtail free enterprise and the opportunity afforded to entrepreneurs
to maximize their profits.329 Critics pointed out that neoliberals ignored the power that markets
awarded to capitalists and that the labour market was unfair to workers. Economist J K Galbraith
(19082006) advocated that the government should complement measures to boost competition
with interventions to support countervailing power. The accepted model of the economy, Galbraith
pointed out in irony, described an economic system of high social efficiency that is to say, []
there could be no misuse of power because no one had power to misuse.330 Galbraith had worked
for Roosevelts New Deal which had helped develop trade unions, producer associations and
cooperatives among tenant farmers and agricultural labourers, and retail cooperatives and chain
stores.331 They were examples of countervailing power working in the market place. The 1935
Wagner Act on national labour relations explicitly aimed to redress inequality of bargaining power
between workers and employers.

Many market actors have limited resources available to them. A worker can only sell his or her
labour once in any period, whereas an employer can often hire dozens or hundreds of employees. If
workers can combine into a trade union, they are no longer in competition with each other and the
union can sell their collective capability to an employer. A farmer must sell the harvest in season
unless he or she has storage capacity. A retailer with only one sales outlet a shopkeeper, for
example cannot afford to bulk buy whereas a chain store can. Most households are only able to
replenish their supplies once a month, or once a day in developing countries. They are often only
one or two pay checks away from ruin.

Galbraith welcomed competition as a means of improving economic welfare but recognized that an
unequal distribution of resources, notably of capital, meant that many market actors were
disadvantaged by competition. The state had a duty to facilitate private solutions to redress unequal
bargaining power in order to ensure that markets operated fairly. In principle, neoliberals should
have been ready to accept the argument, but generally their answer was more competition and
consumer choice and for the government to get out of the way.

The origins of neoliberalism lay in a group of economists and philosophers who recognized the
importance of countering socialist ideas but realized that unless the unfair outcomes of laissez faire
capitalism were also addressed, competing political prescriptions from the far left and right might

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prevail. Neoclassical economics provided a comprehensive theoretical underpinning for delineating

the legitimate roles of the state and markets and the policies for economic management and
welfare. It was this combination that made neoliberalism the intellectual force that it is today. By the
1990s, neoliberal pro-enterprise ideologues had recaptured the middle ground of public opinion in
the developed countries and many emerging market economies. By so doing, neoliberalism
undermined progressive political strategies of building national coalitions around support for the
welfare state and state-backed national industries. Furthermore, the internationalist perspective so
important to left wing thought had been out manoeuvred by the globalist perspective of
neoliberalism. Neoliberalism accepted the need for a regulated market economy but expected it to
be largely self-correcting and assumed optimistically that the spur of the profit motive would result
in creative destruction. The theory could not abide an actively managed economy in which markets
were harnessed to meet the interests and aspirations of society. And where neoliberal policies were
adopted, actively induced economic destruction invariably followed.

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5 Monetary ballistics
On being awarded a gold medal, Olympic athletes often bite it, a traditional test of the supposed
quality of its gold content. They do so because, in so far as this is any sort of explanation for
irrational behaviour, the medal resembles a coin. These athletes would not dream of biting a gold
ring or bracelet given to them. The action reflects a deeply rooted and apparently international trait
to test the quality of coinage by giving it a quick bite. It indicates an absence of trust in the value of
money. The coin may look like the real thing, but it may have been debased with other metals and
its value is not what is stamped on its face.

There is a long history on the left of thinking that links money with the frequent crises that afflict
capitalist economies and this critique resonated with popular distrust of money. Under
communism, Nikolai Bukharin and Evgeny Preobrazhensky declared in 1919, money will no longer
be required.332 Critics of capitalism, whether from the right or the left, claimed that decent hard-
working people were being swindled by financial cabals, in league with corrupt politicians.333 Crises
came in different forms: sometimes jobs were being taken away and at other times it was the
purchasing power of wages that was being undermined. Somehow money was involved, although,
for many, how the fraud was being accomplished was unclear. Much later, neoliberals took
advantage of the widespread distrust in the value of money during the 1970s, as consumer price
inflation accelerated, to storm the commanding heights of the economy, the central banks, and
thereby gain control over the levers of economic management. They received support from socialist
politicians, like the British Chancellor of the Exchequer Denis Healey (19172015), who in 1975
asserted that there is now general agreement [] that the major cause of the inflation now
wracking Britain is the excessive increase in the money supply.334 From these vantage points the
neoliberals could issue regular admonishments to policy-makers, investors, consumers and workers
to behave themselves. In fact a whole new vocabulary grew up, with talk of economic headwinds,
structural reforms, systemic risks and budget consolidation.

Money is not a commodity like other commodities but an institutional arrangement. The function of
money is to facilitate economic activity and, from the states point of view, to make it easy to collect
taxes. In the past, in order to fulfil this function, money had to possess an intrinsic value of its own,
which was provided by the scarcity, uniformity and divisibility of the material from which it was
made, such as a precious metal. For much of history money took various physical forms and a
mixture of forms was normally in circulation: coins minted by kings and princes from precious metals
(gold or silver sovereigns); bills issued by banks and merchants (promissory notes); and traditional
forms such as cowrie shells, squirrel or beaver pellets and the like (customary cash).The promissory
notes could be written as clay tokens as in ancient Mesopotamia, or as a stamp on a strip of leather
as in old Russia, or on paper as in eighteenth century Europe.335 As one of the last political
economists of the classical school, Karl Marx sought to sum up the debates of the preceding century
over the role of money. He noted in his Critique of Political Economy (1859):

First of all custom turns a certain relatively worthless object, a piece of leather, a scrap of
paper, etc. into a token of the material of which money consists [silver, for instance], but it
can maintain this position only if its function as a symbol is guaranteed by the general

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intention of commodity-owners; in other words if it acquires a legal conventional existence.

[] Paper money issued by the state and given a legal rate is an advanced form.336

In his next book, Capital (1867) Marx wrote: Since the standard of money is on the one hand purely
conventional, while on the other hand it must possess universal validity, it is in the end regulated by

Much confusion had arisen in economics from a focus on the form money took, rather than upon its
function. What mattered, in Marxs view, was the legal status of money; a point also emphasized by
the neoclassical economist Vilfredo Pareto: Money fulfils two principal functions: (1) it facilitates
the exchange of commodities; (2) it guarantees this exchange.338 Money did not have to be coinage
that when melted down had its own value in terms of the metal it was made of; it was sufficient for
it to be legal tender and be accepted by people trading goods and services. Within the USA, for
example, the currency with the status of legal tender is the dollar.

Another key feature of money was its property of divisibility so it could act as a unit of account or
numeraire. The two functions of money as a standard of value and a medium of circulation,
according to Marx may be considered to be its functions as cash and as currency. 339 The legal
status of money is also crucial if it is to perform its third function of providing credit. Banknotes
represent a debt to the issuing bank: an ATM will only let you take out banknotes in line with the
deposits you have made into your bank account. A banknote is nothing but a draft (bill) upon the
bank, Marx remarked, and you must make good any overdraft to the bank if you withdraw too
much from your account.340 The implied debt is recoverable by the bank under commercial law.

Lastly, money was considered to have the function of acting as a store of value. Again, this function
did not arise from its physical properties as such, but from the way money is used in an economy.
Rudolf Hilferding (18771941) pointed out that when two children swap their toys in the playground
they are not engaging in economic exchange.341 Following Marx, he located the role of money in the
circuit of commodity exchange: C M C, where C is a commodity, M is money and C is another

Money originates [] in the exchange process [] and the necessity for it to have value
arises directly out of the nature of the commodity producing society. [] It is indispensable
as a symbol of value because it is a means of giving societys sanction to the value of a
commodity [ and to its reconversion] from its monetary form into another commodity.342

Thus money is not simply the facilitator of economic exchange, and a more flexible system than
barter. It creates an opportunity to undertake another cycle of economic exchange: from money to
commodity and back to money, that is M C M. In this type of cycle, which is a feature of
capitalism, Marx commented:

People do not buy in order to sell, but they buy at a low price in order to sell at a high price.
They exchange money for commodities in order then to exchange these for a larger amount
of money, so that the extremes M [and M] are quantitatively different. This quantitative
difference presupposes the exchange of non-equivalents.343

Value has been added by the transaction and generated a profit. Money can therefore be an asset,
or to give it another name, capital. Crucially, money can only be capital (and an embodiment or store

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of value) if it has legal status. Money, whether paper or coinage, would not be so useful if there was
no guarantee, by custom or by legal statute, that its use in an exchange was not enforceable in a
court if one of the parties were to renege. Once paper money was legal tender it could be hoarded
just as well as if it was gold. It became capital because it could be accumulated from profit-taking.
Once hoarded, by banks, money gained a price in terms of time: the rate of interest reflects the time
preference of society as to whether to spend it straight away or save it for later on.

Money, then, is an essential feature of a commodity production economy, regardless of whether it is

run on capitalist or socialist lines. Where Marx differed apparently from many of the other
economists of the classical school, including Ricardo, was in his rejection of the quantity theory of
money.344 This hypothesis, which has been around since the early eighteenth century, contends that
if, somehow, the government doubled the amount of cash in circulation, prices would also double.345
It formed the basic premise of Monetarism that if too much money was printed it would lead to
price inflation. Unfortunately too many people accepted this story as the gospel truth over the next
200 years.346 It gained credibility in the light of hyperinflation in Germany in the early 1920s, Latin
America in the 1980s or Zimbabwe in the late 2000s, when prices rose a hundred-fold in a few
months and the currency lost value daily. Those situations arose, however, as a result of the rapid
devaluation of the currency; once people lost confidence in the currency they sought to exchange it
for dollars (a hard currency) at every opportunity; it was the equivalent of a run on a bank, but in
this case it was a run on a central bank, which issued the almost worthless notes. Prices in the
country were fixed in a stable foreign currency, usually dollars, and were adjusted to match the
prevailing exchange rate. Such episodes in economic history created a natural aversion to letting
inflation rip, but they were not caused by printing too much money but the result of imbalances in
trade or in the nations financial position (arising from being forced to repay unaffordable debts, for

The assumption behind the quantity theory of money is that people adjust their behaviour over the
long term to economic changes. Although this proposition sounds very reasonable, it takes for
granted that there is such a thing as the long-term in economic matters. Ricardo in particular
thought that the daily, weekly, seasonal and cyclical fluctuations in prices settled down to their
natural level in the long-term.348 People learnt from experience and so their foresight improved.
Over the long term, so-called Ricardian equivalence might prevail. Ricardo believed that if the
government borrowed now, it would have to repay the debt later, and would therefore be forced to
raise taxes in the future. As soon as the government began to borrow, instead of running a balanced
budget, a rational taxpayer should start saving to be ready to pay the future taxes due when the
government had to repay its creditors.349 Monetarist economics assumes that people have rational
expectations and are difficult to fool, so if a government borrowed money to hire unemployed
people, taxpayers would offset the economic impact by saving more than before. Government
intervention in the economy would thus often be ineffectual in the longer term, even if it might
appear to work in the short-term. It was yet another liberal argument for the government to do
nothing in the face of social problems.

The big difference in the Keynesian approach to economics was that it believed there is no settled
long-term, just a messy succession of short-terms.350 One of Keyness contemporaries, Micha

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Kalecki (18991970), expressed it thus: the long-run trend is only a slowly changing component of a
chain of short-period situations; it has no independent entity.351 This perspective led to Keyness
quip that in the long run we are all dead.352 In other words, we should not worry about what might
theoretically happen when the imaginary auctioneer of neoclassical theory declares that all bids are
in and there is nothing left for sale the point when all markets, including factor markets, have
cleared. Economists set themselves too easy, too useless a task, if in tempestuous seasons they can
only tell us [that is, provide relevant policy advice] that when the storm is long past the ocean is flat
again, Keynes added in his Tract on Monetary Reform (1923).353 Monetary commodity production
economies do not work in the way the classical or neoclassical schools hypothesized. The
Keynesians insistence that there was no long-term equilibrium in monetary commodity production
economies was a key issue in the debate over the theoretical soundness of neoclassical economics in
the 1960s.354

In neoclassical economics, the economy is modelled as if it was a pendulum that is from time to time
disturbed; the pendulum swings around but eventually comes to rest at the same point as before,
the equilibrium point. The Keynesian model looks like a spring, which may return to its former
shape, but then again it might not.355 In the Keynesian view, the economy may settle at a point
where there is unused capacity (unemployed people, mothballed manufacturing plants, or a savings
glut) and then be at rest for a period. But this resting point is not a long-term equilibrium and the
apparent stability of the economy is misleading for it is in actual fact in an unbalanced state (as
evidenced by the unemployment, mothballed plants, etc.). The short-term horizon is dominant
because there is so much uncertainty about the future that in practice people do not behave in the
way suggested by the hypothesis of Ricardian equivalence.356 The reason for this lies in the nature of
a monetized commodity producing economy. In such an economy there is a division of labour
whereby a commodity is assembled bit-by-bit using inputs supplied (and sold) by others down the
chain. Neoclassical economics imagines that a stable economy at equilibrium has sorted out all
the contracts between suppliers and customers and lenders and borrowers already; the ocean is
calm, in Keyness phrase. Keynesians, however, are concerned with that preceding tumultuous time
of interaction, of the process of production of commodities made and offered for sale in an
environment characterised by uncertainty.357 Capitalist systems are inherently unbalanced because
the existence of profit-takers means that the flows of income and spending as contracted never
equalize. The income received by workers, landowners, rentiers and patent/copyright holders are all
specified contractually through economic transactions with one another (as explained in Chapter 4),
but profit-takers income is not subject to any contract, and is a socially tolerated privilege. In
neoclassical theory, under unrealistic assumption such as perfect competition and complete
knowledge, excess profit is eliminated altogether, leaving only the rate of interest accruing to
capital owners. But this does not occur in practice ever. Neoclassical and Keynesian economists
agree that the flows of inputs and outputs and of money do not necessarily balance in the short-
term. And it is the short-term that matters.

Keynes drew inspiration from Silvio Gesell (18621930), who had realized that the legal status of
money gave capitalists a guarantee that their wealth would remain intact over time.358 In an
economic depression, workers were driven to accept lower wages because otherwise they would go
hungry. Capitalists, however, were not forced to be entrepreneurial or to provide jobs. They had an

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almost risk-free option: open a savings account and watch their pile grow in value (of course, if the
bank went bankrupt, they stood to lose their money, and in those days there was no deposit
insurance scheme for savers). Nonetheless, even if interest rates were very low, savers were still
rewarded for hoarding their capital. Gesells solution was to put an expiry date on banknotes, which
could only be extended if the holder bought a stamp (similar to a postage stamp) to affix to the
banknote to show that it was still valid legal tender. Capitalists would then pay a price for hoarding
and be encouraged to put their cash back into circulation, either by investing or by buying goods and
services.359 A similar proposal was made by Irving Fisher (18671947) in 1933.360 Negative interest
rates, whereby a central bank charges the commercial banks for the deposits they hold at the central
bank, as the European Central Bank initiated in 2014 on overnight deposits, has the same effect in
forcing savers to pay for hoarding cash.361

Keynes saw that Gesell had put his finger on the nub of the problem, though he did not accept
Gesells proposed solution. In an economic depression, hoarded capital was not just waiting to be
invested in a viable private sector venture. It was being saved because entrepreneurs lacked
confidence in the future. It was not necessary for the rate of interest to fall below zero a negative
rate that meant capitalists were penalized for hoarding. All the government had to do was offer a
bond at a rate of interest that was better than the banks savings rate and the capitalists would
release their savings voluntarily by buying government bonds. The government would then put that
money to work. Public spending, funded through borrowing, did not crowd out private investment
dollar for dollar as the mainstream opinion of the day imagined. Private finance would become
available once entrepreneurs saw the economy start to recover and their new ventures could be
financed by credit (new money) in any case. Keyness General Theory broke new ground in
describing how the preference for liquidity (ready cash) was related to business uncertainty and how
the government could intervene in the economy to restore balance in the public interest. He also
broke decisively with the quantity theory of money in that work.362 Keynesian economics was an all-
round theory on how monetary commodity production economies functioned and could be made to
work better for people.

The justification of government intervention provided by Keynes disturbed many conservatives. At

the time, the Chicago school economists, such as Henry Simon (18991946), were criticizing
Roosevelts New Deal for its interference with the workings of the market economy.363 Then Keynes
outflanked the Chicago arguments by inventing an entirely new field of economics:
macroeconomics, the study of relationships between economic aggregates, like income,
expenditure, saving and investment. (Microeconomics is the study of economic agents, including
households, enterprises, investors and workers.)364 The Chicago school realized that to compete with
the Keynesians they had to develop an alternative macroeconomics, based on the neoclassical
theories that dominated microeconomics. They were helped in this task because Keynes and the
Cambridge school had not offered a complementary theory in microeconomics. Keynes himself was
content with the neoclassical approach at this level of analysis, and had been a student of one of the
founders of neoclassical economics, Alfred Marshall.365 But Keyness theory was criticized on the
grounds that it lacked micro-foundations and was simply a special case of orthodox opinion which
assumed that an economy would settle into a general equilibrium if rigidities and distortions were
removed.366 As the idea took hold that the government could intervene effectively to stabilize

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economic conditions and combat the systems cyclical tendency, as working people gained
confidence to demand higher wages and more public services, and as the proportion of state
spending grew, the neoliberals prepared their counter-offensive.

Simons student Milton Friedman took on the challenge and developed an approach that built on the
work of the Chicago school and also that of Irving Fisher, a brilliant mathematician and unorthodox
thinker. Fisher had put forward a version of the quantity theory of money in his book The Purchasing
Power of Money (1911) but had been discredited by his optimistic predictions for the New York stock
market just before it crashed in 1929; he lost a $10 million fortune in shares as well as his home.
Friedman published a restatement of the quantity theory of money in 1956. With Anna Schwartz he
wrote a history of money in the USA to demonstrate the relationships between the stock of money,
the business cycle and inflation.367 Although it was clear that there was a relationship between the
amount of money held, the number of sales (or transactions as economists tend to say) and the level
of prices, the hypothesis that money holdings led to changes in prices over the medium term was
always controversial in economics. The role played by interest rates in balancing the money markets
and influencing investment decisions was central to the debates and only a minority of economists
were ready to support the Fisher-Friedman hypothesis given the lack of conclusive evidence.368

Consumer price inflation rose rapidly during the 1970s, peaking in the USA at 15 percent a year in
1980. More than sixty countries experienced double digit inflation during this period and it meant
that fixed returns on bonds became quite unpredictable. Professional gambler Bill Gross, the then
boss of the Pacific Investment Management Company (PIMCO), considered high inflation to be very
bond-unfriendly. It drove the worst bear bond market not just in memory but in history.369 Bonds
provide a fixed rate of return to the holder, and high inflation could erode this return entirely. The
big investment banks as well as asset management companies like PIMCO were large holders of
government and corporate bonds. Inflation was hitting their returns and impairing their bottom line.
Investment banks profitability was more volatile than that of the commercial banks, which made
their money from lending to households and enterprises, because they used their own money along
with that of private investors to bet on the way prices in bond, commodity and stock markets
moved. The Economist magazine said that owning shares in investment banks was a geared bet on
the stock market.370 They were located at the riskier edges of the financial system and therefore
had the most to lose from economic instability and the most to gain when speculation was safest.
Moreover, they could venture where the regulated commercial banks could not.

Government restrictions on the growth of credit in the 1960s led large creditworthy American
corporations to issue commercial paper, short-term unsecured promissory notes, to meet their
short-term financing needs. These promissory notes were by prior agreement bought by the
investment banks which were exempt from the central banks controls on lending; these required
commercial banks to maintain a ratio between deposits and loans (the Glass-Steagall banking
legislation enacted in 1933 to prevent banks from taking on too much risk). The value of commercial
paper issued rose from $8 billion in 1964 to $85 billion in 1979. The largest dealer in commercial
paper was Goldman Sachs, along with other New York-based brokers and investment banks A G
Becker, Lehman Brothers, Salomon Brothers, First Boston and Merrill Lynch. These banks then sold
the promissory notes to other corporations, whose treasury departments needed to balance their
liabilities with assets. Very few corporations held enough cash to meet their short-term capital
needs without using financial intermediaries. Transnational corporations needed to hold cash in

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different currencies, which, from the 1970s, were no longer exchanged at fixed rates, and they also
turned to the investment banks to balance their cash needs among widely located subsidiaries.371 By
the mid-1990s German companies like Siemens, Daimler and Volkswagen had established
sophisticated treasury departments to be able to shop around for finance, while German and Swiss
universal banks, such as Deutsche Bank, Crdit Suisse, Swiss Banking Corporation and the Union
Bank of Switzerland, set up investment banking arms or acquired existing American and British
investment banks to take advantage of the new opportunities.372 Company mergers and acquisitions
and privatization swelled revenues, which despite the recession stood at $71 billion worldwide in
2016. The top five investment banks were all American: JP Morgan Chase, Goldman Sachs, Bank of
America/Merrill Lynch, Morgan Stanley and Citi; Barclays, Credit Suisse and Deutsche Bank came
next, followed by Wells Fargo.373

The rise of the investment banks within the financial services sector restored them to the prime
position they had held in the corporate world at the end of the nineteenth century, when they had
engineered the merger of enterprises to form the great trusts that came to dominate the American,
and later, the world economy. It also brought them political influence.374 From the 1980s onwards,
six out of twelve Secretaries of the US Treasury have also worked in investment banking. Three
Bob Rubin, Hank Paulson and Steve Mnuchin were from Goldman Sachs; Nicholas Brady worked at
Dillon Read; Jack Lew at Citigroups investment banking arm; and Don Regan at Merrill Lynch. Two
chairs of the US Federal Reserve were involved in investment banking: Paul Volcker was a partner
with Jim Wolfensohn, an investment banker who later headed the World Bank, and Alan Greenspan
worked at Brown Brothers Harriman.

For the investment banks, therefore, stable prices were a vital business interest. The neoliberals
prescriptions for a competitive and stable capitalism presented an attractive policy proposition. The
Investment banks promoted financial innovation and an intellectually rigorous approach, so their
internal culture was able to absorb new ideas, or, perhaps more accurately, old ideas ready to be
recycled for new times.375 The financial press, newspapers like The Wall Street Journal and The
Economist magazine, business schools and pro-enterprise think tanks spread the doctrine.376

The old ideas dated from the early years of the twentieth century. They included the quantity theory
of money but also suggestions for macroeconomic management. Henry Simon and Lloyd Mints
(18881989) at Chicago and Irving Fisher at Yale had in the 1930s advocated giving central banks a
mandate to pursue price stability by controlling the stock of money through the bond market (open
market operations) and altering the rates of interest the central bank paid the commercial banks.
They had recognized that the volatility in money holdings precluded managing the money supply
directly, but believed firmly that over the medium-term excess money led to inflation.377 Milton
Friedman went further in predicting that price stability could be secured by raising interest rates,
which altered the demand for cash by encouraging people to convert cash balances into interest-
bearing savings. Conversely, if interest rates were too low, households and enterprises spent
money rather than hoarded it, and the higher expenditure meant prices tended to rise. Monetarists
claimed that the central bank or the government created the monetary conditions whereby interest
rates were too low and thus caused inflation. The misguided application of Keynesian policies was
to blame, they alleged.378

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The Monetarist approach was further developed by another Chicago economist Robert Lucas. This
involved folding the quantity theory of money into a wider framework inspired by the proposition
that rational expectations prevailed over the long-term the Ricardian equivalence argument
outlined earlier.379 As a result, neoliberals came to argue that central banks should seek to anchor
expectations of future price stability among workers, employers, consumers, savers and investors or,
at least, that inflation would stay at a low level.380

By making the Monetarist approach a core element of the neoclassical macroeconomics, neoliberals
could claim that monetary policies had no long-term effects on production and employment,
provided that a central banks commitment to assuring price stability was credible. If economic
agents expected prices to be stable, then employees and employers would agree wage increases in
line with their enterprises productivity; households would not be deterred from saving by worries
that inflation would eat away at the purchasing power of their money; and the economy would also
have settled into stability, enabling the government to balance its budget or repay the national debt.
Jean-Claude Trichet, who headed the European Central Bank (ECB) between 2003 and 2011, deemed
price stability a pre-condition for growth, job creation, diminishing unemployment by preserving
competitiveness [] and the purchasing power of households [and by reinforcing] confidence in the
currency.381 The ECBs mandate was price stability not employment, because, over the long-term,
all unemployment was structural and monetary policy could not alter the level of production and

Keynesians objected to neoclassical macroeconomics on the grounds that economic agents did not
and, due to uncertainty, would not behave as the Monetarists assumed and that the economy never
settled into anything close to a general equilibrium. However, neoliberals continued to assert
throughout the 1990s and early 2000s that their approach to monetary policy had anchored
inflationary expectations successfully. There had been a social cost as a result of unavoidable
austerity, but, they argued, the higher rates of economic growth and the lower rates of inflation
enjoyed afterwards by the mature market economies (with the exception of a few years around the
turn of the millennium) demonstrated that the medicine had worked. Those were the years,
supposedly, of the Great Moderation, as Ben Bernanke called it in 2004.382

Not everyone accepted Friedmans arguments, to be sure, but there was consensus that money
mattered.383 Paul Volcker and his successor Alan Greenspan, as chairmen of the US Federal Reserve
(the Fed), targeted the rate of inflation by seeking to manage the stock of money. Volcker was
appointed in 1979 by President Jimmy Carter and introduced targets for monetary expansion and
raised interest rates sharply, following Friedmans policies. The Volcker Shock brought the economy
into recession but by 1983 the rate of inflation had fallen to three percent.384 Greenspan, who
headed the Fed from 1987 to 2006, was also a supporter of using monetary aggregates as a way to
forecast inflation.385 Gerald Bouey (19202004), the governor of the Bank of Canada, followed
Volckers lead in 1981 by raising interest rates to unprecedented levels, engineering a recession and
job losses.386 Under its medium term financial strategy unveiled in 1980, Margaret Thatchers
finance minister Geoffrey Howe (19262015) set a target for the growth of the money supply and
upped interest rates, precipitating a sharp recession in the UK.387

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In Western Europe, neoliberal policies were shaped more by the German ordoliberal tradition.
Unlike Friedman, who advocated the market pricing of currencies against each other and the control
of inflation by managing the domestic money supply, the ordoliberals preferred to manage the
exchange rate so as to maintain a stable fixed parity without interfering overly in the setting of
domestic interest rates. In both cases it entailed the assurance of monetary stability at the cost of
employment volatility. In 1979 the European Union established the European Monetary System
(EMS), which linked national currencies to the Deutsche Mark.388 The new system was intended to
pave the way for the setting up of a European Monetary Fund, a precursor to the European Central
Bank, but decisions by the Fed and the Bank of England to raise interest rates compelled the German
Bundesbank to follow suit, strengthening the Deutsche Mark in the process, and forcing a
devaluation of the French franc in 1981. Further speculation on the EMS currencies followed and the
French government, under President Mitterrand, eventually opted to introduce austerity measures
in order to preserve the currency link to the Deutsche Mark.389 Thus from the early 1980s
neoliberalism became the basis of economic policy in the mature market economies. After a brief
period of rising inflation towards the end of the 1970s, David Harvey, a historian of neoliberalism,
observed, the worlds central bankers all converged on the sole policy of controlling inflation at all
costs, thereby abandoning responsibility for employment and unemployment.390

The investment banks had a further interest in neoliberal ideas. Dealing in government bonds
incurred risks if governments acted irresponsibly. Secure investments in government debt meant the
banks needed creditworthy states with whom to transact business.391 Neoliberal views on the role of
the state were integrated into the Group of Sevens end of summit communiqus and the advice
disseminated by the World Bank, IMF and OECD to governments. There needed to be fiscal
responsibility and reform of the public sector.392 One aspect was the notion of central bank
independence. To secure their authority, neoliberals had to insulate themselves from day-to-day
political pressure. In general, the Chicago school had promoted binding policy rules rather than
discretion in deciding on matters like the appropriate rate of interest. Friedman believed that the
Fed had made mistakes during the Great Depression and the correct policy would have been to
follow a rule for monetary stability that ensured that the growth of the money supply was controlled
in line with the underlying growth of the economy.393 In practice it proved impossible to control the
money supply which is mainly in the hands of the commercial banks and decisions on monetary
policy had to be taken based on a mixture of out-of-date data, forecasts and expert judgement. The
next best option was to ensure that the central bank had a mandate to pursue price stability and let
it get on with this job without having to refer matters for the finance ministers approval. The first
central banks to gain independence were those of New Zealand and Chile in 1989 and in the
following decade another 18 followed, including the Bank of England, of Canada, Japan, Argentina
and Mexico. The Maastricht Treaty of 1992 that authorized the founding of the European Central
Bank as an independent institution stipulated that its primary objective shall be to maintain price
stability. The Feds position was not altered but under Volcker and Greenspan it became effectively
independent of the US Presidency.394

From the start, the ECB was under neoliberal management. The ECB adopted many of the policies
associated with the German Bundesbank, which were, in turn, founded on ordoliberal principles.
According to its first chief economist Otmar Issing:

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The ordoliberal tradition represented eminently by Walter Eucken (and colleagues in [the
University of] Freiburg and elsewhere) has had a substantial influence in shaping the post-
war economic order in Germany emphasizing the importance of market competition and
stable money. In the monetary field this found its expression in the setting up of the
Bundesbank as an independent institution dedicated to safeguarding the value of the
currency. [] The same basic principles underlie the creation of the euro as a single and
stable currency for Europe.395

As a student Issing had been much impressed by Hayeks Road to Serfdom (1944) and by Euckens
Principles of Economic Policy (1952) and their arguments against socialism and central planning. In a
lecture in 2004, Issing drew attention to Euckens advice that the competitive order should
function as automatically as possible with little state interference to preserve a free society.
Inflation, Issing contended, was a concealed form of involuntary wealth transfer [ from] those in
possession of financial assets and price stability was essential for a free society.396

Issing was centrally involved in defining the two pillar framework for determining the ECBs
monetary policy. These were an analysis of monetary aggregates and credit developments, which
were accorded a prominent role, and economic forecasting of price movements and the risks to
price stability, including cost-push factors such as wages rising faster than productivity. Issing
accepted that there existed well-known lags in the transmission mechanism of monetary policy to
the economy in general, and the price level in particular, making it impossible for a central bank to
control inflation directly. Furthermore, there was no stable relationship between money and prices,
although he maintained, as Friedman did, that inflation is fundamentally monetary in origin. He
summarized the decision facing the central banks as depending upon the prevailing circumstances
and the source of the threats to price stability.397 At the end of the day, and notwithstanding the
claim to be focussed on monetary aggregates and such like targets, the neoliberals at the helm of
the central banks were going to make monetary policy conditional upon a judgement on how things
looked at the time and whether there were threats to price stability around the corner. It should be
noted that the main, but, usually unstated, threat to price stability was expected to be from trade
union demands for wage increases.

Chapter 6 will examine the way neoliberals approached labour market questions since this aspect
must be factored into the narrative. Suffice it to say that the neoliberals claimed that central banks
could not do anything about unemployment since, over the long-term, it was structural in origin.
Issing told a conference of financial analysts in 1999 that unemployment in the Euro Area was
predominantly structural in nature, the result of rigidities in wage formation, wage and non-wage
labour costs and the scale and duration of [generous] unemployment benefits.398 This neoliberal
stance, accepted by much of the banking community, conveniently permitted the central banks to
tolerate relatively high levels of structural unemployment.399 The discipline exerted by
unemployment and the increasing precariousness of employment on workers wage aspirations was
in practice the key to explaining the Great Moderation.

The establishment of a European Monetary Union was a major and controversial step. Because
exchange rate adjustment was considered to be part of the macroeconomic toolkit, many
economists were sceptical about the benefits and stability of currency unions. Prior to the 1970s, the

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exchange rate was one of the instruments available to governments and central banks to guide the
economy. In the fixed exchange rate regime agreed at Bretton Woods in 1944, governments were
supposed to maintain a balance of payments in and out of the country. They could do this through
fiscal and monetary policy. But if the size of the imbalance grew too large, and the cost of returning
to balance too severe, in terms of tax changes, interest rate adjustment, and on departure from full
employment, governments would exceptionally devalue (or, even less commonly, revalue) their
currency. Currency devaluation could restore the countrys international competitiveness by
lowering the price of its exports, but it also meant that imported goods became more expensive. All
working people had to pay more for imports but only those employed in export industries might gain
from higher sales of those goods abroad. To preserve the fixed exchange rate system the US Federal
Reserve lent dollars to other central banks if they needed to buy their own currency to defend its
value when under attack from speculators. Even with American support, the fixed rate system broke
down from time to time. The Deutsche Mark was revalued in 1961 and the Swiss franc similarly in
1971. The pound sterling was devalued in 1967 and in 1969 the French franc and the Deutsche Mark
were respectively devalued and revalued against each other.400

From the 1980s onwards, however, neoliberal policies favoured market-driven floating exchange
rates, meaning that the deliberate adjustment of the exchange rate was no longer available to
governments, unless they re-regulated through exchange controls. Currency manipulation was
discouraged and free convertibility of currencies was encouraged. Nevertheless it remained possible,
and quite legitimate, for governments to hold in reserve powers to control the exchange rate of
their own currency if macroeconomic conditions warranted. Forming a currency union with other
countries removed this big bazooka from the governments armoury. A currency union also created
a new central bank to oversee monetary policy and this meant that national governments would no
longer be able to set interest rates independently either.401 On the other hand, neoliberals
contended, since the aim of monetary policy was to control domestic price inflation it should not be
directed towards helping a country improve its international competitiveness or restore full
employment, which Monetarists and many mainstream economists believed would be ineffective in
any case.402

Once the tool of a controlled exchange rate was abandoned in favour of relying upon the foreign
exchange markets to establish the rates of exchange between currencies, and it was accepted that
monetary policy was to be used exclusively to control inflation, then the only instruments left in the
governments toolbox were fiscal and structural adjustment policies. The theory implied that if a
country wished to improve its international competitiveness the government would have to do it the
hard way: by encouraging enterprises to become more productive through investment subsidies and
tax breaks for innovation and the disseminating of technology; by raising the capability of workers
through education and training programs and helping them relocate to find better jobs; or through
reducing the costs of doing business, by deregulation and by cutting wages. Nobel prize-winning
economist Bob Mundell, who was loosely affiliated to the Chicago school, devised theories for
optimum currency areas and for supply-side structural adjustment in the 1960s. The theory
suggested that the common currency area needed to have free movement of labour and capital;
price and wage flexibility; and a policy-making mechanism that could transfer public funds to
facilitate supply-side responses anywhere in the trade bloc.403 The labour market flexibility
requirement was necessary to assure monetary stability under the usual neoliberal assumptions.
These elements formed part of the Maastricht Treaty signed by the European Union member states

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in 1992. They agreed to introduce a common currency (later named the euro) alongside the
liberalized single European market and an economic and social cohesion fund to channel resources
into supply-side programs. The latter fund, however, was significantly under-resourced to do the job
of helping the structural adjustment of member states after their currencies were fixed in 1999. The
MacDougall Report of 1977 on the role of public finance in European integration had recommended
that the joint budget of the European common currency area should be around seven percent of
GDP, whereas in practice it was little more than one percent.404 While Jacques Delors, the forceful
socialist President of the European Commission from 1985 to 1994, had managed to drive through
measures to liberalize markets, had doubled the size of the structural funds, and developed firm
proposals for a monetary union in order to give the EU the means to deliver social cohesion,
economic efficiency and stability, he did not succeed in laying the foundations for common resilience
in the face of external economic shocks to the bloc.405

Furthermore, the criteria agreed at Maastricht for accepting member states into the European
Monetary Union bore little relation to Mundells theory and were in practice designed to reassure
German voters that they would not end up paying for the profligacy of other EU member state
governments.406 The criteria required convergence to low rates of interest and inflation but did not
address the divergences in prices among EU member states. The common currency should have
ensured that there was a degree of purchasing power parity when it went into circulation.407 For
example, if Ruritania and Latveria agreed to form an economic and monetary union with a common
currency, the Shilling, they did not just need to establish a common market for the factors of
production and a joint mechanism of funding infrastructure and active labour market measures.
Each country would have to exchange their existing currency for the new one. According to The
Economists Big Mac Index, in this fictitious example, the Ruritanian Florin was worth two Big Macs,
whereas one Latverian Crown only bought 1 Big Macs. To ensure purchasing power parity, with
one Shilling buying one Big Mac, Ruritanians would have to exchange at a rate of half a Florin for
every one new Shilling, while the Latverians would exchange two-thirds of a Crown for every Shilling.
The Shilling would then be worth the same in terms of purchasing power in both Latveria and
Ruritania. Countries with similar standard of living were likely to have smaller price variation and
would therefore be better candidates for economic and monetary union.

Prior to issuing the euro, EU member states had to peg their currencies within a defined bandwidth
to each other, effectively tying their currencies to the Deutsch Mark. As they were also restraining
inflation over several years, this had the effect of raising confidence in these currencies stability and
their longer-term value. Furthermore, Germany itself adopted the euro at too high a rate thereby
dragging all the other currencies in the European exchange rate system along with it.408 Arguably,
therefore, several countries converted their old currencies into euro at the wrong, and over-valued,
rate and this was the cause of much of the trouble that followed.409 Euro Area consumer price
inflation rose from one percent a year to three percent in the first 30 months after the euros launch
in 1999, as prices migrated towards an equilibrium within the single European market, leading the
newly-established European Central Bank to raise the base rates of interest.410 Subsequent to joining
the Euro Area, Greece, Ireland, Italy, Portugal and Spain suffered from higher rates of consumer
price inflation than the Euro Area average.411 The disparity between consumer prices in the EU
member states diminished steadily between 1995 and 2008 indicating that prices were converging
as a result of the liberalization of the European single market. Convergence was greatest in the Euro
Area and in consumer goods: food and beverages, clothing and footwear, transport and household

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equipment. Convergence was lowest in housing and energy costs, healthcare and education where
national controls still applied.412 Almost all countries, including Greece, Ireland, Italy, Portugal and
Spain most severely, experienced rising production costs (and wages) from 2001 until the crash in
2008 reflecting the price rises in those countries. Over the same period, German labour costs fell as
the Hartz labour market reforms took effect. These tendencies were exacerbated by asset price
inflation and undermined the international competitiveness of most Euro Area countries.413 The
neoliberals had relied on the foreign exchange markets to establish the correct value between
national currencies rather than their purchasing power in the real economy. They neglected the
importance of ensuring that the new currency had the same or similar purchasing power. That
meant that price convergence involved price rises in the lower cost countries, which comprised the
European periphery, beyond the core where living standards were already broadly similar. Higher
consumer price inflation, above the two percent a year target, in Greece, Ireland, Italy, Portugal and
Spain, fed into rising costs of production and undermined their exports competitiveness in world
markets. For these Euro Area countries, regaining international competitiveness entailed cost-
cutting and fiscal austerity.

Central bankers had studied the experience of the Great Depression of the 1930s and especially the
arguments presented by Milton Friedman.414 This analysis pinned the blame for the Great
Depression on muddled economic policy-making by governments and central banks, and effectively
absolved capitalism. In Friedmans account, governments and central banks had responded to the
Great Depression by limiting monetary liquidity, which had made things worse.415 As the world
economy collapsed in the second half of 2008 and continued to shrink in 2009, the major central
banks therefore cut interest rates and undertook quantitative easing to funnel money into the
banking system by buying the banks holdings of government bonds and good quality corporate
bonds. In return for saving the capitalist system from potentially catastrophic economic collapse, the
central banks demanded that governments reduce their indebtedness by running balanced budgets.
They did the opposite of what their predecessors in the 1930s had done and halted the depression
by adding liquidity to the monetary system. Even so, and based on quasi-Monetarist assumptions,
neoliberals in the central banks and finance ministries believed that quantitative easing had to be
offset by fiscal austerity to avoid accelerating inflation. Despite the fact that Friedmans theory (that
more money in circulation caused price inflation) had been disproved long before, neoliberal policy-
makers continued to claim that such a risk still existed.416 Moreover, the evidence from Japan, which
had pioneered quantitative easing in 200102 after a decade of economic stagnation following the
bursting of its own asset price bubble, showed it had made little impact on continuing price
deflation, let alone ignited runaway inflation.417

In the 1990s Japan went through a precursor crisis to that which engulfed the world in 2008. Easy
credit terms in the 1980s and what The Economist magazine called collusion and conspiracy within
the Iron Triangle of the keiretsu (big business and banking groups), the government bureaucracy
and conservative politicians from the Liberal Democratic Party, to finance infrastructure and private
investment, spilled over into a property price bubble. For years it all worked well. With their flows
of capital assured, Japanese companies were able to take the long view. With the help of lifetime
employment, pliant enterprise unions, and a seniority system whereby labour came cheap at the
outset in return for guaranteed rewards at the end, companies could invest in research and

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development. Productivity and profits soared [ and many companies became] world-beaters.418
When property prices collapsed in 1990, the banks found themselves with loan books populated by
borrowers without sufficient capital to repay. Over the ten years after 1989, commercial property
prices dropped by 84 percent in Japans six biggest cities. By 2000, the investment bank Goldman
Sachs estimated that non-performing loans amounted to 170 trillion (about one-third of GDP). At
its peak, in 1999, the ratio of debt to operating profits at large and medium-sized enterprises stood
at 15-20 percent, up from less than 10 percent in the 1980s. Companies stopped investing in order
to pay off their debts. Unemployment fuelled by lay-offs rose from 2 percent in 1990 to 5.5 percent
in 2002.419 The Monetarist Governor of the Bank of Japan, Masaru Hayami (19252009), argued that
structural reforms had to take precedence over monetary easing, which he feared would lead to
inflation despite the reality that prices were falling year-on-year. Consumer price deflation of one
percent a year on average set in from 1999 and continued for over a decade.420

The election of Junichir Koizumi as prime minister in 2001 prompted the Bank of Japan to begin a
program of quantitative easing by buying government debt. Instead of cutting public expenditure,
the Japanese government increased spending, especially through a massive and long-lasting
program of investment in infrastructure. The Japanese government paid no attention to neoliberal
prescriptions and its public debt rose to 190 percent of GDP by 2010. But the reason for this torpor
in reform, as The Economist described it, lay in the governments reluctance to upset voters by
imposing a sales tax to raise extra revenues and improve public finances.421 The government had no
problem selling bonds to Japanese savers but those same households were unwilling to accept
higher taxes just to permit the government to balance its books. As the economy began to recover, it
had taken fifteen years for companies to work off their accumulated debts and bring them down to
the levels of the 1980s.422 By 2014 government debt had risen to 245 percent of GDP but at last
Tokyo property prices had started to rise.423

When the financial crisis struck in 200708, central bankers looked into their toolbox for an
appropriate response. There were three usual instruments of monetary policy. The first were the
overnight deposit facilities, which paid commercial banks a rate of interest on the balances they
deposited into the central banks account and lent out at interest to those banks which needed more
cash to balance their books at the close of the trading day. Altering the interest rate at which the
central bank lent to the commercial banks obliged the latter to change their own rates of interest
charged to borrowers or paid to depositors. The central bank was the lender of last resort and in
normal economic conditions the commercial banks lent to one another to cover their end of day
needs an interbank lending rate set in London was the benchmark worldwide (and the object of
fraud as it turned out during the crisis). Secondly, the central bank could alter the minimum reserve
requirements it imposed on commercial banks. This requirement meant that the commercial banks
had to maintain a fund that could absorb fluctuations in their lending and borrowing activity. Thirdly,
the central bank could engage in open market operations in buying and selling bonds or other
securities in the financial markets. The ECBs Otmar Issing indicated in 1998 that these so-called
structural operations may take the form of outright purchases or sales of securities or the issuance
of debt certificates.424 Although there was surprise when the president of the ECB Mario Draghi
announced in 2012 that the bank would engage in outright monetary transactions to address
severe distortions in financial markets, by buying Eurozone government bonds, in fact this type of
operation was always part of the armoury.425 Essentially, the operation either injected money into
the banking system or siphoned it out, thereby altering the money in circulation directly. The ECB

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was prevented by its statutes from buying government bonds directly from state treasuries, but this
restriction did not apply to most other central banks. Indeed, buying government bonds to finance
the state was the prime purpose in setting up the central banks in the seventeenth century. While it
was not a practice that found favour outside wartime, governments did occasionally obtain finance
directly from the central bank. The Bank of England lent money directly to the UK government in
1977 when the treasury was unable to find private buyers for its bonds.426

Sometimes called peoples quantitative easing, the direct purchase by the central bank of the
governments bonds in order to finance a quantum leap in state investment in order to restore full
employment (as will be outlined in Chapter 11) could form an important part of the monetary toolkit
available to a progressive government.427

Managing a monetary commodity production economy is undoubtedly difficult. Any economic

system is complex and its complexity varies according to the number of interconnections between
the activities necessary to deliver the goals set by autonomous agents, whose accountability for
their actions is highly diverse, with some actors, like employees, strictly monitored and others,
investors for instance, who can do much as they please provided they remain within the law.
Complexity increases in a capitalist market economy because the vast majority of resource owners
are independent and not under any obligation, other than those they have entered into by contract,
to one another. It is, essentially, a situation of anarchy. Liberals and conservatives of all stripes
counselled regularly against government intervention and promoted the view that left to itself a
market economy would settle into a stable pattern that rewarded all. Even at the height of the Great
Depression, the Chicago school of economics was criticizing Roosevelts New Deal and when Keynes
showed how macroeconomic management by government could improve the situation for working
people, they redoubled their efforts to devise a counter theory. Friedman and Lucas, among others,
presented a Monetarist approach that won favour with the banking community, and especially
within the investment banks hit badly by the high rate of inflation in the 1970s.

When neoliberals took over economic management in the 1980s they sought to manipulate the
levers through monetary policies to stabilize the system. But in doing so they misjudged the damage
that raising interest rates could inflict and they found they could not in practice control the money
supply, as they claimed they could. During the financial crisis from 2008, they tried another couple
of levers quantitative easing and negative interest rates to bring the economy back towards
equilibrium, and, once more, found that the system did not behave as predicted.

Although only a minority of economists held faith with the quantity theory of money, the neoliberals
continued to assert that the independence of central banks in deciding monetary policy was crucial
to ensure that inflation (and deflation) remained under control. Given the uncertainty in being able
to forecast inflation, the claims made by central banks to be following their mandate lack sincerity.
Whether they are being deliberately deceitful or not, the conclusion must follow that central banks
in practice do not target consumer price inflation, but the movement in wages. Their stated
purpose of controlling inflation means in reality controlling wage growth and maintaining a sufficient
level of unemployment to ensure employers retain the upper hand in the labour market. These
questions will be considered further in Chapter 6, but the evidence is clear that the lower levels of
inflation experienced from the 1990s onwards was the result of neoliberals toleration of persistent

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structural unemployment, rather than the abilities of independent central banks in managing
monetary policy.

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Part III: Issues and solutions

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6 Hunting for winter strawberries

Economic forecasting was woeful before and after the financial crisis of 200708. Most economists
did not foresee the risks posed by asset price inflation before the crash and, afterwards, too many
expected the crisis to be short-lived.428 Each year governments admitted that recent economic
growth had been disappointing, but suggested that the corner would be turned in the next year with
better results expected in the following year. Forecasts of growth were downgraded as evidence of
recession continued to mount but recovery was nevertheless anticipated in the near term.429 After
collapsing in 2008, economic growth, stock markets and world commodity prices recovered for a
while before falling once more. It was not just a problem in mature market economies but also in the
previously rapidly expanding emerging markets.

To its credit, the IMF owned up in 2013 to past forecasting errors. Chief economist Olivier Blanchard
suggested that forecasting errors arose from an under-estimation of the fiscal multiplier. In other
words, the IMF and other organizations such as the European Commission, had under-estimated the
impact of cuts in public spending on the economy. The problem lay deeper still, however. Economic
models were based on an assumption that an economy would bounce back after a shock. An
economy would return to its trend rate of growth after a shock normally.430 Nevertheless,
Blanchard and others recognized that from time to time an economy might not react this way. Like a
spring that has been pulled out of shape, the economy might reform along a different growth path.
This phenomenon went under the name of hysteresis. Instead of growing at two percent a year, a
mature market economy might shift to lower growth path or even into receding growth, that is, into
near permanent recession.

Most observers expected the unusually deep recession to be followed by an unusually rapid
recovery, with output and employment returning to trend levels relatively quickly, Larry Summers
explained. The key to understanding [the current] situation lies in a concept, first put forward by
the economist Alvin Hansen (18871975), in the 1930s. The economies of the industrial world, in this
view, suffer from an imbalance [ of] excess saving [which] acts as a drag on demand. This glut of
saving, also identified by Ben Bernanke, a former chairman of the US Federal Reserve, was
associated with high levels of indebtedness, built up during the period when central banks kept
interest rates low and by the influx of cash from developing and emerging industrial economies into
the mature market economies.431 Summers, following Hansen, called this secular stagnation.
Enterprises hoarded their cash rather than invest it, thus hampering employment growth. Low rates
of interest encouraged the tendency to speculate on the financial markets instead of investing in
enterprise. Interest rates needed to be negative, to deter saving, in order to re-balance the

Other reasons for receding growth were not hard to identify. High energy prices at a time of
stagnant wages meant households were cutting back. Secondly, unemployment put pressure on
welfare bills, and with tax receipts falling, higher welfare costs meant other expenditures had to be
cut. Unemployment also affected the amount of spending by the affected households. In Britain, for
example, the jobseekers allowance was paid for the first six months of unemployment; after this,
claimants were awarded benefits on the basis of their household income. If an unemployed person
rented a room out or his or her partner was in work, that income was offset against the benefit paid
to the jobseeker. If the public employment service officer considered that the jobseeker was not

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applying for enough jobs, then the benefit would be cut as punishment. Benefits were not
predictable and set at a level well below the minimum wage, so workless households could not
afford to make plans and restricted spending to what they received. A lengthy period of
unemployment usually meant that a family would be forced to wind up its home purchase
arrangements and move to cheaper rented accommodation.

The long recession challenged policy-makers because the usual assumption that the economy would
recover automatically proved false. Wishful thinking continued unabated for several years
nonetheless. It fed popular illusions that a job could always be found if the jobseeker looked hard
enough. Both the public and the public officials peddled the line that jobs were available to all who
looked, when in fact it was never possible for all jobseekers to find a job in the same week or
month or year until well after the recovery had bedded in. Even then, the matching of jobs with
jobseekers would not be perfect, leaving many still looking for work. Norman Tebbit, a minister in
Margaret Thatchers government, famously advised the unemployed in the 1980s to emulate his dad
in the 1930s: get on yer bike!433 But when jobs are few and far between, searching for them is
likely to be the same as hunting for strawberries in winter. It is possible that you could be lucky and
find a frost-free sheltered spot with a strawberry that has not yet been eaten by a slug, squirrel or
another human forager. Possible, perhaps, but the odds are very small. It does not matter how many
bushes you look under if there are no strawberries still growing in winter.

The rational response for many jobseekers during a recession is to hibernate until summer brings
out the fruit again. To be sure, working people who stop looking for work in a serious way when they
know the situation is tough are labelled malingerers and benefit cheats by many and discouraged
jobseekers by social scientists. Once the economy picks up, they will look for employment once
more. Until then they will struggle to get by with temporary assignments, sometimes in the informal
sphere of mutual exchange, and claim whatever benefits they may be entitled to.

Mainstream neoclassical economics proposed that some winter strawberries are available despite
evidence to the contrary. All that needed to happen was for wages to fall low enough to persuade
enterprises to take on more workers instead of investing in new capital equipment. Those
arguments had been refuted in the 1930s, with a leading role played by Maynard Keynes. Keynes
had since 1924 advocated a program of public investment to soak up unemployment. It was not a
new idea, but the problem was how it could be financed, since it was assumed by most economists
that there was a more or less fixed pool of savings and if the government raised loans for investment
this meant that private enterprises would be denied finance.434 As early as 1817, in a letter to
Thomas Malthus, David Ricardo wrote that if the government borrowed money to employ the poor
on public works this would merely divert those funds from other employments that would be
equally if not more productive to the community. He concluded: I believe every interference is
prejudicial.435 So the theoretical problem Keynes wrestled with concerned the role of money and
finance. As recounted in the previous chapter, Keynes acknowledged that he had drawn upon the
work of the radical anarchist Silvio Gesell, who had been finance minister of the Soviet Republic of
Bavaria, in 1919 (for a week until it was overthrown by the Freikorps).436 Keynes then published his
solution in his book The General Theory of Employment Interest and Money (1936), although his
ideas were not taken up until a decade later. In the meantime the Nazis in Germany and President

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Roosevelts New Deal in the USA had established that government fiscal deficits could bring down
unemployment (Keynes and Roosevelt did meet on occasion and share ideas).437

The ideas set out in the General Theory took time to be accepted as government policy. Following
the publication of his famous 1942 report on social insurance, senior British civil servant William
Beveridge wrote another report called Full Employment in a Free Society (1944). His aim was to
combat the five giant social evils of want, disease, ignorance, squalor and idleness with government
programs for social security, public health, education, housing and employment.438 He defined full
employment as implying that the labour market should always be a sellers market rather than a
buyers market, so enabling unemployed men to have the certainty [ to] be wanted in a new
job that is within [their] powers and that the normal lag between losing one job and finding
another will be very short. He was concerned also to preserve the essential liberties of a free
society. Government should resist organized sectional pressures; there should be freedom of
association, choice of occupation, and the freedom to decide how to use ones personal income.439
An appendix written by Nicky Kaldor (19081986) discussed the macroeconomic aspects of
maintaining full employment and advocated continuous public borrowing by the government for
investment and the redistribution of income to boost consumption. His model showed that with a
fully employed economy there need be no tax rises between 1948 and 1970 so long as there was
sufficient public investment financed from the issuance of public debt carrying an average rate of
interest of two percent a year. Kaldor concluded that the contention that a policy of increasing the
national debt in peace time involves a steadily increasing potential burden on the taxpayer is very far
from the truth. He also proposed that the state should invest in projects with a social or
environmental return to take account of external costs that were not captured by market pricing.440
Such was the ambitious birth of economic management along Keynesian lines. In 1944 the wartime
coalition government of Conservatives and Labour under Winston Churchill adopted the goal of a
high and stable level of employment.441 Keynesian analysis had shown that both the demand and
supply sides had to be tackled. On the demand side, enterprises could not sell enough goods and
services to employ everyone who wished to work there was a lack of effective demand. On the
supply side, working people without employment fell into poverty and could not satisfy their basic
needs, which made the situation progressively worse. It was accepted widely that it was the
governments job to intervene with a fiscal and monetary stimulus to get the economy moving again
and provide social security.

In the USA, President Franklin D Roosevelt (18821945) set out a proposal in his 1944 State of the
Union address to the Congress for a series of social rights, including the right to a useful and
remunerative job, to a decent home and to adequate medical care [] and adequate protection
from the economic fears of old age, sickness, accidents and unemployment.442 These rights were to
be incorporated into the Universal Declaration of Human Rights adopted in 1948, which was drafted
by a committee chaired by Eleanor Roosevelt (18841962), the former first lady. The 1946
Employment Act affirmed the federal governments responsibility to create and maintain conditions
under which there will be afforded useful employment opportunities, including self-employment, for
those able, willing, and seeking to work, and to promote maximum employment, production, and
purchasing power.443

An unforeseen problem then emerged, however: consumer price inflation. Working people and their
trade unions were often blamed for inflation because they sought inflationary pay rises.444 The

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economist Paul Samuelson (19152009) described this as sellers inflation since there was no
greater degree of causation proceeding from wage rates than from profit rates and the process need
not come from unilateral union pressure but rather from the interacting institutional framework.445
Nevertheless, it was evident that wage-setting arrangements transmitted rises in the cost of living
into the domestic costs of production and thus into still higher consumer prices. It helped explain the
interest in the statistical relationship known as the Phillips Curve. The relationship described the
impact of unemployment on wages and price inflation. When unemployment was low, a price-wage-
price spiral could set in, with enterprises passing on higher costs to consumers in their prices.

Persistent price inflation set in from the 1960s. It was facilitated by oligopoly in the mature market
economies, whereby a few companies engaged in monopolistic behaviours and effectively set
prices.446 A small number of large corporations, relying on economies of scale and high productivity
in production, were able set up their own distribution channels and used advertising, branding and
product differentiation to avoid all-out price competition and thus maximize their profits.447
Oligopoly also permitted producers and retailers to pass on the rising costs of goods and services to
consumers. A price-wage-price spiral established itself in many countries where trade union-
organised collective bargaining prevailed. Price increases thus became generalised and embedded,
in turn causing exchange rate instability and eventually, in 1971, to the collapse of the fixed
exchange rate system agreed at the UN Monetary and Financial Conference, hosted by the USA at
Bretton Woods in 1944. The cartel of oil-producing countries, OPEC, added to these woes by forcing
up oil prices between 1971 and 1973. To break the price-wage-price spiral, some governments
adopted Monetarist policies, lowered the value of unemployment benefits and placed curbs on
trade union activities. Although these same governments also sought to encourage competition by
breaking up price-fixing cartels and controlling mergers and acquisitions by companies, their
principal target was the power of organised workers, whether this was explicitly promoted by the
likes of Margaret Thatcher and Ronald Reagan, or through so-called labour market reform. Trade
unionists were ultimately unable to protect their members standard of living and jobs.

When Bill Phillips (19141975) discovered a statistical relationship between the rise and fall in wages
and the rate of unemployment in Great Britain, economists realized that there might be trade-off
between inflation and unemployment. Over the period 1861 and 1957, wages tended to rise when
unemployment was low and to fall or stagnate as unemployment rose. The same phenomenon was
confirmed in other European and North American countries. Since wage rises formed a significant
component of price inflation, the Phillips Curve was used to predict the equilibrium rate of
unemployment that was associated with stable prices: the non-accelerating-inflation rate of
unemployment (NAIRU), sometimes also called the equilibrium or natural rate of unemployment. In
Britain, the NAIRU was estimated to be three percent in the 1960s.448 If unemployment dropped
below three percent, the rate of inflation would be greater than zero as workers gained greater
bargaining power; at three percent, the economy was in equilibrium, being close to full employment
and with stable prices.

The trouble for economists was that after the mid-1960s the Phillips Curve relationship between
unemployment and inflation broke down.449 In other words, a much looser correlation existed when
the data sets of prices, wages and unemployment were updated in subsequent years. Even so,

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economists continued to assume a Phillips Curve-type relationship in econometric models of the

economy. The NAIRU was assumed to be a feature of the economy and this then allowed policy-
makers to decide on the amount of fiscal or monetary stimulus that would be necessary to restore
the economy to balance. The consensus among economists and central bankers warned
governments not to try to push unemployment below the NAIRU by means of a fiscal or monetary
stimulus, as inflation was bound to follow 18 to 24 months later.

Economists models of the economy depend upon the existence of statistical relationships between
incomes, savings, consumption, investment and so on. The statistical relationships must be used
carefully, however. To take another example, there is a strong statistical relationship between
crossing a road and being run over by a car or truck. But this does not mean that the two events will
always coincide. The same applies to all statistical relationships identified in economics.
Furthermore, the fact that one can often cross a road without being struck down in no way
disproves the relationship. The relationship (if measured correctly) is a fact, even if the risk
associated with crossing a road varies between one location and another or between one time of
day compared to another. Any prediction based on a statistical relationship of this sort will
frequently turn out to be wrong in the experience of any one person (who might well go through
life without ever being hit by a vehicle). Economic forecasts almost never turn out to be spot on, but
this does not invalidate economics as a science.

It is quite possible to base a policy on such relationships, although policy-makers have to be

cautious. The apparent fact that the NAIRU was around three percent in the 1960s but rose to
around four to six percent and then to over ten percent in the 1980s, when unemployment was
plotted on Phillips Curves for the UK, should have sounded warning bells.450 The NAIRU for the USA
was estimated to be five percent in 1950 and rose to six percent in 1978 before falling back to five
percent by 1995.451 Economists were somewhat coy about explaining the rise in the NAIRU since the
1970s. As the NAIRU is a measure of structural unemployment, if such unemployment increased as
a result, say, of industrial restructuring as jobs in heavy industry were cut then it followed (on the
basis that there was a statistical relationship) that structural unemployment would also be higher.
But why should the relationship between structural unemployment and inflation change? A proper
theory should be able to explain the changes in the statistical relationship. Olivier Blanchard, later
chief economist at the IMF, advanced a suggestion that the NAIRU had risen as a result of a general
increase in the real rate of interest (the interest rate after taking account of inflation).452 In other
words, the adoption of Monetarist policies by governments and central banks in the early 1980s, to
squeeze out inflation by punishing the economy with high rates of interest, had altered the
behaviour of enterprises, leading to a lower rate of job creation. Enterprises often use a hurdle rate
to decide whether an investment is worthwhile, with the rate of interest setting a lower bound to
the hurdle rate: an investment must have an expected rate of return of x or y percent above the
interest rate (the return on keeping money in the bank) to pass the test. If the rate of interest goes
up, then so must the hurdle rates used by enterprises, meaning that fewer investment projects
looked worthwhile and therefore fewer jobs were created overall. Lower real interest rates from the
1990s onwards could then explain the subsequent fall in the NAIRU.

Blanchards hypothesis received backing from a study by the German Institute for Economic
Research (DIW) in 2003, which looked at the impact of the real rate of interest on the NAIRU. The
study found that in the countries of what became the Euro Area, the real rate of interest rose by 7.5

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percentage points between 1975 and 1992. Over the same period, the estimated NAIRU for the Euro
Area went up from 2.7 percent in 1975 to 10.5 percent in 1994, a rise of 7.8 percentage points, and
then fell back to 8.6 percent by 2001. Of this 7.8 percentage point rise in the NAIRU, the studys
authors attributed 43 percent to higher real interest rates; in other words, had the real rate of
interest remained at its 1975 level, the NAIRU would have stood at 6.1 percent rather than 10.5 in
1994. Two other factors were examined in the study: a fall in productivity growth (since productivity
and wages setting are linked) explained 0.2 percentage points of the NAIRUs rise and an increasing
tax burden on labour (the so-called wage wedge) explained another 0.2 percentage points. The
latter two factors are supply-side factors, whereas the rise in real interest rates is a demand-side
factor; that is, it affects the demand for labour. Thus, the DIW economists left over half of the
NAIRUs rise unaccounted for.453 It pointed to inadequacies in the Phillips Curve hypothesis.

Since there could be no doubt that structural unemployment existed, the challenge for economists
lay in explaining how to reduce it. Economic consensus suggested that while the initial rise in
unemployment arose from a shock to the economy such as a growth slowdown, industrial
restructuring or austerity policies (all demand-side factors) its persistence was attributable to
institutional rigidities affecting the way the labour market worked (that is on supply-side factors).454
Mainstream economists, influenced by Monetarism, that is, by neoclassical macroeconomics,
considered that structural (or supply-side) reforms were the only way to reduce the NAIRU and allow
the economy to find an economic equilibrium at full employment. But without sufficient evidence as
to why the NAIRU had risen in the first place, it was not clear what measures would be most
effective to reduce structural unemployment. If old-style Keynesian policies on the demand-side
could not do the trick without risking higher inflation, then they had to come up with alternative
solutions to the problem of structural unemployment.

Labour markets are not like other commodity markets. For example, the price of bananas is
determined by the interplay of supply and demand in an auction. When there is a good crop, banana
growers receive a lower price per banana than when the supply is scarce. But since the growers sell
more bananas after a good crop they are no worse off and usually better off, even though the price
is lower. Moreover, the market clears as the auction leaves no bananas unsold, except the damaged
fruit, perhaps. Labour markets work quite differently. When workers gather at a hiring location to
wait for employers to hire them for the day, they are participating in a type of auction. If there are
many jobseekers, the employers can bargain the daily wage down. But unlike the banana auction,
some jobseekers may be left without work for the day. The labour market does not clear.
Furthermore there is a limit how small a wage jobseekers will accept, since they have to live off the

In one of his parables, Jesus of Nazareth looked at this situation. The story is told in the Gospel
according to Matthew, Chapter 20. An owner of a vineyard hires a number of labourers early in the
morning for a days work at a wage of one denarius. At 9 am he passes the hiring location and sees
that some jobseekers are still waiting for employment, so he hires some of them as well. The same
thing happens at midday, and at 3 pm and 5 pm. At 6 pm, at the end of the working day, the owners
steward pays all the labourers one denarius each. Some of them grumble: These last only worked
one hour, and you have made them equal to us who have borne the burden of the day and scorching

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heat. The owner reminds them that he has paid the agreed wage, so why should they object if he
has been generous and paid the same to those who put in fewer hours?455 The main lesson from the
parable concerns Gods grace. A pious believer who follows Gods laws all his life may receive the
same reward of everlasting life in Heaven as a sinner who has only repented at the last hour.
The second message Jesus was sending out concerns the responsibility of the rich towards the poor.
Every labourer needed one denarius to feed his family and if the rich man had work available he
should offer it to those who needed to labour for a living.

Theoretically in neoclassical economics, a fully competitive labour market would operate without
trade unions and the only laws governing it would be the law of contract. To give this model a
contemporary flavour, imagine an online platform where employers offer work for the day in lots of
one hour or more. Jobseekers bid for the lots and the auction continues until everyone wanting work
has a job lasting at least one hour. Clearly one hours work is not sufficient in practice. But unless all
the hours offered by employers are shared among everyone who wants a job, someone could easily
end up unemployed. That is the difference, as far economics is concerned, between labour markets
and other commodity markets. Even if employers can offer part-time jobs or zero-hours contracts,
some working people could be without jobs if hours are not shared equally at a basic living wage, as
Jesus might have proposed or if the government guarantees the right to work and creates jobs
itself, when there is a shortfall in the economy.

It may be noted that capital markets do not clear either. A market has cleared when all the goods
have been sold. In terms of the market for capital, it would mean that all capital funds have been
allocated to projects and ventures that were expected to generate a sufficient return. No funds
would be left over as cash reserves or hoarded speculatively, since, theoretically, all market
participants had the same information and any uncertainty would have been dealt with by buying
insurance. There would thus be no preference for liquid funds, as the Keynesian model envisages.
The fact is that such a world does not exist. The reason that capital markets do not clear arises from
uncertainty about the future, and therefore capitalists, the owners of capital, hold back some funds
in case something unexpected happens. The financial crisis of 200708 occurred because financial
institutions believed that by hedging their ventures through exotic financial products (such as,
collateralized debt obligations and credit default swaps), they had de-risked (that is, insured)
themselves against unanticipated risks that their investments in, say, the housing market, went sour.
Some of these insurances turned toxic they amplified risks when the prices in the asset markets, to
which they were linked, turned and the owners, mostly banks and insurance companies, found
that their liquid reserves were insufficient to permit them to continue trading with potentially
massive liabilities on their books. They then turned to governments to be bailed out.456

The only mature market economies to have enjoyed close to full employment consistently over the
last 50 years were Austria, Japan and Switzerland. From the mid-1970s onwards, the remaining
mature market economies suffered from persistent unemployment that typically ranged between 5
to 9 percent of the labour force, as can be seen in Table 6-1. In the first period from 1960 to 1974,
unemployment tended to be lower in Western Europe and Japan than it was in North America. All
countries experienced a rise in unemployment from 1974 onwards and none ever enjoyed again the
same low rates as had prevailed in the 1960s.457

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Table 6.1: Unemployment rates in selected countries 19602015

Country 19601974 19751983 19841994 19952008 20092015

Australia Peak 2.5 10.4 11.1 8.7 6.2
Average 2.1 6.4 8.6 6.4 5.5
Structural 2.7 5.7 7.8 6.4 5.4
Austria Peak 2.8 4.1 4.0 5.7 5.9
Average 1.8 2.4 3.6 4.6 5.1
Structural : : 3.8 4.1 4.4
Belgium Peak 3.0 11.0 10.9 9.9 8.6
Average 2.5 8.8 8.7 8.1 8.0
Structural 2.6 6.0 8.0 8.1 8.0
Canada Peak 7.6 12.9 11.6 9.8 8.6
Average 5.3 8.5 9.8 7.4 7.6
Structural 5.3 8.1 9.4 7.7 6.6
France Peak 2.5 9.4 12.4 12.5 10.5
Average 2.1 6.1 10.5 9.7 9.7
Structural : 5.1 8.3 8.7 8.9
Germany Peak 1.8 6.3 8.5 11.2 7.8
Average 0.7 4.1 8.0 9.1 6.0
Structural : : 6.8 8.1 6.3
Italy Peak 5.9 7.9 10.6 11.5 12.8
Average 5.4 7.5 9.1 9.1 10.0
Structural 5.9 6.0 8.6 8.9 8.4
Japan Peak 1.8 2.7 3.0 5.4 5.4
Average 1.3 2.2 2.5 4.4 4.5
Structural 1.5 1.6 2.4 3.8 4.1
Netherlands Peak 2.2 10.2 9.4 8.4 7.8
Average 1.6 6.7 7.1 4.9 5.8
Structural 2.8 5.6 7.7 5.3 5.5
Spain Peak 3.1 17.5 22.2 20.8 26.2
Average 1.9 10.0 18.8 12.6 22.4
Structural : 8.6 14.4 14.1 17.3
Sweden Peak 2.7 3.8 9.8 10.3 8.9
Average 1.9 2.5 3.9 7.0 8.1
Structural 2.7 3.1 5.1 7.2 7.4
Switzerland Peak 0.0 0.8 3.5 4.4 5.1
Average 0.0 0.4 1.6 3.6 4.3
Structural : 0.6 1.7 3.4 4.0

UK Peak 4.2 13.3 11.3 6.1 9.9

Average 2.3 7.2 9.5 5.7 7.5
Structural : 7.1 9.2 6.4 6.3
USA Peak 7.0 10.7 11.3 6.1 11.0
Average 5.0 7.7 6.5 5.0 8.3
Structural : 6.2 6.0 5.6 5.5
Sources: International Labour Organization; Organization for Economic Cooperation and
Development; national statistical bodies. Data retrieved September 2015.

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Structural unemployment is a statistical category measuring the pool of jobless people who did not
find work over the course of the economic cycle. The estimated rate for structural unemployment
will be similar to the average rate of actual unemployment if the latter is also measured over the
economic cycle (and the periods chosen here roughly match the cycles of accelerating growth and
recession). Structural unemployment is the result of labour markets that cannot clear. It means
that there is a certain overall number of people unable to find jobs, no matter what they do to
improve their employability, or how lucky they are in practice, unless the government creates jobs
and restored full employment.

Halfway through this period of persistent unemployment the governments of the Organization for
Economic Cooperation and Development (OECD) countries decided to study the causes and explore
solutions. The OECD Jobs Study reported formally in May 1994, but its conclusions informed a Jobs
Summit, convened in Detroit, USA, that March by the Group of Seven major industrial countries and
the European Union. The summit was held at the initiative of US President Bill Clinton and his Labour
Secretary Robert Reich. The Jobs Study concluded that the reason why some countries were better
at creating jobs and bringing down unemployment than others lay in their different capacities for
structural adjustment.

In a world where trade in goods and services, as well as international investment flows,
develop much faster than domestic economies, where technologies are developed and
diffuse extremely rapidly, and where domestic markets are being liberalized, competition is
constantly increasing. To stay in the race, firms and their staff must continuously
innovate and improve their efficiency.458

Having decided that the problem of job destruction/creation resided in the private sector, the
governments of the OECD countries laid out a program of ten recommended measures for the public
sector, which they called the OECD Jobs Strategy:

1. Set macroeconomic policy such that it will both encourage growth and, in conjunction
with good structural policies, make it sustainable, i.e. non-inflationary.
2. Enhance the creation and diffusion of technological know-how by improving frameworks
for its development.
3. Increase flexibility of working time (both short-term and lifetime) voluntarily sought by
workers and employers.
4. Nurture an entrepreneurial climate by eliminating impediments to, and restrictions on,
the creation and expansion of enterprises.
5. Make wage and labour costs more flexible by removing restrictions that prevent wages
from reflecting local conditions and individual skill levels, in particular for younger
6. Reform employment security provisions that inhibit the expansion of employment in the
private sector.
7. Strengthen the emphasis on active labour market policies and reinforce their
8. Improve labour force skills and competences through wide-ranging changes in education
and training systems.

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9. Reform unemployment and related benefit systems and their interaction with the tax
system such that societies fundamental equity goals are achieved in ways that
impinge far less on the efficient function of labour markets.
10. Enact policies to promote product market competition (added in 1995).459

Robert Reich had hoped that the Detroit Jobs Summit would result in the marriage of US-style labour
market flexibility with European-style education and training, buttressed by expansionary
macroeconomic policies.460 Instead, few of the assembled ministers and experts agreed with Reich
and the summary of the conference proceedings was made by his colleague Lloyd Bentsen, the US
Treasury Secretary. Bentsen stated that the G-7 governments and the EU recognized the
fundamental role of the private sector in creating jobs. Growth could be supported by opening
markets and international trade, while sound macroeconomic policies could also play their part.
Closing markets hurts all our efforts to create jobs, he added. The task for governments was to
pursue structural reforms [to] make our labour markets and employment systems far more
adaptable to change. We need [] to pursue policies to take down barriers and to strengthen our
markets. It meant making work more attractive than remaining unemployed and providing
education and training to the long-term unemployed and disadvantaged. But, he insisted, it was for
the private sector to retrain its existing workforce to permit the uptake of new technologies.461

The structural reforms were then endorsed by the G-7 governments at their next full summit in
Naples, Italy, in July 1994. That communiqu spoke of increasing investment in education and
training and developing a culture of lifetime learning; of reducing labour rigidities which add to
employments cost or deter job creation, [eliminating] excessive regulations and [ensuring] that
indirect costs of employing people [that is, social security contributions by employers] are reduced
wherever possible; of pursing active labour market policies that will help the unemployed to
search more effectively for jobs and [ensuring] that social security systems create incentives for
work; and of promoting competition. The G-7 governments asserted once more that opening
markets fosters growth, generates employment and increases prosperity and they promised to
continue the momentum of trade liberalization.462 The emphasis of the Jobs Study and the G-7
deliberations was on neoliberal market opening and competition, deregulating labour markets,
cutting social security benefits, and bullying (otherwise known as targeting) working people when
they could not find work.

The Jobs Study was, notwithstanding, a substantial piece of international economic research. It
rested on the proposition that since normal Keynesian fiscal and monetary measures appeared not
to work governments should instead create the conditions that would facilitate private sector job
creation. Governments should undertake fiscal consolidation to reduce public deficits and avoid
overheating the economy and sparking price inflation. A stable macroeconomic environment would
encourage the private sector to invest and expand the demand for labour. The problem of
unemployment lay in the failure of labour markets to adjust to competitive pressures on the supply-
side.463 Over the next years, governments implemented reforms to increase labour market flexibility.
Governments lowered the value of unemployment benefit in relation to the average or minimum
wage to incentivize jobseekers to accept lower paid employment. Non-standard employment
contracts were permitted whereby employers could hire personnel for short periods and avoid
responsibility for redundancy. Some encouraged wage bargaining at plant level rather than at
industry or national level and discouraged trade unions. Most governments stepped up programs to

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help jobseekers find work and re-train, with so-called active labour market measures (to be
distinguished from passive measures, such as paying unemployment benefit and advertising jobs at
labour exchanges).

Labour markets may be divided according to two dimensions: the degree of centralization/
decentralization in wage bargaining; and the degree to which the government pursues active labour
market measures. Additionally, labour markets may be segmented into a formal sphere of qualified
employees and registered jobless; a marginalized segment of low-wage workers (often suffering
discrimination on racial grounds); and, in developing countries and lagging regions or as a result of
undocumented immigration, an informal sphere of casual workers without explicit rights. France and
Germany had a combination of centralized wage bargaining and active labour market measures;
Switzerland and the UK had decentralized wage bargaining and active labour market measures; in
the Netherlands, wage bargaining was partially de-centralised but coordinated at national level and
active labour market measures were deployed to help people find suitable jobs and sanction them if
they turned such work down; Italy and Spain had centralized bargaining but with limited active
labour market measures, along with a significant informal sphere of employment; and the USA has
decentralized wage bargaining, some active labour market measures and large segments of
marginalized and informal sphere workers.464

Comprehensive labour market reforms were undertaken in the Netherlands, New Zealand and the
UK in the 1980s and 1990s and in Germany, Italy and Spain in the early 2000s. Employment
protection rights were weakened somewhat in the reforming countries, but the major legislative
step lay in the introduction of temporary employment contracts, which were intended to provide a
path into permanent work by giving jobless people the chance to gain experience. As an IMF study
discovered, however, employers used temporary employment contracts to recruit workers on an as-
and-when-needed basis and created two-tier labour markets, with a segment of permanent
employees and another of permanently temporary workers. Although employment typically surged
after the introduction or extension of temporary contract regimes there was higher volatility of
employment over the [economic] cycle, meaning that unemployment rose quicker during a
recession, when enterprises cut back on temporary jobs as a first step to reducing costs as sales fell,
than before the changes were instituted.465 Temporary employment contracts also discouraged
employers from providing training to such staff and lowered productivity.466

In the Netherlands, the Wassenaar Accord of 1982 between the trade unions and the employers
associations ushered in major changes. The trade unions agreed to wage moderation and the
abandonment of indexing wages to inflation in return for a cut in working hours at a time when
unemployment was rising rapidly. By 1990, working hours had fallen to 32 a week from the standard
40 hours. The government tightened up on eligibility for unemployment and disability benefits in
1987. Part-time work increased from the 1980s onwards and was responsible for much of the
employment growth in the period. Unlike Britain, which saw a large increase in part-time work and a
drop in trade union membership in the private sector, the Dutch trade unions maintained their role
in negotiating wages and conditions and, moreover, signed a collective agreement in 1995 to cover
temporary workers. 467 Furthermore, in 1993 the government and the social partners agreed on a
New Course which led to improvements in employment protection and rights for temporary and

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agency workers in law so called Flexicurity and working time reductions. The 1990s also saw a
shift towards activating unemployed people through retraining and help in job search (and sanctions
if they did not participate in such programs).468

Britain had a Conservative government from 1979 until 1997, led by Margaret Thatcher until 1990.
So labour market reforms took a rather different form than was the case in the Netherlands even
though its prime minister, Ruud Lubbers (19821994), a Christian Democrat, also pursued
Thatcherite economic reforms to deregulate and privatize the economy. Whereas the Netherlands
enjoyed a tradition of social partnership between trade unions and enterprises, which was endorsed
by both the Dutch Labour Party and the Christian Democrats (and their respective trade union
affiliates), the British Conservative Party adopted a confrontational approach under Thatcher. Wage
negotiation in the UK was largely decentralized to company and industry level, which hampered
attempts by the Labour governments in the 1960s and 1970s from implementing national wage
coordination.469 The shop stewards movement was also strong and decentralized collective
bargaining created a complex wage structure where wages were only weakly aligned with the value
of jobs and to overall productivity growth.470 This made it difficult to equalize wages between men
and women in the decades following the Equal Pay Act of 1970.471 The Thatcher government sought
to undermine the power of the shop stewards by introducing controls on strikes and other forms of
industrial action.472 The pay of public service employees was indexed to earnings in the private
sector and it took the government until the early 1990s to overcome the resistance of the public
employee unions to establish a new pay system whereby the government set the parameter for the
overall rise in labour costs, which government departments, agencies and local authorities had to
respect in their negotiations with the trade unions. The value of public service pay rates in relation
to inflation and the private sector equivalents was thus eroded over time. It was also a proponent of
Monetarist thinking and believed that supply-side measures would be more effective in tackling
unemployment than Keynesian demand-side measures.473 Accordingly the government steadily
reduced the value of unemployment benefit to spur jobseekers into accepting employment offers.
Unemployment benefit in 1967 was worth 28 percent of average earnings, but by 1990 it had fallen
to 18 percent.474 The monitoring of jobseekers search for employment was tightened progressively
from 1987 and in 1998 the New Labour government led by Tony Blair maintained the pressure but
brought in more resources for active labour market measures under its New Deal.475

The approach to labour market reform took yet another turn in France, where a Socialist-Communist
coalition government strengthened trade union rights, mandated employers to make collective
agreements and introduced a 39-hour working week in 1982 (the Auroux laws, named after the
minister of labour, Jean Auroux). Later, following the devaluation of the franc, welfare benefits were
cut.476 On being re-elected to power in 1997, the Socialist minister of labour and solidarity, Martine
Aubry, introduced a 35-hour working week and job-sharing in 2000 to bring down unemployment
and improve productivity. Under President Franois Hollande, some steps were taken to reduce the
financial costs of the labour code on employers without eroding employment protection rights or
the 35-hour week. Large enterprises were permitted to conclude collective agreements on overtime
working beyond the 35-hour threshold.477 The introduction of these changes sparked significant
protests by young people, students and the CGT trade union during 2016.478

Working time was also addressed in the Hartz, or Agenda 2010, reforms in Germany. The changes
involved a short-time work program, whereby enterprises could claim a subsidy to compensate

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employees whose hours had been cut; this helped German companies withstand the recession in
2009-2010. In addition, employees were able to build up a credit from hours of overtime that they
could draw down when working hours were cut.479 Almost all restrictions on temporary and agency
working were removed and a flat-rate unemployment benefit replaced the previous earnings-related
system for the long-term unemployed.480 These changes inaugurated a decline in the real value of
wages in Germany and a claimed 1.4 percentage point drop in the rate of structural
unemployment.481 Spain introduced provisions to permit enterprises to fix working hours more
flexibly in 2010.482 During the early 1980s, the Spanish government had deregulated temporary work
contracts while maintaining legal protections for those on permanent contracts, thereby
encouraging a dual labour market. Temporary employment accounted for almost all new jobs
created during the 1990s and the share of temporary workers grew to over one-third of total
employment.483 Another approach was taken in Italy by Matteo Renzis socialist government in 2015:
firing workers was made easier but a new permanent contract was introduced onto which
temporary employees could migrate.484 In South Korea, the conservative government of President
Park Geun-hye, rolled back the rights of temporary workers to obtain a permanent employment
contract after two years service to four and made it easier to fire staff in 2015.485

The influence of these labour market reforms was analysed by Stephen Nickell and his colleagues in
a study of 20 OECD countries.486 Over the period 1961 to 1995, average unemployment in the 15
European countries examined rose by around 6.8 percentage points. The study found that if labour
market institutional arrangements had remained at the 1960s levels, then the rise in unemployment
would have been just over three percentage points (55 percent lower) than its actual rise. Of the
institutional rigidities studied, the most significant were changes to the unemployment benefit
system (accounting for 1.5 percentage points); labour taxes accounted for another 1.0 percentage
point; collective bargaining coverage accounted for 0.7 points; and employment protection
legislation 0.6 points; adding up to 6.8 points in total. These findings were, however, not as robust as
they appeared. Although unemployment rose in all 20 countries, no explanation was provided in the
study for the increase in Australia, New Zealand, Japan, Canada and the USA, all of which
experienced labour market institutional changes in unemployment benefits, labour tax rates and
collective bargaining coverage. In a message to the author, Sir Stephen stated that as there was
very little change to unemployment since the 1960s to these countries, so [there was] little to
explain.487 As can be noted from Table 6-1, the rise in unemployment in the missing countries was
comparable to most European countries, with the exceptions being Japan and the USA. If it is
accepted that the US has enjoyed a flexible labour market since at least the 1960s then it follows
that deregulating labour markets cannot generate full employment, unless, as neoliberals appear to
accept (in line with the NAIRU calculation), that an unemployment rate of five percent is full
employment!488 It suggests that the theory that flexible labour markets can restore full employment
is bogus.

Moreover, as Table 6-1 further demonstrates, labour market flexibility did not in practice dent
structural unemployment as it was supposed to. Some economists and policy-makers may argue that
the reforms had not gone far enough and should have addressed product markets through further
deregulation to have a greater impact. Their case is weakened, however, by the fact that, as the
table shows, the countries with supposedly the most flexible labour markets the Netherlands, UK
and USA suffered from levels of structural unemployment in the early 2000s only a little lower than
those others with supposedly sclerotic labour markets France, Germany and Italy.489 Only

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Switzerland stood out as having both a flexible labour market and, until 2009, full employment.
Furthermore, Switzerland brought in one of the most generous benefit systems for jobless people in
1984. The period jobseekers were entitled to receive benefits was extended in 1996 to match
lengthier job search times and more emphasis was placed on active labour market measures.
Employment protection was more limited as was the coverage of collective agreements.490 But when
Switzerland is compared to Austria, France, Germany, Italy and the Netherlands, it is clear that there
is no feature of its labour market arrangements that is not also to be found in one or other of its
neighbours. None of these six countries has quite the same mix of labour market institutions, their
governments made different choices in enacting reforms, and their unemployment rates varied
profoundly, with Austria and Switzerland maintaining close to full employment, France and Western
Germany experiencing high unemployment over a sustained period, and the Netherlands a steep
rise followed by a fall.

Another troubling inconsistency for neoliberal theory was Japan, which was described as a having an
inflexible labour market.491 If neoliberal theory was to be believed that should have meant it
suffered from structural unemployment. While there was a rise in structural unemployment in the
later 1990s, the rate remained lower than in other mature market economies. This was despite a
long period of economic stagnation and recession since 1991.492 Restrictions on hiring people on
short-term employment contracts and part-time contracts were eased in the late 1990s. Under
Prime Minister Junichir Koizumi, in 2003, temporary contracts were allowed to last for up to three
years.493 Wages in real terms fell between 1992 and 2016 even though prices were largely stable or
falling.494 For workers in permanent jobs, the seniority pay system gave them a small annual pay rise
nonetheless. The keiretsu financial-industrial groups protected their staff from redundancy by
moving them between companies in line with sales performance, although several including
Fujitsu, Hitachi and Toshiba did make lay-offs in 2001.495 But for those without regular contracts,
working for sub-contractors and employment agencies, and the self-employed, there was no way to
avoid the lowering of living standards. The percentage of non-regular workers in the labour force
increased from 19 percent in 1990, to 28 percent in 2002, and reached 38 percent in 2015; it may
have helped reduce unemployment, but it left workers in non-regular jobs earning as much as half
the wage of regular employees.496 The two-tier labour market contributed to economic stagnation
through its effect on consumer expenditure. Prime Minister Shinz Abe announced plans in 2016 to
reform our way of working by equalizing wages between regular employees and non-regular
workers and by facilitating the expansion of employment among women. In 2017, the Rengo trade
union federation and Japans largest business confederation agreed to limit overtime to 45 hours a
month (and to 100 hours in busy periods).497

The conclusion that must surely follow is that flexibility and supply-side structural reforms as
envisaged by neoliberals were largely ineffectual in addressing structural unemployment, although
they may have contributed to helping to improve the flow of people into jobs over the course of the
economic cycle. Structural reforms might have helped reduce cyclical unemployment but not
structural unemployment, which was caused by industrial restructuring and the pursuit of perverse
economic policies by governments. High structural unemployment in the 1980s and 1990s was the
result of Monetarist policies, which raised real interest rates and squeezed demand through fiscal
austerity. The neoliberal approach allowed industrial restructuring to take place while picking up
the pieces afterwards through social programs and local economic development measures, and this
reinforced the persistence of structural unemployment into the late 1990s. The early years of the

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twenty-first century brought a measure of economic relief and lowered real interest rates, re-
igniting job creation in enterprises and the public sector although those same low interest rates
permitted the massive increase in borrowing that led to the 200708 financial crisis. In oligopolistic
markets, if unemployment rises, it can moderate or wipe out the upward price creep, thus
presenting society, in Paul Samuelsons words, with a dilemma of choice between reasonably high
employment with maximal growth and price creep, or [to have] reasonably stable prices with
considerable unemployment.498 Neoliberals adopted the latter course.

Structural unemployment was a persistent feature of the mature market economies since the 1970s.
It reflected the failure of markets to generate sufficient jobs for all those who wanted to work.
Mainstream policy relied on more market to reduce persistent high unemployment and the
dominance of such neoliberal remedies meant that job creation through the implementation of a
general plan for the economy was never considered. By pretending that structural unemployment
arose from market failure, rather than being a failure of the economic and social system, neoliberals
blamed working people for their own predicament. Addressing systemic failure necessarily requires
not just government regulation but state action. As the next chapter makes clear, a planned
economy is not simply regulated capitalism with some Keynesian-style active macroeconomic
policies. A planned economy makes markets work for societys benefit. Enterprise may still flourish,
although there will have to be curbs on speculation and an equitable balance struck between the
interests of workers and enterprises secured through collective bargaining. The advantage that a
planned economy has lies in being able to mobilize human, natural, technical and financial resources
to their fullest extent and reduce the deterrent effect of uncertainty on investment. To be sure, a
planned economy presents its own set of problems, and these are the subject of the next chapter,
but the experience of the socialist commonwealth provides lessons to be learnt rather than, as is
currently the case, a story to be ignored altogether.

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7 On the other side of history

In an interview with The Guardian newspaper in 2015, the novelist Jenny Erpenbeck remarked that
those who had once lived in the socialist countries retained a feeling that they were social outsiders
and their experiences and memories were now on the other side of history.499 Her observation
reflected the pronouncement by Francis Fukuyama that the breakdown of the socialist system
signified the end of history.500 By this Fukuyama meant that the collapse of communism, as an idea
and in its practice, and the triumphant universalization of Western ideas of liberal democracy and
capitalism, marked the conclusion of an epoch of class conflict as had been described in the opening
lines of The Communist Manifesto (1848): The history of all hitherto existing society is the history of
class struggles.501 According to the Manifestos authors, Karl Marx and Friedrich Engels (1820
1895), the forces shaping history could only be understood in the context of the existence of social
classes. In Fukuyamas view, as with the sociologist Tony Giddens, once everyone had accepted the
legitimacy of the market economy it was time to move beyond left and right.502 When workers
were also part-owners of enterprises and owners drew a salary as managers there could be no
distinct economic classes anymore. With equality of opportunity everyone has a fair chance of
succeeding in life. Once the fundamental contradictions between classes had been overcome,
political and economic issues could be resolved within the democratic institutions of modern market

While Fukuyama came from the right of the political spectrum and Giddens from the left, they
converged intellectually with regard to communism. They agreed that the current epoch would see
not class conflict as the driver of political competition, but the struggle for respect based on the
desire for personal autonomy.503 Their views reflected a general political consensus that denigrated
the socialist experiment as a failure, correctly discarded as well passed its sell-by date. Erpenbeck
recalled that Eastern Germany was condemned as having been a state without law or justice, an
Unrechtsstadt, and whose citizens lacked human rights and democracy. This left those who had
experienced socialism in practice unable to express their knowledge as to the good aspects of the
system. Their exclusion from the public conversation put them on the wrong side of historys

The general impression in the West is that life in the socialist countries was a nightmare of queuing
for basic goods and constant surveillance by the authorities. Guardian newspaper columnist Martin
Kettle asserted boldly: Communism didnt work and most people who lived under it hated it.504
The socialist commonwealth was the unfortunate laboratory for [ the twentieth] centurys
ideological experiments, part of a Soviet empire that had raised state-sponsored violence to new
heights, according to historian Mark Mazower. He concluded that an economy run according to the
plan not the market, which had enjoyed considerable success in the early post-war era [had]
outlived its usefulness [] and ended up causing the collapse of communism as a whole.505 Critics
pointed to the poorer performance of the socialist planned economies in comparison to the
developed capitalist market economies.

Many blamed central planning for the failure to satisfy consumer demand in the socialist countries,
thereby contributing towards popular disillusion with the communist party and in the ideals of building
a socialist society.506 In fact, planning was not the key problem as the advocates of a market economy
claimed. Rather, the fundamental causes of the Soviet economic 'failure' lay in the attempt to preserve

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the inherited system of five-year plans developed in the 1930s while, at the same time, weakening the
long-term and macroeconomic planning needed to mobilize resources to secure differentiated social
and economic goals. When the economy first began to show signs of seizing up in the 1960s, the
economic reform movement advocated less planning and greater reliance upon the profit motive.
Instead of strengthening long-term planning for development, the economy was driven by short and
medium-term targets, which were met by cannibalizing resources unsustainably. Ultimately, of course,
the responsibility for remedying the defects in economic management lay in the political sphere. The
failure of leadership in the socialist countries allowed the advocates of market socialism, and, later still,
of the free market economy, to gain the upper hand in the reform debate.
Moreover, despite giving the opposite impression, capitalist market economies engaged in considerable
planning. Enterprises plan their market strategies, production and investment; governments plan their
macroeconomic stance, their spending, investment and their service delivery programs; and households
plan their consumption and saving. In the socialist economies, governments, enterprises and
households undertook general planning, but also managed the markets that operated alongside the
planning system. Both types of social system were monetary commodity production economies. The
main difference lay in the role played by the state in managing labour, financial and natural resources.
and foreign trade. In the socialist planned economies, the allocation of these resources was planned and
not left to market forces. But the economies of both social systems were dedicated to the production of
commodities offered for sale in wholesale and retail markets and used money for transactions and

The unstable nature of capitalism requires the planning of investment and co-ordination of inputs and
outputs to mitigate the effects of system instability: unemployment, unequal development, cut-throat
competition and such like. For socialists, it followed that planning would end capitalism's anarchic
disposition to unbalanced development, eliminate unemployment, and, by raising real incomes, remove
the tendency towards under-consumption.507 Furthermore, workers would gain economic security.
Under these conditions it was anticipated that socialism would be more productive than capitalism. The
reverse has been the case and planning has usually been identified as the culprit.
The purpose of planning was to enable the people through the political and state institutions to
undertake activities that would have been frustrated by a market economy (for example, the rapid
expansion of universal education and health care, urban development with good quality mass
housing, and industrial development of all regions of the country).508 In the USSR in the 1920s and
1930s, as the five-year plans were laying the foundation for a modern industrial-agricultural economy, a
cultural revolution was underway to introduce primary education into the villages and raise levels of
adult literacy. The upheaval in the countryside brought about by the drive for the collectivization of
agriculture, and the associated famines, led many peasants to seek work in the new factories. Key
elements of development the transfer of working people from low productivity agriculture to higher
productivity industry, along with enhancement of education were in place. Lastly, there was a massive
program of infrastructure investment to open up remote regions and to permit the development of
Western Siberia and the Urals sometimes using forced labour (victims of repression in the
countryside). Under Nikita Khrushchev (18941971), the deportations and mass repressions were
ended, but he also made it more difficult for the former peasantry to leave for industrial jobs in the

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The planning system in the USSR was introduced under its leader Josef Stalin (18781953) between
1928 and 1934.509 Following the Second World War, in the seven countries with communist
governments in Central and Eastern Europe, general planning with five-(or six-) year plans on the
Soviet model had been introduced by 1951. The common features were the nationalization of
industry, transport and trade, compulsory procurement in farming (but not collectivization), and a
monopoly on foreign trade.510 Prices were largely determined on the basis of the costs of inputs, a
method derived from the labour theory of value. Prices did not therefore incentivize production.
Enterprises inputs were instead purposely rationed by the national plan. This taut planning began
around 1930 in the USSR and was only scaled back after the economic reforms of 196668 when
enterprises were encouraged to make profits.511

Markets continued to exist in socialist planned economies. Even after the collectivisation of
agriculture, members of the collective farm and anyone with a private garden plot were free to sell
their own produce on the kolkhoz market (farm workers were often paid in kind). Licensed markets
operated in every town and city borough where non-state-owned enterprises (such as cooperatives
and collective farms) were able to offer their products and services. From 195659 onwards, all
wartime controls over manpower were removed and people could apply and quit jobs freely in the
USSR. The use of market mechanisms went furthest in Yugoslavia, Czechoslovakia and Hungary.
From 1975 Soviet citizens had the right to engage in private handicraft and in 1981 collective farmers
could raise and sell livestock privately. It should also be noted that households were free to dispose
of their income as they chose and incomes were lightly taxed.512

Although enormous achievements were realized in development terms, the USSR did not make the
same progress as did Japan, for example, in its transformation from an agrarian society to an industrial
one. Over a similar 70 year period, Japan caught up with the USA and Western Europe in terms of the
standard of living, whereas the USSR conspicuously failed to do so. By 1988, the IMF has calculated,
gross national product (GNP) per person, measured at purchasing power parity in US dollars, was
$7,519 in Russia and $6,315 for the USSR. Among the other socialist planned economies, the highest
income was to be found in Slovenia ($10,663) and Estonia ($9,078) and the lowest in Albania
($1,386) and Tajikistan ($2,730).513 This compared to the USA with $23,580 and $18,640 for Western
Germany in the same year.514 Eastern Germany was the only socialist country that came near to
matching the standard of living achieved in Western Europe with an estimated $18,000 per
Overall, in the region comprising Central and Eastern Europe and the Commonwealth of
Independent States (CEE/CIS), GNP per person was about $6,470 in 1988. For the Organization for
Economic Cooperation and Development (OECD) area, GNP per person was $14,385. Thus national
income per person in the CEE/CIS area was 45 percent of that in the OECD area in the last year of the
socialist system. (See the data annex to this chapter for more details.)516 But although the developed
socialist countries did not manage to surpass capitalism in economic terms, they nevertheless enjoyed a
comparable standard of living.

Development economists consider that once a country has an average standard of living of around
$5,000 a person it has become an essentially developed economy, and has completed the
industrialization stage, where most incomes are gained from industry, a smaller number from

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agriculture, and the service sector becomes progressively more important.iii During the industrialization
phase, the crucial point is reached at around $1,000 a person, when industry overtakes agriculture as
the largest contributor to national output.517 On the basis of such statistics, the USSR only just made it
into the 'developed' category, with living standards looking more like those in South America or Turkey.
The gap was evident to Soviet experts at the time. According to Soviet statisticians, in 1975, income per
person in the USSR was $2,235 at correlated prices compared to $3,975 in the USA, that is, 56 percent
of the US level.518 Productivity was very much lower than in Western Europe. In a Soviet factory, shop or
office, productivity was between one third and one tenth of an equivalent workplace in the West. Yet
any comparison on the standards of health, education and housing indicated a well-developed standard
of living.
Measuring the standard of living in terms of buying power ignores many other indicators of
development. Education is not a traded good and most of us are educated well beyond the immediate
needs of our jobs. The USSR had an impressive record in the education and research fields. Nor is the
efficiency to which resources are put measured adequately: indigenous Amazonian people have very
few physical goods but they make the most of their natural resources in a sustainable way. In the USSR,
people looked after their cars devotedly, because the country could not afford the throwaway culture of
the West. Lastly, issues of economic security and the participation of women in paid employment and
political life were important differences.
Data collected by the United Nations of indicators of human development in the early 1990s show
that a high level of social development was achieved in the socialist planned economies. Life
expectancy in the CEE/CIS area in the period 19851990 was 68 years, while for the countries of the
OECD it was 75 years. (The world average was 64 years.)519 Infant mortality in the CEE/CIS area was
25 for every 1,000 live births in 1990, compared to 13 in the OECD area. (The world average was 58
for every 1,000 live births.)520 In terms of education, both areas enjoyed universal adult literacy and
full enrolment of children in primary and secondary schools. For tertiary education, the CEE/CIS had
2,600 university students per 100,000 population, while in the OECD the comparable figure was
3,350 students. (The world average was 1,490 students per 100,000 people.)521 It should be noted
that countries with a high intake at tertiary level to technical and vocational education such as
Western Germany had a similar ratio of university students to the socialist countries (with 2,320
students per 100,000 population), reflecting a higher proportion of manufacturing and construction
in their economies. Overall enrolment at primary, secondary and tertiary levels was 75 percent in
the CEE/CIS region and 82 percent in the OECD countries.

On housing the main problem was over-crowding rather than homelessness. In the USSR, the area of
residential accommodation was 15.5 square meters per person by 1990 in urban areas but 15
percent of the population were without their own separate accommodation and had to live in
communal apartments according to the 1989 census.522 This was up from 6.3 square meters per
person in 1913 and 7.4 square meters per person in 1950.523 Housing was generally of good quality
in both the CEE/CIS region and in the OECD countries: 98 to 99 percent of the population in the
OECD countries had access to safe drinking water and improved sanitation respectively, compared to
93 and 85 percent in the CEE/CIS area by 1990.524

There are exceptions: small islands may not be able to industrialize and oil exporting countries were able to enjoy
a high standard of living on a narrow economic base.

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Unemployment did not exist officially in the socialist planned economies, though there were people
moving between jobs and another fraction of unemployable people as a result of illness, disability or
other problems, such as alcoholism. The proportion of people changing jobs was between 6 and 13
percent of the labour force a year according to employment data during the 1970s and 1980s in
Central and Eastern Europe and the USSR. Labour exchanges were established in the USSR in 1967 to
help enterprises re-allocate workers and provide information on job vacancies. Compulsory
unemployment insurance schemes operated in Bulgaria, Eastern Germany and Hungary but the
numbers claiming support as a result of losing their job through no fault of their own numbered only
a few hundred a year.525

Nonetheless, as noted, the disparity in income was substantial and reflected the poor performance of
the Soviet economy over a long period, when it should have been overtaking the West, instead of
lagging further and further behind.
So how did the USSR get into this state of affairs? When did things begin to go wrong? Table 7-1
compares national income per inhabitant over the period since the industrialization drive began in 1928.
Soviet statistics for national income were based on the concept of net material product (NMP), which
added up the value of final output of goods generated in the productive sphere. This, however, did not
aggregate all incomes gained in the economy. Gross national product (GNP) aggregates values of goods
and services generated in both productive and non-productive spheres (wholesale and retail trade and
public administration formed part of the non-productive sphere in the Soviet statistical system). Figures
for NMP must be converted into GNP equivalents to be able to compare the USSR's development with
other countries.
Table 7-1: Trends in population and national income in the USSR 1928-1988

Date Population Net material product Gross national product

(millions) (billion roubles) (US Dollars at purchasing power
parity and comparable prices)
Current 1958 Prices Change Billion GNP/Inhabitant
1928 147.0 14 27 - 108 732
1938 190.7 77 46 1.7 183 961
1949 178.5 102 60 2.2 239 1,340
1959 210.5 136 138 5.1 550 2,613
1969 240.6 262 236 8.7 941 3,910
1979 262.3 432 344 12.7 1,369 5,220
1988 284.2 631 450 16.7 1,795 6,315
Italics Estimated by the author
1929 and 1939
Sources: IMF and The World Bank; The Fontana Economic History of Europe.526

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Furthermore price inflation distorts trends in national income if this is measured in current prices. The
estimates for the size of GNP presented are based on the assumption that the rate of growth of nominal
NMP (from the late 1950s onwards) has been distorted by a low rate of inflation of about one percent a
year, since producer prices were changed in 1967 and 1982. In terms of 1958 prices, therefore, the
nominal value of output in 1989 had been eroded by about one third due to consumer price inflation.
Between 1928 and 1988 NMP rose almost 17 times, according to these estimates. In 1988 GNP at
purchasing power parity according to IMF economists cited earlier was about $1,795 billion, so GNP in
1928 was 1/17 of its value in 1988. The same calculation can be repeated for intermediate years. In
1928, therefore, the USSR had a standard of living similar to that of an African country today. It had just
emerged from a period of civil war and famine. By the early 1950s, having survived the attack by fascist
forces, average income had surpassed the $1,000 a person benchmark, and the USSR was no longer a
backward under-developed country. It appears, however, that the $5,000 a person benchmark was not
achieved until the late 1970s, partly because of the rapid rate of population growth. If the productivity
gap with the mature market economies had been closed in the late 1950s and 1960s, the standard of
living would then have stood at today's South American levels, providing a base from which to begin to
overtake the West in the 1980s and 1990s. A crucial opportunity to advance economic development
was therefore missed in the 1950s and 1960s.
A common impression of westerners visiting the USSR in the 1990s was that it resembled the advanced
capitalist countries as they used to be in the 1950s. Contrasts include the wasteful use of energy, dead
rivers due to pollution, poor air quality in cities, non-durable packaging, lack of consumer credit, and the
absence of self-service supermarkets. Perhaps this list is too subjective, but it seems as though
something went wrong at some point during the 1960s, leaving the economy in a sort of suspended
There were a number of possible explanations, of which the most popular is that central planning, or
directive planning as it was known in Russian, introduced a whole series of inefficiencies: at factory
level, in the allocation of resources between factories, and in terms of poor economic incentives to
manage production without waste. The state planning committee, GosPlan, which was set up in 1921,
attempted to coordinate 12 million different products with plan indicators for 48,000 items. Over-
centralisation of decisions led to massive waste of resources and the pressure to fulfil quantitative
targets supposedly led to shops being filled with shoes without shoelaces, and so on. Obviously these
inefficiencies were serious. One attempt to calculate the degree of inefficiency in the utilization of
capital and labour in the USSR concluded that this had risen from about three percent in 1955 to ten
percent of production costs in 1975. In other words, if labour and capital had been used efficiently, then
total output could have been ten percent higher in 1975 than it actually was.527 That said, the gap
between Western and Soviet living standards was much larger than ten percent so we must seek
another explanation to account for all of the difference.

In the early years the planning process was based upon a selected number of physical flows with
inputs mobilized to meet explicit production targets measured in natural or technical units. (As
mentioned in Chapter 3, Otto Neurath had proposed using physical metrics in planning the
economy.) This material balances methods of achieving plan coherence was later complemented
and replaced by value planning, with money provided to enterprises so that they could recruit
labour and procure materials and intermediate production goods and services.528 The Soviet

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economy was brought to balance by the interlocking of three sets of calculation, namely the setting
up of a model incorporating balances of production, manpower and finance. The exercise was
undertaken annually and involved a process of iteration (the method of successive

Taut planning was instituted under Stalin in order uncover the hidden reserves within enterprises, and
farms, and so fulfil the target ahead of the plan. In the shadow of an impending inter-imperialist war,
Stalin argued:
"To slacken the tempo would mean falling behind. And those who fall behind get beaten. But
we do not want to be beaten. [] We are fifty or a hundred years behind the advanced
countries. We must make good this distance in ten years. Either we do it, or they crush us."530
In the negotiations for successive five-year plans for the socialist reconstruction of the country, each
enterprise tended to exaggerate the quality of its products, overstate its needs, hoard supplies and
understate its resources. In turn, the planners attempted to keep the plan taut by setting output targets
a bit higher, while holding down the inputs required by the enterprise. As a result a new word entered
the language, "shturmovshchina" or storming, when everyone dropped what they were doing to fulfil an
output target. As Stalin famously said, "there are no fortresses that the working people, the Bolsheviks,
cannot storm."531 The objective of over-fulfilment of already taut plans was made possible by mobilizing
people in mass movements, such as the Stakhanovites, the collective farm shock workers, and in the
Virgin Lands campaign. However, these campaigns of mobilization became perfunctory in later years.
In addition Stalin promoted the law of planned and proportionate (or balanced) development that gave
primacy to the production of the means of production, which was favoured over the production of the
means of consumption.532 The theory of the growth of national income which lay behind this law was
formulated by an economist G A Feldman (18841958), who published the results of his work in
1928/29. He elaborated a scheme set out in Karl Marxs book Capital (1867), which divided productive
capital into two sets of activity.533
Department I of heavy industry is the economic sector that produces the means of production
made up of commodities that [] enter productive consumption. Department II light industry
produces the means of consumption and the commodities that [] enter the individual
consumption of the capitalist and working classes.534 In Marxs scheme, the outputs from
Department I are the machines, plant and buildings required for producing the goods and services
sold to consumers by enterprises in Department II. For example, to bake bread, a bakery (part of
Department II) needs premises, ovens and shops along with materials including flour, yeast, water
and salt; the flour is purchased from producers who use combine harvesters to cut the wheat in the
fields, who have stores for the grain and mills to grind it, and so on. All the producer goods the
ovens, combine harvesters and the like are manufactured in Department I. They must be
themselves made using other machines, equipment and plants, such as mines, foundries and rolling
mills. Department I can therefore be split into two sub-departments: the first producing machines to
make machines, and the second to make machines to produce consumer goods.535

Feldman, who was working for GosPlan, developed a mathematical model as part of his work in
preparing a general long-range plan to show how Departments I and II were linked.536 Department I
was the sector with the function of raising the capacity of the economy for production, while
Department II was the sustaining sector, which enabled consumption.537 The model was intended as

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a planning tool, not a schematic of the actual Soviet economy. Feldman showed that stable
economic growth depended on there being a relatively high proportion of investment in Department
I and that a certain proportion of that investment had to be devoted to the machines that made
machines. If too little went into the machine-making divisions of heavy industry, the end result was
sub-optimal production of consumer goods. The prevailing view at the time was that a developing
country, as was the situation of the USSR in the 1920s, should invest and modernize light industries,
like textiles and garment manufacturing. Such an investment would provide an increase in consumer
goods but it would be a once-and-for-all boost. If there was steady investment in the producer goods
from heavy industry there would be a year-on-year boost to both production and consumption.
There was a pay-off from investment in heavy industry in terms of more consumer goods later on.
Moreover, the economy would be shifted onto an accelerated growth path.538

In setting the goal for the planning system of balanced or proportionate development of the
national economy, Stalin therefore favoured giving primacy to the production of the means of
production. This rule was often formulated as the law of priority growth of the production of the
means of production.539 It was one of the distinguishing features differentiating the socialist
planned mode for securing development from the capitalist market-oriented approach. Market
economies suffer from a coordination problem. An enterprise in Department I relies upon receiving
an order or at least a price signal from Department II if it is to invest in increasing its capacity to
manufacture producer goods. But some investment projects take years to be completed, may be
complex and involve mobilising a large amount of finance. There is by definition greater uncertainty
over the long-term than over the short-term. To compensate for the uncertainty an investor in such
projects will require a relatively high rate of return. In fact, there are many examples of long-term
projects turning sour and ruining their investors. Charles Yerkes (18371905) was almost bankrupted
by his investments to build an electrified District Line of the London Underground in the early
twentieth century. Other railway entrepreneurs who also went bust included George Henderson
(18001871), the British railway king who was imprisoned for non-payment of his debts in 1853, and
Bethel Henry Strousberg (18231884) who was bankrupted in 1875.

To some extent an entrepreneur with a long-term project can hedge against price changes in the
future by buying forward. But there are a limited number of futures markets and these are mainly
for commodities, like oil and agricultural crops, and financial assets. Thus there are missing markets
that can stymie long-term investment and for this reason neoliberals accept the need for the state to
play a role in guiding and facilitating investment in infrastructure projects and technological

Feldman showed that in an economy characterised by a scarcity of capital goods but with an abundance
of labour, a high rate of investment in the capital goods sector would, over an 8 to 15 year period, enjoy
an exceptionally high rate of national income growth. Thus investment in the means of production
would lead to high consumption. In time, such a policy would accelerate national income growth, so
that one day the USSR would catch up and overtake the USA in terms of income per person. Between
1922 and 1940, capital investment in the USSR rose twenty-fold while national income was only
eleven times greater. This was the period of industrialization and the modernization of agriculture
and the rate of capital investment continued to be held higher than the rate of economic growth
until the 1960s. During this period, economic growth averaged 13.3 percent a year between 1928
and 1940 and 12.3 percent between 1945 and 1957.540

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The planning system established under Stalin continued more or less unchanged for another decade
after his death in 1953. Growth rates according to official data for the USSR in the period 1928 to 1959
were higher than in the mature market economies, with the exception of the war years. Over the period
192841, average national output growth per inhabitant was around 12 percent a year, 10 percent
during 1951 to 1960, 7 percent from 1961 to 1970, falling to 3.5 percent between 1980 and 1985. Over
the same period US growth was two to three percent a year. Only Germany, France and Japan managed
sustained average growth rates of between three and seven percent between 1951 and 1985.541
The reason for the slowdown of growth has been the subject of several studies. Prioritizing Department
I meant that the high rates of growth were achieved by extensive growth, whereby the stock of capital
increased faster than output (the capital-output ratio rose). According to various estimates the capital-
output ratio went up steadily, perhaps by about 2.5 percent a year over 1950 to 1987.542 The share of
investment in national output doubled from 15 percent in 1950 to 30 percent in 1970, and remained
there until the end of the Soviet period. At the same time enterprises were reluctant to scrap old plant
and machinery, preferring to maintain them in operation rather than replace old equipment with
modern machines. Capital expenditure was directed primarily into new capacity, instead of replacing
less efficient capital stock.543 It is argued that as long as labour could be drawn into industry, a high rate
of investment in capital goods (Department I) could provide constant or increasing returns for the
economy. However the practice of constantly adding to machines while keeping the same number of
workers in the factory in the end led to diminishing returns. Enterprises retained workers to operate
and fix obsolete capacity and found themselves short of workers to run up-to-date plants. In the mature
market economies, the capital-output ratio stayed constant during the post-war years. In these
countries, machines replaced workers, but in the USSR, after Stalin, workers were less likely to transfer
between sectors and industry began to suffer from a labour shortage.544
The falling productivity of capital, and of labour, was in fact predictable in Feldman's model, once capital
became more abundant and labour was relatively scarce. Stalins successor, Khrushchev stopped
migration from the countryside to the towns in order to protect the labour supply for agriculture. It was
increasingly evident in the 1960s that growth was slowing down. The accepted remedy was to switch to
an intensive growth path, whereby investment was directed at improving productivity. In 1961, the
following statement was included in the Programme of the Communist Party of the Soviet Union: "the
immutable law of economic development is to achieve in the interests of society the highest results at
the lowest cost"; in other words, to try to minimize inputs per unit of output. Intensive growth was
adopted in the 196670 Five-year Plan and the 1971 Comprehensive Programme for international
socialist integration. Stalin's law that priority should be given to producing the means of production was
not revised until the 197175 Plan, however. Moreover, the priorities in the 1970s and 1980s were still
focused on adding to the means of production, with one new twist to buy it from abroad.545 The USSR
had always imported Western technology, for instance, in the 1930s the Ford Motor Company helped
set up the Model A passenger car and the Model AA truck in Gorky. But in the 1970s and 1980s
importing technology was seen as a quick fix to improve productivity: the deal with FIAT over the
Tolyatti car plant, machine tool imports connected with the KamAZ truck plant on the Kama River; and
imports of oil and gas extraction and pipeline technology were all examples.
Despite these attempts to raise the productivity of capital by importing modern technology, the USSR
continued to produce proportionately less with more. The economy experienced persistent shortages of

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everything, no matter that each new five-year plan promised to produce more consumer goods, more
efficient machines and higher standards of living. It was clear that there was something very wrong with
economic planning.

Taut planning, which was necessary in the 1930s to mobilize resources at a time of international
tension, became part of the problem later on, as the USSR evolved towards becoming a mass consumer
society.546 Taut planning existed when the targets for output were set higher than quotas of inputs
provided to enterprises under the plan.547 It is alleged that enterprises responded to very demanding
output targets "by lowering product quality all along the chain of production leading from raw materials
to retail distribution" thereby amplifying the deficiencies. "Every economy has to devote labour and
capital to producing a great deal of intermediate output: raw materials and fabricated goods consumed
in the process of producing final goods and services. But in the USSR low quality output has required
additional [low quality] intermediate production [... which] hampered later production."548 Over time a
higher proportion of total activity had to be devoted to intermediate stages of production, so that
inputs produced ever fewer outputs.
Under conditions of taut planning, the economy was expected to produce a volume of output higher
than the reported capacity of enterprises and there was no slack in the system. Enterprises faced a
resource constraint and hoarded labour and other inputs; they avoided sub-contracting
intermediate production activities, preferring to retain the work in-house. The enterprise, according
to the theory promulgated by economist Jnos Kornai, was constrained by its resources and not by
the demand for its goods and services; nor was it constrained by its finances since the government
was not likely to shut an enterprise down if it failed to meet its financial targets. Enterprises in
socialist planned economies operated within a soft budget constraint, unlike enterprises in
capitalist market economies which are demand-constrained and operate within hard budget
constraints, as they face bankruptcy if their costs exceed their sales. As all producers were working
in a resource-constrained economy they were perpetually in short supply and the shortages could
never be eliminated, leading to chronic disruption of production schedules. The effect of this was to
preserve a high level of employment but low productivity.549

As the supply of consumer goods failed to match rising incomes (because workers still received their
pay even if they were not fully productive), household savings accumulated, indicating, in the official
terminology, postponed demand. Western economists called this monetary overhang or
repressed inflation. Prices on the black market were several times higher than in the official price-
controlled outlets, reflecting the scarcity and possible illegality of the sale of these items. Therefore
although consumer welfare was reduced by shortages, the prices households paid for their regular
consumption were lower than would have been the case had prices been set at market-clearing

The relative equality in incomes impacted the scope for product innovation. Income and wealth
inequality in capitalist countries permitted niche markets to flourish alongside mass consumer markets,
where goods and services were standardized to keep their costs down and be affordable. While niche
markets were small in scale, they served as test-beds for innovation and those new products that
proved to be more successful in sale terms could then be manufactured at economies of scale for
regular consumers. The garment and footwear industry in the mature market economies produced a

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huge variety of articles, with high income buyers generating the fashions that would then spread more
widely through society. Seasonal fashions meant the throwaway culture thrived, encouraging the
production of short-life clothing and shoes. In the somewhat poorer socialist countries products were
more durable and less varied to ensure their affordability. The absence of high income buyers reduced
the scope for innovation and limited the need for advertising. When markets were liberalized in the
USSR, consumers switched quickly to more fashionable goods but were shocked to discover how flimsy
their purchases often were.

From the 1960s onwards, countries belonging to the Council for Mutual Economic Assistance
(CMEA), beginning with Eastern Germany, attempted intensive growth strategies, aiming to raise
the productivity of labour and capital. However, in practice this meant that investment was shifted
towards new branches of industry, including the electronics, computing, automotive and nuclear
power sectors, leaving the traditional heavy industries dependent upon older technologies. Despite
the rhetoric about modernization, innovation remained weak as enterprise managers preferred
routine production that was easier to plan and brought them predictable bonuses. Embargoes on
high technology exports organized through the US-organized Co-ordinating Committee for
Multilateral Export Controls (CoCom) hampered technology transfer. Enterprise managers also
ignored inducements to introduce labour-saving measures as they wished to retain a reserve of
personnel to be available to meet their production target by working at top speed when supplies
were delayed.551

Furthermore, the concept of specialization was not adequately developed. Stalin had decided that
Uzbekistan should specialize in cotton, Western Siberia in coal, steel and chemicals, the Urals in steel
and arms production, Albania in fruit, Ukraine in grain and coal, and so on. This approach to the
international socialist division of labour was elaborated further in 1962 by the CMEA whereby Bulgaria
specialized in cranes and hoists, Poland in shoes and ships, and Russia in oil and gas. This concept was a
sensible one, but was applied in a dogmatic manner. Under Brezhnev, Uzbekistan's orchards and fields
were given over cotton production, which made it reliant upon importing food it could have grown
itself, with less congestion on limited rail capacity. The expansion of the cotton industry was, moreover,
achieved at the expense of draining and polluting the Aral Sea, destroying fishing villages in the process.
Intra-CMEA exchange was seen as marginal to home production and world trade. The Central and
Eastern European enterprises exported goods which met the specification to the capitalist markets and
reserved defective goods for sale in the Soviet Union.
Although quality control was introduced throughout much of Central and Eastern Europe, there was less
production planning and quality assurance in Soviet factories. In the shortage economy any old rubbish
came to be tolerated. Moreover, shoddy workmanship, careless handling, irresponsible attitudes
towards waste and quality and poor workplace discipline including high rates of absenteeism were
characteristic of many enterprises. Nor did enterprises specialize on particular types of products or
technologies. Large vertically integrated concerns were the norm, making many of the inputs
themselves, rather than out-sourcing to medium-sized specialist manufacturers as was more usual in a
market economy. The preference for large integrated producers was a result of the planners wish to
minimize the number of targets needing to be set for intermediate production.

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Over the course of the 1980s it became clear that the CMEA area was in crisis, although it remained
viable economically and was not expected to collapse.552 The extensive growth model was
retarding growth in the CMEA as a whole, with member countries dependent upon supplies of raw
materials from the USSR and upon the Soviet market for sales of goods. The decline in growth rates
reflected a combination of diminishing returns to capital accumulation and low innovation as well as
microeconomic inefficiencies, which a high rate of saving and investment was unable to counter. The
CMEA was supposed to ensure coordination of national plans but it failed even to develop a
common methodology for planning which could be adopted by all its member states. As each
member state was reluctant to give up national self-sufficiency, the CMEAs efforts to encourage
specialization were thwarted. There were very few joint ventures and therefore little intra-
enterprise technology transfer and trade, which in the rest of the world was often undertaken by
trans-national corporations. The International Bank for Economic Cooperation set up in 1963 to
facilitate trade in the socialist commonwealth had no means of converting a countrys trade surplus
into an option to buy goods and services from other CMEA members.553

The difficulties encountered in the attempt to shift to an intensive growth path encouraged some
economists to advocate an expansion of the market mechanism. Decentralizing investment decision
to the enterprises and allowing them to borrow against their own business plans without being
constrained by the five-year plan would encourage innovation, it was argued. Under the general
plan, the state banks provided enterprises with sufficient working capital to permit enterprises to
exchange goods and services between each other and finance their payrolls. The state banks
charged a low rate of interest for their short-term financing (the soft budget constraint). The
reformers wanted the state banks to become risk-taking investment banks to support the transition
to a largely market-based economy, focussed on satisfying consumer demand instead of societys
development (and defence) goals. It followed that if an enterprises business plan came unstuck, and
the enterprise was unable to repay the investment bank, then it would be declared bankrupt and
then restructured or closed down.554 Understandably, decision-makers were wary of taking such a
path, and reform proceeded at a more cautious pace than some wanted.

There was, however, an inconsistency in the story which blamed central planning for the USSR's
economic difficulties. The facts show that the USSR and most socialist economies were in a perpetual
state of chronic shortage. At the same time, enterprises and households hoarded anything useful and
wastefully used everything else. The inconsistency was usually explained by reference to the existence
of allocation inefficiencies: enterprises hoarded supplies because there were no reliable deliveries, and
they could not satisfy demand for items in short supply because the inputs were not available when
required. As already noted, allocational inefficiency apparently grew from 3 percent to 10 percent, so
while the degree of shortage was serious, it was not catastrophic.
What did this shortage amount to? Essentially, workers could not spend all their wages on goods and
services. Stalin had deliberately held down wages and the production of consumer goods to pump
savings into investment. As soon as he died, the CPSU leadership began to finance light industry and
expand housing. They never stopped trying to satisfy consumer demand, but in practice they failed. It
implied that planned output was always set 'too low' in relation to total wages. But why did planners
make this error?

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There are three possible reasons. Firstly, there was no proper attempt at macroeconomic planning to
ensure that incomes, sales and consumption balanced. The next shortcoming in the general planning
system was that there was no long range planning. Thirdly, there was no serious democratic debate
over alternative variants for the plans. Fundamentally, therefore, the planned socialist economies did
not undertake enough planning.
Where the planners went wrong was to assume that their targeted output approximated to the ceiling
of production possibilities. By comparison with what the capitalist countries were doing, the USSR was
nowhere near the ceiling. Back in 1928, Feldman had been working on a general plan covering 15 to 20
years. But he was sacked from GosPlan and exiled, and although there was an attempt to revive the
concept in 1937, in practice the USSR never had any comprehensive long range planning. At the time it
was thought unnecessary, and because the USSR was growing through extensive means (mobilizing
more and more labour and capital to accumulate) the economy was probably close to its ceiling anyway.
This no longer held true, however, when it became necessary to obtain growth by intensive means.
If the planners had used scenario analysis to outline a number of long term possibilities for the USSR
and the CMEA area they would have seen the enormous potential waiting to be employed through
technology and productivity improvements. They could have selected a small number of variants for
popular discussion and at the end of the process the Council of Ministers would have chosen the best
growth path. Each industry would have received its annual targets for the next five years. But in addition
each enterprise would have known that over the long term national output was going to expand by
more than its current set of targets.
Enterprises could now have expanded their sales, beyond the target if they borrowed from the state
industrial bank to invest in technology and productivity improvements. The enterprise would have had
two motives for always seeking to sell more. Firstly, regular reports from the wholesale and retail
ministries in each region would have told it how well its products were selling and if there was
unsatisfied demand. The enterprise could have been allowed to choose whether to raise the price
within a specified band allowed by the planners, and/or to expand output, as economist Oskar Lange
had proposed. Either way, it would receive a higher return from sales, which, after any new investment
was allowed for, could have been paid as a bonus to the work collective. The second incentive lay with
the local and regional soviet councils: if they saw that there were shortages or surpluses in local shops
then the soviet would have seen that use values were not equating to exchange values. The soviet
would have raised any inconsistencies with the work collective at the production unit and requested
remedial action.
Unlike in the market capitalist economies, credit would not have been a destabilising factor. Enterprises
would only have been able to borrow according to the overall ceiling for expansion set by the long range
plan, so there would not be a question of exceeding this, leading to a crisis caused by the failure to sell
the full amount produced. Enterprise business plans would have to be compatible with the ceiling set
for expansion beyond the mandated production targets. Workers would not have had to worry whether
their income over the course of their lifetime would vary. This meant that they would have been able to
borrow in the confidence that all repayments could be made. Only non-economic events like divorce or
the death of a partner would have led to individuals being left with bills that they could not meet.
The problems associated with allocating labour and capital under general planning could also have been
reduced by devolving some decision-making to regional levels. Under the General Plan for the Location
of Productive Forces and the General Scheme of Settlement of the Territory adopted in the early 1970s,

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the USSR was to have been divided into large group systems (in effect, city-regions) which would have
been self-sufficient in terms of food supply, services and amenities, while 'trading' most goods and
specialized services according to the five-year production plans. In the 1930 to 1955 period, economic
regions were expected to be largely self-sufficient in terms of energy production. This changed under
Khrushchev when it decided to exploit the oil and gas reserves of the Volga, Ural and Siberian basins. As
a result low-grade fuels such as wood, oil shale and brown coal were gradually dispensed with as new
pipelines were extended into Europe. If the planning of consumer goods and services had been
decentralized to these city-regions (each with a population of between 250,000 to one million) then
monitoring of consumer satisfaction could have been improved and long distance hauls would have
been reserved for production inputs or highly specialized finished goods. But these plans were never
properly implemented, possibly because decentralization to regions had been discredited after an ill-
conceived experiment in this direction under Khrushchev.555
In the more self-sufficient city-region, large enterprises could have co-operated with a network of
medium-sized specialist component producers and technical services. Alternative suppliers thus would
emerge, applying different techniques to produce similar products, and encouraging innovations to be
diffused across regions. As changes in demand for their products changed or productivity improved so
that fewer people were required, workers could have been transferred by the employment service
(which existed in the USSR, but was rarely used) to factories which were expanding, and, if necessary be
retrained. There would not be any unemployment. If there were too many workers at a factory, the
enterprise would have begun to make losses as costs rose in relation to sales. The regional soviet or
national government might be willing to subsidize these losses, for a while, but the losses would in fact
have been an indicator that the work collective was carrying a proportion of free riders. So it would be
necessary to transfer surplus workers to enterprises where there was a deficit. A more diversified
regional economy would have made this easier, without imposing compulsory relocation upon families.
Lastly, to complete this speculation, at each renewal of the general plan for development, there would
have been a comprehensive review of salaries. The trade unions, political and social organizations and
the economic ministries (plus GosPlan) could have agreed on a new job evaluation for all tasks and raise
salaries in line with anticipated growth. Regular bonuses could have been consolidated into basic salary
at intervals. Actual increases could be made during the course of the period in line with productivity

In the face of economic stagnation, the Soviet authorities gradually turned away from planning to
the market in an effort to find solutions. In principle, markets and planning were not considered to
be conflicting methods of regulating an economy. As Stalin outlined in his paper on Economic
Problems of Socialism in the USSR (1952), the key question concerned the operation of the law of
value. He argued that commodity production had not ceased in the USSR under planning but that
this had not led to the re-establishment of capitalism. Commodity production leads to capitalism
only if there is private ownership of the means of production; if labour power appears on the market
as a commodity which can be bought by the capitalist and exploited in the process of production;
and if, consequently, the system of exploitation of wage workers exists across the country.556 He
saw two basic systems of production in operation: the state enterprises and the collective farms,
with the latter engaging in product exchanges with the towns and state enterprises. There was also
trade with foreign countries. Stalin went on to say that the law of value regulated production in the

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cooperative sphere and influenced socialist production. Our enterprises cannot, and must not,
function without taking the law of value into account [] since it trains our business executives to
conduct production on rational lines and disciplines them.557 The trouble was that the law of value
was not being applied consistently and this led to problems in fixing prices (the monetary
expressions of value).

The phrase the law of value could be interpreted as implying that in any economic system, socialist
or not, there had to be equality between the value of goods and services produced, the labour
embodied, and the value of consumption. The law of value was defined in Marxist textbooks as the
exchange of commodities on the basis of the average socially necessary labour embodied within
them.558 Although not all workers were engaged in commodity production, everyone was involved in
commodity consumption. Therefore, in a socialist society where the workers received the full fruits of
their labour, there should have been a balance, whereby: aggregate social labour time = aggregate
exchange value = aggregate use value, using Marxian terms. According to the Marxian economist
Makoto Itoh, workers did not receive the full value of their labour in the USSR.559 They should have
received the full value of their output as a salary, which would then be subject to social security levies,
to which could be added the social wage (public services provided largely free of charge). The problem
was that salaries could not be turned fully into consumer goods and services there was forced saving.
Enterprises should have included within the sale price of all goods a mark-up to reflect the investment
needs of the economy as a whole. Generally, an enterprise in a planned economy should not make any
profit, although it might have paid a dividend to the state for the lease of social assets, such as land,
used in production and a tax to finance the national investment fund. (In the USSR, the main tax was a
turnover tax on enterprises, working a bit like a value-added tax but collected from the producer not the

The non-correspondence between use values and exchange values was a macroeconomic problem
which was never properly addressed in the USSR. In a market economy the balancing of production
and consumption is achieved through the price mechanism for the most part. Under socialism, the
economic mechanism to balance the economy was the allocation, or rationing, system. Early
planning sought to achieve balance using physical metrics (in tons, number of units, metres, etc.).
But this only provided an approximate picture. Any discrepancies in the planned allocation of inputs
to each stage of production had a knock-on effect along the chain and onto final output, as has been
mentioned already. Misallocation meant stockpiles in one place and shortages in another and
unfulfilled targets generally.

As the Soviet economy grew rapidly in the 1930s it became obvious that physical balances could not
be calculated accurately enough. The alternative to physical metrics was monetary accounting. But
once money was used as a measure of production and consumption, information on prices was
required. Since prices had been controlled since 1921 they often did not reflect the costs of
production. Planners were caught in a bind. Formulae were proposed to calculate guide prices on
the basis of wages, purchases of materials and an allowance for the depreciation of fixed assets
(machinery and buildings), but the computational problem remained: how to add up and, through
iteration, ensure that production and consumption balanced at every moment everywhere? The
answer was provided by Leonid Kantorovich (19171986), who invented a mathematical method
while working at a veneer factory in 1938 that solved the problem of how to maximize one objective
without losing sight of the constraints or other objectives. His method later became known as linear

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programming and it enabled a factory or logistics operation to optimize inputs in relation to the
desired output. In 1975 Kantorovich was awarded the Nobel Prize in Economics, an honour he
shared with Tjalling Koopmans (19101985), for their contribution to the theory of optimal
allocation of resources. He had already won a Stalin Prize in 1949 and a Lenin Prize in 1965.
Optimization using linear programming could be undertaken with physical or monetary units and as
computing power developed in the 1960s and 1970s the planners did not need to expand the role of
markets as the allocation system could be made to work more effectively. It was theoretically
possible to model the economy to observe the law of value without undertaking actual market
exchange; to plan using a virtual market with prices that reflected the scarcity of resources in
relation to effective demand. But this direction of travel was aborted in the mid-1960s by the
reluctance of the communist party to relinquish their control of prices, which was a politically
sensitive issue, to a bunch of planners and technocrats.561

Later on, Soviet reformers picked up on the idea that the influence of the law of value could be
expanded in socialist countries by opening-up markets in certain sectors of the economy, especially
in the supply of consumer goods, where shortages affected people most directly. If market prices
replaced administered prices, they reasoned (under the influence of Western neoclassical
economics), the economy would come into balance. It meant allowing enterprises and shops to set
prices and retain the profits. Initially reformers avoided advocating private ownership as they did not
wish to come into conflict with the communist party; cooperatives were therefore a compromise
form for enterprises in the newly opened market sectors. The trend-setter was Hungary but China
followed suit under its paramount leader, Deng Xiaoping (19041997). He told US business leaders
and Time magazine in 1985 that there are no fundamental contradictions between a socialist
system and a market economy. The question is what method we should use to develop the social
forces of production in a more effective way. If we can combine planning and the market economy, I
think it will help.562

Deng had fallen from power during the Cultural Revolution in 1966 after being denounced as a
capitalist roader. He had been accused of saying: it doesnt matter if a cat is black or white; if it
can catch mice, it is a good cat.563 On returning to power after Mao Zedongs death, Deng set in
train a modernization strategy to restore Chinas power and prosperity. Chen Yun (19051995), who
had presided over the preparation of Chinas first five-year plan for 195357, was entrusted with
oversight of the economy.564 Chen described the relationship between the planned economy and the
market by way of a metaphor, which became known as the bird cage economic theory:

Enlivening the economy and market adjustment must only be permitted to take place
within the set limit of planning, and must not overstep the guidance of planning. [] This is
like the relationship between a bird and its cage. The bird must not be held tightly in the
hand or it will die. It should fly, but only within the cage; without a cage, it will just fly away.
If we say the bird is an enlivened economy, the cage is state planning.565

Chen did not explain how the general plan was supposed to guide the market and it was not until
macroeconomic planning became a responsibility of the State Planning Commission, when it was
restructured in 2003 as the National Development and Reform Commission, that the government
began to steer the whole economy in an integrated and comprehensive fashion.566 Macroeconomic
analysis had been undertaken prior to this by the Development Research Centre of the State Council,

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set up in 1985 to advise on economic reform and long-term development but it had not been
integrated fully into the five-year planning process. Chinese economists studied especially the work
of Central European economists like Ota ik and Jnos Kornai.567 As the market economy developed
during the 1980s on the basis of Dengs reforms, entrepreneurs emerged under the guise of
cooperatives and in 1988 private enterprise was legalized.568 The same year, in Hungary, a new
company law was enacted putting all forms of ownership, including private ownership of
enterprises, on the same footing.569

The USSRs Mikhail Gorbachev was not far behind. He launched his version of market socialism in
1987: perestroika, or restructuring. He advocated a regulated market economy and the dismantling
of what he called the administrative-command system. The communist partys role in supervising
the economy was abolished at the end of 1988. A law on cooperatives adopted in 1989 provided
cover for entrepreneurs to legalize their activity.570 A team of economists and other specialists drew
up a reform plan in the summer of 1990, which became known as the 500 Days Program of
Transition to the Market. It envisaged creating a federal republic sharing a single currency, full price
liberalization and the privatization of enterprises.571 Controversy delayed its implementation but it
enjoyed Gorbachevs clear support. Gorbachev told a conference of enterprise executives in
December 1990 that property relations are the core of radical economic reform. It is necessary to
awaken peoples interest, to give them some motivation for increasing production. There is no other
way. [] Once there are owners there must also be space in which they can operate. Operate, seek
partners for raw materials deliveries, think about where to market their output, etc. There you have
it a market!572

Gorbachevs vision for a regulated market economy was never implemented in the USSR as its
constituent republics began pulling in different directions, with the Russian Federation under Boris
Yeltsin (19312007) leading the charge for effective independence and the transformation to an
open market economy. So it was left to China to pioneer a unique mix of general planning and
markets in a monetary commodity production economy using an amalgam of macroeconomic
policies, market regulation and administrative-command methods. The economic results were
spectacular, with annual growth averaging 9.5 percent between 1978 and 1995, and much of it
driven by higher productivity.573 In other words, China had managed to achieve an intensive growth
path; although Chinas growth involved expanding the use of its human, natural and capital
resources, the country employed more resources more productively year-on-year. Over time the
private sector spread out of its cage. From being a planned economy in the 1980s, where the state
regulated the market and the market regulated enterprises, it was declared in 1993 to be a socialist
market economy with Chinese characteristics.574 Between 1985 and 1995, the share of output
produced by state-owned enterprises fell from 65 to 34 percent, while that of privately owned
enterprises rose from three to 29 percent (collective township and village enterprises accounted for
32 and 37 percent respectively).575 The place of state-owned enterprises in the Chinese economy
had shrunk, but it remained very significant, employing 30 million people, producing two-fifths of
economic output and controlling $16 trillion in assets, according to the latest figures. Moreover, the
Chinese communist party ruled out the idea of permitting mixed ownership and eventual
privatization after a review of policy in late 2015.576

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The Soviet authorities carried on with a set of planning arrangements they had inherited from the Stalin
period without questioning sufficiently whether they remained appropriate under changed conditions.
It is possible that they believed that things were going along just fine, so there was no need to change.
For example, it appears in retrospect quite extraordinary that in 1957, on the occasion of the fortieth
anniversary of the October Revolution, the CPSU should have declared that the country was entering a
period of developed socialism and was ready to take the next step of laying the material and technical
base of communism. To be sure, the USSR was the nation that had launched Sputnik, but it was still
behind the USA or Western Europe on most other counts. There were also crackdowns on criticism of
any defects that might be interpreted as questioning the 'system' itself and a generally dogmatic
attitude toward the development of Marxism.
The chronic shortages in the USSRs economy had encouraged the emergence of a parallel market
economy between state-owned enterprises and the cooperative sector long before the planners had
a chance to develop a comprehensive economic model to underpin the general plan. Under the
guise of being a cooperative enterprise, an entrepreneur could create a covert private venture so
long as he was able to bribe local officials and pay his workers a bonus that well exceeded approved
wage rates. The political pressure to legalize the hidden market economy lay behind the push for
market solutions to the USSRs economic ills as much as the influence from western neoliberals.

As explained in Chapter 6, the markets for the factors of production do not clear in the way that the
markets for goods do when all items on the market are sold. The markets for labour, capital, land,
natural resources and knowledge are neither fully, nor optimally, utilized under capitalism. The main
reason why capital markets do not clear is due to uncertainty about the future returns to be made
from investment ventures. The chances of an enterprise seeing its efforts rewarded as expected are
enhanced in a planned economy. To be sure, not everything can be planned but information
technology and the digital revolution has potentially made the coordination of economic activities
much easier. Liberals who in the past pointed to the success of markets in coordinating producers
with consumers would have to reconsider the merits of a general plan for the economy and society.
The impetus in favour of market economies swept aside serious consideration of the advantages
offered by general planning. Such planning would have brought about a more efficient use of capital
as well as ensuring the full-utilization of labour and the balanced use of land and other natural
resources. The neoliberals mistake lay in their misplaced faith in markets to solve all economic
issues; they assumed implicitly that factor markets cleared when the evidence demonstrated clearly
that even mature market economies possessed under-utilized resources.

After the Second World War the idea of a generally planned economy spread from the USSR to the
peoples democracies and to some developing countries, like India. At the time most capitalist
countries also adopted some measure of economic planning to complement markets. Indeed, some
sociologists expected a convergence of the two systems.577 But neoliberal arguments that planning
was contrary to a well-functioning market system eventually prevailed. Those arguments went
uncontested largely because the economic stagnation of the 1980s in the socialist commonwealth
appeared to demonstrate the failure of historys alternative to the capitalist system. Chinas
achievements came later and were then viewed as confirmation that markets worked better than
planning. The neoliberal bias towards economic efficiency with associated prescriptions to establish
competitive markets and to privatize enterprises neglected the importance of institutional
structures.578 A balanced appraisal of the experience on the other side of history should form part of

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the renewal of socialism in the twenty-first century if an alternative to neoliberalism is to be


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Annex to Chapter 7: Statistical Data

Socialist countries and peoples democracies of Central and Eastern Europe (CEE)

Country Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live births
Albania 3.447 4.4 1,386 72.0 95 59 679 65 28 97 81
Bulgaria 8.821 53.3 5,968 71.4 97 66 2,085 27 16 99 99
Czechoslvk 15.604 129.3 8,287 71.3 100 70 : 15 12 100 100
CZE 10.326 : : 71.4 100 70 1,132 15 12 100 100
SVK 5.278 : : 71.0 100 72 1,247 15 14 100 100
E Germany 16.111 290.0 18,000 71.6 100 : : 12 8 100 100
Estonia 1.565 14.2 9,078 70.3 99 72 2,603 41 12 99 96
Hungary 10.385 68.5 6,569 69.4 100 67 1,145 30 8 98 100
Latvia 2.664 21.0 7,911 70.4 99 67 2,786 40 14 98 80
Lithuania 3.697 24.9 6,816 71.6 99 70 2,802 36 14 92 87
Poland 38.150 186.2 4,941 71.0 100 79 1,527 19 14 89 100
Romania 23.372 87.1 3,722 69.5 98 62 1,019 130 23 75 71
Yugoslavia 23.763 145.4 6,249 71.8 98 : : 11 17 99 96
BIH 4.527 16.0 3,549 72.0 96 : : 10 18 97 95
CRO 4.794 37.6 7,885 72.0 100 67 1,720 8 14 98 98
MKD 2.010 11.7 5,849 71.7 100 60 1,260 16 40 99 95
MNE 0.695 3.6 5,886 74.1 97 : : 8 22 97 95
SER 9.735 55.3 5,886 71.4 98 : : 23 22 99 96
SLO 2.004 21.2 10,663 73.1 100 : 2,033 13 17 100 99
CEE 147.581 1,024.3 6,991 70.9 99 67 2,177 16 14 98 96
BIH: Bosnia & Herzegovina; CRO: Croatia; CZE: Czech Republic; MKD: Macedonia; MNE: Montenegro; SER: Serbia; SLO: Slovenia; SVK: Slovakia

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Commonwealth of Independent States (CIS)/ Union of Soviet Socialist Republics (USSR)

Country Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live births
Armenia 3.545 17.3 4,923 68.4 98 75 3,711 50 19 90 89
Azerbaijan 7.217 31.2 4,456 66.1 98 72 2,323 22 26 70 60
Belarus 10.260 73.2 7,218 71.4 100 80 3,317 37 12 100 93
Georgia 5.460 34.4 6,390 70.5 99 69 2,710 33 20 85 96
Kazakhstan 16.172 76.3 4,666 67.5 99 73 3,433 80 26 96 96
Kyrgyzstan 4.395 13.7 3,244 67.8 98 73 1,837 110 32 77 93
Moldova 4.364 19.9 4,596 67.3 99 67 2,665 60 21 93 76
Russia 148.149 1,098.0 7,519 69.2 100 78 3,174 75 18 98 74
Tajikistan 5.297 13.7 2,730 66.8 98 69 2,298 130 43 61 89
Turkmenistan 3.668 13.4 3,825 64.7 98 90 2,078 55 55 86 98
Ukraine 51.659 284.2 5,536 70.6 99 76 3,152 50 17 97 97
Uzbekistan 20.555 59.4 3,046 67.5 98 73 3,054 55 38 90 76

USSR* 288.667 1,794.8 6,315 69.1 100 76 3,088 60 21 96 82

CIS 284.237 1,734.7 6,231 67.2 99 74 3,012 65 21 93 80
* Includes the Baltic States (Estonia, Latvia and Lithuania)

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Other socialist countries and peoples democracies Africa and the Americas

Country Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live
Algeria 26.240 67.6 2,750 66.8 50 55 : 220 50 92 80
Angola 10.334 20.9 750 41.1 41 31 : 1,200 126 42 29
Benin 5.001 2.8 360 : 26 : : 770 181 57 7
Congo-Brzv 2.383 5.4 920 53.0 63 49 : 420 100 60 10
Eritrea 3.273 1.5 320 46.5 25 : : 880 92 43 9
Ethiopia 48.043 15.2 270 46.1 35 18 : 950 121 14 2
Guinea-Biss 1.017 0.6 190 49.1 31 59 : 930 133 36 11
Libya 4.260 22.9 5,420 67.5 75 100 : 99 37 71 97
Mozambique 13.568 2.7 230 43.1 40 25 : 910 155 34 9
Somalia 6.322 1.2 170 46.4 12 : : 890 107 36 17

Cuba 10.601 165.0 2,780 74.7 95 86 : 63 13 90 81
Nicaragua 4.138 5.1 680 62.2 65 : : 160 71 74 43

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Other socialist countries and peoples democracies Asia

Country Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live
Afghanistan 11.731 : : 46.4 : 25 : 1,300 172 45 25
Cambodia 9.057 4.3 509 52.4 35 62 : 900 130 31 9
China 1,165.429 718.2 330 68.9 81 84 : 95 32 70 48
North Korea 20.194 : : 71.4 : 84 : 70 28 100 53
Laos 4.254 2.1 250 51.7 56 50 : 650 110 28 11
Mongolia 3.496 3.5 1,690 64.4 82 52 : 65 68 54 50
Myanmar 42.123 40.0 1,000 58.4 83 48 : 580 94 56 55
Vietnam 68.910 35.0 536 66.0 93 55 : 160 47 58 37
S Yemen 2.585 1.0 430 56.8 59 : : 1,400 120 66 24

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Organization for Economic Cooperation and Development (OECD) Europe

Country Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live births
Austria 7.670 136.9 18,010 74.8 100 87 2,836 10 9 100 100
Belgium 9.978 168.9 17,060 75.1 100 86 2,776 10 9 100 100
Denmark 5.140 113.7 22,300 74.8 100 89 3,045 13 8 100 100
Finland 4.987 107.7 21,540 74.7 100 97 3,739 7 6 96 100
France 56.846 1,036.4 18,540 76.0 100 89 3,409 13 8 100 100
W Germany 64.376 1,142.6 18,640 75.0 100 81 2,319 13 8 100 100
Greece 10.161 75.8 7,580 75.7 100 82 1,907 6 12 96 97
Iceland 0.255 5.8 23,350 77,6 100 83 2,393 8 6 100 100
Ireland 3.531 36.5 10,420 74.1 100 88 3,087 6 8 100 99
Italy 56.832 913.2 15,910 76.3 99 73 2,829 10 10 100 100
Luxembourg 0.382 8.2 21,840 74.5 100 58 : 6 9 100 100
Netherlands 14.890 272.5 18,410 76.7 100 91 3,339 10 7 100 100
Norway 4.240 100.7 23,970 76.0 100 92 3,890 9 8 100 100
Portugal 9.899 58.1 5,640 73.8 93 81 1,936 15 14 96 94
Spain 38.883 367.8 9,430 76.7 95 90 3,306 7 8 100 100
Sweden 8.559 203.2 24,190 77.1 100 82 2,622 6 6 100 100
Switzerland 6.674 221.9 33,620 77.2 100 76 2,095 7 7 100 100
UK 57.214 855.9 14,990 75.0 100 86 2,405 10 9 100 100

OECD EUR 360.517 5,825.8 16,376 75.4 100 86 2,829 10 8 100 100

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Organization for Economic Cooperation and Development (OECD) Americas, Asia and Oceania

Country Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live births
Canada 27.658 479.2 18,430 76.7 100 100 6,903 6 8 100 100
Chile 13.214 24.2 1,830 72.8 98 75 : 56 18 90 85
Mexico 86.077 167.4 2,000 69.8 88 70 : 92 40 82 66
USA 254.507 5,807.8 23,580 74.9 100 96 5,486 12 10 98 100

Israel 4.499 40.6 9,230 75.8 100 75 3,208 12 11 100 99
Japan 122.249 2,991.4 24,470 78.5 100 78 2,340 12 5 96 99
South Korea 42.972 192.8 4,590 70.4 98 82 : 18 15 93 90
Turkey 53.995 100.1 1,860 63.0 79 70 : 67 73 85 84

Australia 17.097 233.2 14,130 76.1 100 79 3,219 10 9 100 100
New Zealand 3.398 41.4 12,550 74.3 100 94 2,622 18 11 97 95

OECD All 1,346.700 15,903.7 15,597 75.1 100 82 2,836 22 16 98 99

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Regional comparisons

Region Population Gross GNP per Life Adult Gross Tertiary Maternal Infant Access to Access to
national person expectancy literacy enrolment students mortality mortality safe improved
product at birth ratio rate rate drinking sanitation
(GNP) (all levels) water
1990 1988 1988 19851990 1994 1994 1992 1990 per 1990 1990 1990
million US$ PPP US$ PPP years percent percent per 100,000 per 1,000 percent percent
billion 100,000 births live births
CEE/CIS 435.314 2,762.8 6,470 68.1 98 75 2,622 63 25 93 85
CMEA 487.564 2,817.3 5,902 68.7 97 69 : 73 23 88 77
OECD 1990 839.421 15,478.7 14,385 75.4 100 82 3,352 15 13 98 99
OECD All 1,346.700 15,903.7 15,597 75.1 100 82 2,836 22 16 98 99

World 5,320.817 20,698.0 3,890 64.0 77 60 1,489 416 58 75 54

CEE/CIS Albania, Armenia, Azerbaijan, Belarus, Bosnia & Herzegovina, Bulgaria, Croatia, Czech Republic, Estonia, Eastern Germany, Hungary, Georgia,
Kazakhstan, Kyrgyzstan, Latvia, Lithuania, Macedonia, Moldova, Montenegro, Poland, Romania, Russian Federation, Serbia, Slovakia, Slovenia,
Tajikistan, Turkmenistan, Ukraine and Uzbekistan
CMEA CEE/CIS + Cuba + Mongolia + Vietnam Yugoslavia (Bosnia & Herzegovina, Croatia, Macedonia, Montenegro, Serbia, Slovenia)
OECD 1990 Australia, Austria, Belgium, Canada, Denmark, Finland, France, Western Germany, Greece, Iceland, Ireland, Italy, Japan, Luxembourg,
Netherlands, New Zealand, Norway, Portugal, Spain, Sweden, Switzerland, Turkey, United Kingdom of Great Britain & Northern Ireland and
United States of America
OECD All OECD 1990 + Chile, Israel, Mexico and South Korea

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Population UN Department of Economic & Social Affairs, World Population Prospects: The 2012 Revision, New York: United Nations Organization
Gross national product IMF World Economic Outlook Database 2013; Angus Maddison, Monitoring the World Economy 1820-1992, 1995, Paris: OECD; World Bank,
1990, World Development Report 1990: Poverty, Oxford: Oxford University Press: Tables 1 and A1: pp. 178-179 and 243. Authors estimates
are based on GDP data for 1985 for China, Czechoslovakia, Laos and Vietnam.
Gross national product World Bank, 1990, World Development Report 1990: Poverty, Oxford: Oxford University Press: Table 1: pp. 178-179; IMF Staff estimates, in
(GNP) per person Stanley Fischer, Ratna Sahay and Carlos Vegh, 1996, Stabilization and growth in transition economies: The early experience, IMF Working
Paper WP/96/31, Table 1; for Eastern Germany: Jens Hlscher and Anja Hochberg (editors), 1998, East Germany's Economic Development
since Unification: Domestic and Global Aspects, Basingstoke, Hampshire: Macmillan: Figure 2.1, p. 25 (DM 280 billion converted at 0.965 PPP
conversion rate of the D-Mark to the US dollar in 1989 given at OECD Data accessed on 10/11/2015; UN Data, GNI per capita, Atlas method
(current US$)<> retrieved 20/11/2015.
Life expectancy at birth UN Department of Economic & Social Affairs, World Population Prospects: The 2012 Revision, File MORT/7.1, New York: United Nations
Organization; World Bank, 1990, World Development Report 1990: Poverty, Oxford: Oxford University Press: Table 1: pp. 178-179.
Adult literacy ratio UNDP, Human Development Report 1997, Tables 7, 8, 27 and 47 Profile of Human Development; World Bank, 1990, World Development
Report 1990: Poverty, Oxford: Oxford University Press: Tables 1 and A1: pp. 178-179 and 243.
Gross enrolment ratio UNDP, Human Development Report 1997, Tables 7, 8, 27 and 47 Profile of Human Development
Tertiary students ration UNDP, Human Development Report 1997, Tables 7, 8, 27 and 47 Profile of Human Development
Maternal mortality ratio UN, 1994, Demographic Yearbook 1992, New York: United Nations Department for Economic and Social Information and Policy Analysis,
Tables 4 and 20; UN Statistics Division, Department of Economic & Social Affairs, Millennium Development Goals Indicators
<> retrieved on 26/12/2013
Infant mortality ratio UN, 1994, Demographic Yearbook 1992, New York: United Nations Department for Economic and Social Information and Policy Analysis,
Tables 4 and 20; UN Statistics Division, Department of Economic & Social Affairs, Millennium Development Goals Indicators
<> retrieved on 26/12/2013; UNDP, Human Development Report 1997, Tables 12 and 47 Child Survival
& Development
Safe drinking water World Bank, World Development Report 1994, Oxford: Oxford University Press, Table A2; UN Statistics Division, Department of Economic &
Social Affairs, Millennium Development Goals Indicators <> retrieved on 26/12/2013
Improved sanitation World Bank, World Development Report 1994, Oxford: Oxford University Press, Table A2; UN Statistics Division, Department of Economic &
Social Affairs, Millennium Development Goals Indicators <> retrieved on 26/12/2013
Note Gaps in data have been estimated by the author based on data for later years and are shown in italics.

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8 In such perilous circumstance

The deployment of unconventional fiscal and monetary policies in the wake of the 2008 crisis to
buoy the economy was prompted by political considerations as much as economic. Few wanted to
risk an economic depression as had happened in the 1930s and the concomitant rise of fascism.579
Populism was on the rise in much of continental Europe and [ was] the norm in Latin America,
in the view of Larry Summers, and had infected even the relatively open economies of the UK and
the USA. The anti-globalization mood was being fed by concerns over inequality and economic
disruptions affecting working people most severely.580 The loss of faith in economic orthodoxy and
liberalism that followed the 2008 financial crisis echoed the events surrounding the Great

During the 1920s and 1930s most Central and Southern European countries came under the control
of military-backed ultra-nationalist or fascist governments.582 (Similar political rgimes were present
in Latin America.)583 Benito Mussolini (18831945) defined fascism as organized, concentrated
authoritarian democracy on a national basis.584 Historian Ernst Nolte (19232016) traced the rise of
fascism to a right-wing reaction to the [First World] War, the revolution, imperialism, [and] the
emergence of the Soviet Union and the United States as great powers.585 The peace treaties that
concluded the First World War were seen as unfair by many Europeans but any revision of the
treaties was blocked by the victors, France and Great Britain. When these resentments were
combined with expansionist aims by nationalist politicians, it created the momentum for another
war.586 The rise of the USA was perceived by fascists as heralding a capitalist world order controlled
by an oligarchy of financiers (and especially by Jews).587 There was therefore a natural overlap in
popular support for fascist and communist parties as both political movements were anti-liberal and
sought to strengthen state intervention in the economy to provide work for all. The difference
between them lay in the communist focus on the class character of capitalist societies, while the
fascists emphasized the unity of the nation.

Although the parallels were obvious, the situation had changed considerably by the start of the
twenty-first century.588 The formerly fascist and communist parties in Europe had embraced
representative democracy and, while eschewing neoliberalism, they were able to tap into citizens
resentments at the curtailment of opportunity created by fiscal austerity, financial shenanigans and,
in the case of the rightists, immigration. The formerly fascist parties blamed immigration for
declining wages and higher taxation. For the so-called populists of the left, austerity meant that
working people were picking up the bill for financial recklessness while the culprits [the bankers]
were left untouched. Moreover, as commentator Philip Stephens went on to note: For a decade or
so [from the mid-1990s], the badly skewed distribution of the gains from globalization and
widespread tax-evasion on the part of big business were camouflaged by buoyant economic growth.
Since 2008 the unfairnesses have been amplified by austerity: the wealthiest one percent have been
barely touched.589

Antipathy towards neoliberalism characterized populism, especially in Latin America, where the
anti-globalization movement organized the World Social Summits, to rival the business-oriented
World Economic Summit, held annually in Davos, Switzerland. To the attendees of the 2016 Davos
gathering, the populists are those political forces that advance ideas that are generally seen as
dangerous or facile, reported journalist and commentator Gideon Rachman.590 To be sure, such

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anti-establishment parties might be tamed by the experience of office: in Finland, the anti-
immigration True Finns moderated their rhetoric as soon as they joined a coalition government in
2015.591 Greeces Syriza, Italys 5-Star Movement and Spains Podemos dropped their attempts to
transform the economic system and were apparently satisfied with attacking the corruption
associated with the previous centrist conservative and socialist incumbents.592 Tackling public sector
corruption, private sector market rigging, or undocumented immigration were legitimate objectives
so long as the government followed parliamentary processes and accepted the rule of law. The fear
among the business community was that the populists would not stop there, but would take
advantage of the inability of representative democracy to cope with the economic crisis and the
relative decline of working peoples incomes to undermine liberal institutions and the rule of law.593

Financial Times commentators, Gideon Rachman and Philip Stephens, expressed the concerns of the
business community: Political elites are under pressure everywhere in the West. [] A populist
backlash [] against globalization and mainstream politics [] by those in the West who feel that
they have been left behind [] will make it extremely difficult for businesses and politicians to plan
for the future. [] Populism is on the rise [] fuelled by migration, austerity policies and long years
of stagnation. [It] threatens to undermine the [] liberal world order [ and] the globalized
economy.594 Reflecting on the recent past, Stephens maintained: Capitalism [needs] saving, but in
bailing out the financial institutions with taxpayers money governments transferred the stresses
from the markets to politics. A return to economic growth would relieve some of the pressure.
Europe in particular must understand just how politically corrosive slavish devotion to fiscal targets
has become. But the politicians must also confront the excesses. If they want to save liberal
democracy [from the populists], they will have to reform capitalism.595 Ahead of the 2017 Davos
meeting, the World Economic Forum stated that fundamental reforms of market capitalism might
be needed to address the angry mood of anti-establishment populism.596

There were some further notable differences between the contemporary situation and that of the
1920s and 1930s. The fear of violent social revolution and the hardships of the Great Depression had
affected everyone workers, farmers, shopkeepers, shareholders, enterprise owners and managers
and not just those who lost their jobs. The wide scope of the crisis undermined the stability of the
liberal democracies. Liberal representative democracy proved singularly ineffectual at managing the
economic crisis, denting popular confidence in the establishment parties.597 The fascist appeal to
national unity proved to be more potent than the communists appeal for class solidarity. It was this
lesson, from Italy and Germany especially, that led to a major reappraisal on the left. Under Georgi
Dimitrov (18821949), who had been arrested by the Nazis in 1933 during the mass round-up of
communists shortly after Hitlers election victory and who had come to understand the full extent of
the threat which fascism posed, the world communist movement adopted a strategy of forming a
popular front with other anti-fascist parties.598 Previously, communists had criticized social
democrats, liberals, conservatives and fascists alike as being equally supportive of bourgeois
democracy and had promoted a strategy of class confrontation through general strikes and
insurrection. In 1920, Lenin had described social democrats as the last bourgeois barricade that the
working class in revolt must storm in order to triumph.599 This stance had isolated communists from
other progressive political currents and, in abandoning the politics of patriotism, gave the fascists a
free hand to appeal to national sentiment.

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That mistake was corrected by Dimitrov when he became general secretary of the Comintern, the
Communist International organization, in 1935.600 It formed the basis for communist support to the
republican government of Spain when it faced a military-fascist rebellion in 1936. Unfortunately the
offer to collaborate with other anti-fascists forces was not always reciprocated. In the Spanish case;
the governments of Britain, France and the USA adopted a policy of non-intervention. The only
military support provided to the Spanish republicans came from Mexico and the USSR, while General
Francos rebels were backed by Italian and German troops and airmen, enabling the fascists
eventually to gain the upper hand. The change in communist strategy also led to the disbanding of
the Profintern, the Red International of Labour Unions, in 1937 in order to form unified trade union
confederations at the national level. (A unified, but short lived, World Federation of Trade Unions,
was later set up in 1945.) During the Second World War, in 1943, in order to placate his Western
allies, Stalin ordered the dissolution of the Comintern; but Dimitrov simply changed his title to
become head of the international department at the Central Committee of the Communist Party of
the Soviet Union (CPSU).601 He was succeeded later in this role by Boris Ponomarev (19051995),
previously Dimitrovs secretary at the Comintern, who, together with chief ideologist Mikhail Suslov
(19021982) and his protg Yuri Andropov (19141984), continued to guide the world communist
movement until the Gorbachev years.602 The world communist movement maintained its popular
front strategy as part of the struggle against imperialism, which allowed it to work constructively
with other progressives around the world in national liberation fronts to secure democracy and

The popular front strategy of collaboration with other progressives could be justified by reference to
the Communist Manifesto, where Marx and Engels had written: communists do not form a separate
party opposed to other working-class parties.603 It depended, however, on the social democrats and
left-leaning liberals reciprocating. In practice, these other parties often distrusted the communists
for their underhand methods as well as being too closely associated with Russian foreign policy and
Soviet economic interests. Communism and fascism were equally suspect in their eyes and they
rallied behind the call-to-arms issued by Winston Churchill (18741965) at Fulton, Missouri, in March
1946. Churchills lecture was attended by US President Harry Truman (18841972) in a very visible
show of support and it effectively launched the Cold War. Churchill warned that communists were
seeking everywhere to obtain totalitarian control and that an iron curtain had descended across
Europe. Soon afterwards, Truman echoed Churchills words in declaring that the USA was willing to
help free peoples to maintain their free institutions and national integrity against aggressive
movements that seek to impose upon them totalitarian rgimes the Truman doctrine, as it
became known.604

The word totalitarismo had been coined by Mussolini to characterise his fascist rgime, where
everything [is] within the state.605 In Germany, Carl Schmitt (18881985), a conservative jurist and
Nazi party member, promulgated a theory of a total state to replace the liberal state that was no
longer suitable for a modern aggressive country. In a total state (totaler Staat), the government
enjoyed a direct relationship with civil society organizations, along similar lines to the corporatism of
fascist Italy. The distinction between the state and civil society would be subsumed into a single
unified nation, which would thus be better prepared to fight world communism.606 Exiled German
liberals mocked Schmitts vision as a termite state.607

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The term was then adopted by liberals and some socialists, such as George Orwell (19031950), to
define what they had opposed during the Second World War (fascism) and thereafter to justify
continuing the conflict against the socialist commonwealth (communism), by and large pursued
through non-military means. It set up the liberal case in two ways.608 Firstly, communism was
equated with fascism as a barbaric dictatorial deviation from the liberal tradition in the words of
historian Tony Judt (19482010).609 For every feature of fascism, there was a communist
equivalent.610 For the Gestapo, read NKVD; for genocide, ethnic cleansing; for sub-humans there
were enemies of the people; nationalism and xenophobia had a parallel with internationalism and
subversion; and, last but not least, Stalin could be compared to Hitler (as could the little Stalins, as
historian Anne Applebaum described post-war communist leaders like Bolesaw Beirut (Poland);
Choybalsan (Mongolia); Georgi Dimitrov (Bulgaria); Gheorghe Gheorghiu-Dej (Romania); Kim Il-sung
(Korea); Klement Gottwald (Czechoslovakia); Enver Hoxha (Albania); Dolores Pasionaria Ibrruri
(Spain), Lus Carlos Prestes (Brazil); Mtys Rkosi (Hungary); Maurice Thorez (France); Josip Tito
(Yugoslavia); and Walter Ulbricht (Germany)).611 Secondly, Marxism was portrayed as a totalizing
philosophy. It provided a complete theory that could not be disproved on its own terms, similar to a
religion.612 The renegade communist Milovan Djilas (19111995) and other critics alleged that
Marxism also contained a totalitarian impulse to accumulate all power in its desire to abolish
private property.613 In his denunciation, The New Class (1957), Djilas wrote:

Communism first originated as an ideology, which contained in its seed communisms

totalitarian and monopolistic nature. [] Power [is] the basic characteristic of communism.
[] It is a power of a particular type, a power which unites within itself the control of ideas,
authority, and ownership; a power which has become an end in itself. [] Today power is
both the means and the goal of communists, in order that they may maintain their privileges
and ownership. But since these are special forms of power and ownership, it is only through
power that ownership can be exercised. Power is an end in itself and the essence of
contemporary communism.614

It was the logic of tautology: Communists were totalitarians because their political philosophy was
totalizing. As Djilas himself acknowledged, a communist party could only take power as a result of
social revolution, by which the formerly disposed took control.615 It meant that the economic
interests of the people were now aligned and society could unite around development objectives
wholeheartedly. But a classless society one where everyone was working for a living was not
necessarily one without social distinctions and differences. Djilas denounced the abuse of position
whereby communist party bigwigs could obtain privileged access to scarce consumer goods and
housing. But the manner by which the party exercised power through bureaucracy did not create
a class. Everyone was still an employee and no-one owned much beyond their personal effects,
furniture, household appliances, maybe a car, and some savings. To be sure, some possessed more
than others, such as savings in foreign bank accounts, and this contributed to the distrust within the
socialist societies. Moreover, differences in identity, of gender, race, nationality, sexuality, and
generation, continued to exert tensions. Diversity and aspiration indeed proved difficult to manage
as time went on and the older revolutionary generation passed away.

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When liberals and some socialists elided fascism and communism they also overlooked another
crucial political difference. In fascist theory, the national will was the driving force in society and it
was expressed through the state, as Mussolini stated in describing totalitarismo. The Italian fascist
symbol was a bundle of rods (fascio), which, when bound together were strong, but, if separated,
each rod could be broken. It represented the power of the collective. It was a state-organized
rgime, where public servants were required to join the fascist party and state corporations
controlled labour relations, communications, universities and utilities.616 Marxists, on the other
hand, considered the driving force to be the peoples will; that is, according to the interests of
working people and by the leading interpreters of those interests, namely communists. The peoples
will, in Marxist thinking, was expressed in a democracy in which the communist party played the
leading role. Article 6 of the USSRs constitution of 1977 declared that the CPSU was the leading
and guiding force of Soviet society.617 The fundamental difference between fascist and communist
political rgimes was that the state was the nucleus in the former, while it was a civil society
organization, the communist party, which exercised hegemony within both the state and civil
society, in the latter.618 Communists sought to achieve hegemony termed, somewhat misleadingly,
a dictatorship of the proletariat by providing security and development: job security, social
security, security of housing tenure, internal security and collective international security.
Accordingly, they achieved more success in less-developed countries than in the developed world,
where many basic rights had been gained already by social democratic and liberal parties. In
developing countries, the developmental achievements of the USSR were widely, although by no
means universally, admired.

To win wider support in the developed countries, in the context of the Cold War, many communist
parties felt the need to distance themselves from Moscow and shake off the tag of being subversive
enemies of the national interest in order to be recognized as a legitimate strand of political opinion.
A more national orientation was encouraged under the popular front strategy, by seeking a British,
or French, or an Indian road to socialism in collaboration with other progressives and to broaden the
communist partys appeal. The start of the Cold War provided just such an opportunity with the
announcement of the Truman doctrine, which committed the USA to oppose communism anywhere
around the world.619 It led to the convening of a top-level meeting of European communist parties in
the Polish ski resort of Szklarska Porba in the Sudeten Mountains in September 1947. Keynote
speaker was Andrei Zhdanov (18961948), who was responsible for international affairs at the
Politburo of the CPSU.620 The text of his address had been agreed with Stalin beforehand and
referred to the new division of the world into two camps: the imperialist camp led by the USA and
the anti-imperialist and at the suggestion of Lavrenty Beria (18991953) the democratic
camp, backed by the USSR.621 Zhdanov welcomed the foundation of the new peoples democracies
in Central and Eastern Europe. He repeated the USSRs commitment to a policy of peaceful
coexistence between the capitalist and socialist systems, but he urged communist parties to struggle
against Europes political subordination to American imperialism and to American capital.
Communists, he explained, are called upon to play a special historical role to head the resistance
to the American plan for the enslavement of Europe [ and to] support all truly patriotic elements
who do not want their country dishonoured, and who want to fight against the enslavement of their
motherland by foreign capital, and for its national sovereignty. Communists must take up the
banner of defence of the national independence and sovereignty of their countries.622 The

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challenge for communists, in Stalins pithy phrase, was to rescue the national flag which the
cosmopolitan bourgeoisie had thrown into the rubbish bin.623

As only European communist parties were present at the September conference another event was
organized in Moscow by the Pacific Ocean Institute of the USSR Academy of Sciences in mid-
November 1947 to discuss the wider implications of what became known as the national front
strategy. Academician Evgeny Zhukov (19071980), a historian and Asia policy expert, reiterated the
two camps assessment and called for a broad front of revolutionary elements led by the
communist party in the colonial countries to win their national liberation struggle and to form
peoples democratic republics.624 The Chinese communist leader Mao Zedong (18931976) had not
been invited to either of the conferences, but he too took on board the two camps approach,
emphasizing that his party lent to the side of the anti-imperialist camp.625 Zhukovs broad front
was essentially the same as Dimitrovs strategy of 1935 and that followed by Mao in China. It
encompassed four classes: the workers, peasants, the petty bourgeoisie (artisans, shopkeepers and
wealthier farmers) and the so-called national bourgeoisie (local entrepreneurs, public servants,
managers, professionals and intellectuals). Only the top layer of society the grand bourgeoisie of
capitalists, large landlords, agents of foreign firms (compradores), and so on who would identify
with the imperialist camp were excluded from the coalition.626 In general, people from the four
main classes lived by their own labour and so were considered by communists to be amenable to
progressive policies. The strategy of building a broad coalition formed the basis of Maos revolution
to establish a peoples democracy in China as well as Dimitrovs rgime in Bulgaria and in the other
countries of Central and Eastern Europe.627

The two camps perspective along with the pressure upon governments to choose sides in the Cold
War were challenged by Pandit Nehru (18891964) in India and by Sukarno (19011970) in
Indonesia. They organized a conference of Asian and African states in Bandung, Indonesia, in April
1955, to which China also came. A resolution implicitly criticizing both the USA and the USSR was
toned down in the final communiqu supporting national liberation movements, including those in
North Africa, Cyprus and Palestine, and endorsing the principle of non-interference in the internal
affairs of other countries.628 The former colonies had come together to make their voice heard in the
United Nations and to rebalance global political and economic relations. Three worlds had emerged
from the two camps and with Chinas break with the USSR in 1963 it profoundly altered the course
of the Cold War in favour of the West, although this was not so clear at the time given the success of
the Cuban Revolution in 1959 and the reunification of Vietnam in 1975.629 Mao put Lin Biao (1907
1971) in charge of defending the country against a possible nuclear strike by the USSR and to bolster
internal unity with the promotion of Maos collected sayings, The Little Red Book (1964). Lin backed
a three worlds strategy that sponsored peoples wars in developing countries a clear break with
the strategy of assembling a broad front.630 Mao eventually disposed of Lin, whom he had accepted
as his successor in 1969 but mistrusted, and mended relations with the USA in 1972.631

Reinforcing the nationalist orientation among communists was made easier still when the Soviet
leader Nikita Khrushchev denounced Stalins crimes and the cult of the individual in 1956.632 As a
result there were calls for change in several socialist countries. Demonstrations took place in Poland
and Hungary calling for the return to government of reformers: Wadysaw Gomuka (19051982) in

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Poland and Imre Nagy (18961958) in Hungary. On October 23rd, Budapest students marched to
demand Nagys reinstatement as prime minister, the dismissal of criminal ministers and officials,
freedom of expression, and the immediate withdrawal of Soviet forces from the country. (Hungary
and Romania had fought alongside Germany in the Second World War and Allied forces had retained
bases in the Axis countries after liberation. In Hungarys case these troops were from the USSR and
their presence was extended under the Warsaw Pact of 1955.) That night, a number of
demonstrators trying to storm the radio station were shot by police.633

Over the next days, armed groups attacked police stations and Soviet forces stationed in the country
and rgime loyalists and police informers were lynched.634 Protests spread quickly to Romania as
well.635 As prime minister from 1953 Nagy had sought to broaden the governments base to include
social democrats and smallholder parties but his disjointed and opportunistic attempts to spur the
production of consumer goods and raise wages had led to economic instability and inflation and
resulted in his dismissal in 1955.636 He had nevertheless retained much of his popularity and was
nominated prime minister on October 23rd as violence engulfed the capital.637 Back in office, but with
events out of control, Nagy spent days and nights conducting inconclusive negotiations with
opposition parties, the army, police, rebel commanders, and the USSR. A key question was whether
the West would help the new rgime. On the 30th, President Dwight Eisenhower made it clear that
the USA would not attempt to incorporate Hungary into NATO if it became neutral, like Austria and
Finland, under a national communist government until fresh elections were held.638 Nagy swiftly
responded to the American proposals and on the 1st of November the provisional government
announced that Hungary was henceforth a neutral country and was abrogating the Warsaw Pact
defence cooperation arrangement with the USSR.639 On the 4th of November, fearing that a counter-
revolution was underway, a rival Revolutionary Workers and Peasants Government was announced
by Jnos Kdr (19121989). Over the following week, interior ministry personnel loyal to the Kdr
government supressed the uprising with the help of Soviet reinforcements brought in from
Czechoslovakia, Romania and Ukraine. On taking power, Kdr insisted that he would not be
Moscows marionette and went on to introduce market-oriented reforms.640 In several other
Central and East European countries, leadership changes ensued and established a more national
orientation to communist party policy, with less interference from Moscow. Kdr explained: The
people dont exist just so we may test out Marxism on them.641

Kdr enjoyed a close relationship with Yuri Andropov, who became the Soviet leader in 1982, and
had been the Soviet ambassador in Hungary during the 1956 uprising and was later chairman of the
Committee for State Security (the KGB) between 1967 and 1982.642 Andropovs support for an
experiment in market socialism by the Hungarians lay behind his own call for perestroika after he
assumed the leadership of the USSR, but his early demise in 1984 meant that it was Mikhail
Gorbachev, another Andropov protg, who followed through with more substantial economic
reforms.643 A market economy required an autonomous legal system to enable fair competition, so
Gorbachev sought to create a law-based state, which would also uphold human rights. In doing so,
he undermined deliberately the communist partys strategic role in society and in guiding the world
communist movement. He had to eliminate not only the rival source of authority to that of the state
which the communist party represented, but also to dismantle its influence over the state-
sponsored associations of civil society. Historian Stephen Kotkin explained the demise of the USSR
and the socialist commonwealth the second world as opposed to the first world of capitalism
and the third world of developing countries as follows:

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The monumental second world collapse, in the face of a more powerful first world [] was
triggered not by military pressure but by communist ideology [ when] the Soviet Union
embarked upon a quest to realise the dream of socialism with a human face. [] A
generation, led by Mikhail Gorbachev, lamented the crushing of the 1968 Prague Spring. []
They [mistakenly] believed the planned economy could be reformed. [] Perestroika,
unintentionally, destroyed the planned economy, [while glasnost undermined] the
allegiance to Soviet socialism, and, in the end, the party too. And the blow to the party
unhinged the Union, which the party alone had held together.644

Communists had acted as the glue in maintaining social cohesion and in ensuring the single-minded
pursuit of common interests was maintained by all sections of society. Once socialist societies came
unstuck, they became no different from their non-socialist neighbours, where political competition
at elections replaced a consensual and iterative search for the sometimes elusive peoples will.
Political scientist and historian Archie Brown commented that, during the late 1980s, Gorbachevs
political beliefs evolved to the point at which they were virtually indistinguishable from those of the
social democrats of Western Europe and that some of the influence on party reformers came
directly from the West.645

In this regard Gorbachev was by no means unusual, since, during the 1980s, many European
communist parties had themselves moved towards social democracy. Following the ill-judged
military intervention of 1968 by the USSR, Bulgaria, Eastern Germany, Hungary and Poland to
suppress political liberalization in Czechoslovakia, arguments over the USSRs role in international
relations flared up once more and called into question the two camps perspective. Several
communist parties, led by the Italians, refused to endorse the military action at a conference the
following year.646 The Italian communist leader Enrico Berlinguer (19221984) and the Spanish
leader Santiago Carrillo (19152012) later issued a joint call in June 1975 for closer cooperation
among all democratic forces and for socialist renewal, without an official state ideology.647 They
sought to adapt their parties policies to the conditions of Western Europe, and this strand of
thinking became known as Eurocommunism, the camouflage for forsaking the goal of establishing
socialist-oriented peoples democracies set out by Zhdanov in 1947.648 In parallel with what had
occurred in Central and Eastern Europe, Western European communist parties had, from the 1950s,
sought to find a national road to socialism in each of their respective countries. They did so on the
grounds that the mature market economies were state monopoly capitalist societies, which
provided a basis to build a popular front comprising workers, professionals, small enterprise owners
and public servants, who all, they believed, potentially had an interest to curb the power of
transnational corporations and international banks the capitalist oligarchy.649 It was a
continuation of the broad front strategy, but with strongly nationalist bent, which meant that the
left would take the road to socialism that was most suitable to its circumstances. Moreover, a
national road to socialism might, as the Italian communist leader Palmiro Togliatti (18931964)
pointed out in 1956, lead countries in somewhat differing directions.650 In other words, while the
destination was the same, socialism would have Italian, or Chinese, or some other, characteristics,
and the people might not adopt the Soviet model and a planned economy.651

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In the epoch of peaceful co-existence between capitalist and socialist countries, which received a
boost in the 1970s as a result of the dtente diplomatic process, the strategy of following a national
road to socialism through a broad front necessarily involved the adoption of strictly constitutional
means to achieve industrial and political ends.652 Many communists came to accept that Stalinist
methods had been generally unconstitutional and the Leninist objective of a dictatorship of the
proletariat had to be abandoned in favour of representative parliamentary democracy. They
criticized the fusion of the communist party with the bureaucratic state apparatus in the USSR and
characterized the peoples democracies as oppressive, leaving no space for civil society to express
disparate interests and diverse opinions. In seeking to disentangle the role of the communist party
from the activities of the state, and to encourage civil society organizations as a check on the power
of the state, Gorbachev not only bought into the Eurocommunist rhetoric but also the wider
narrative espoused by the liberal critics of totalitarianism.

In Western Europe communist parties were never sufficiently popular to win elections outright while
the social democratic and labour parties proved to be far more successful at the ballot box. With the
exception of the French socialist party, social democrats rebuffed attempts by the communists to
form a coalition of the left. Communists were able to exert influence through their positions in local
government, through the trade unions and student associations, and in the cultural and intellectual
life of the nation. But the parliamentary road to socialism remained blocked. Incremental
modernization of their platform led nowhere. Speaking of the Italian communists, historian Donald
Sassoon noted: Every revision made [] was supposed to demonstrate that [the party] had finally
abandoned its communist past and embraced European social democracy. Yet every time it [did so,
the party] implicitly admitted that its critics had been right all along [ and was] still tainted by some
of the sins of communism.653

Furthermore, even as communists in the capitalist countries sought state regulation rather than
state (or workers) control of enterprises, communists in the socialist countries pushed for market
reforms and to liberate enterprise. By the late 1980s, therefore, there was an ideological
convergence towards replacing the centrally planned economy with a regulated market economy
as the goal of socialism. In 1989 the Italian communist leader Achille Occhetto declared that the
market is the irreplaceable motor of the entire economic system and provides a way for measuring
its efficiency.654 Not all communists agreed, to be sure, and in several countries the holdouts re-
formed nationally-oriented communist parties in the 1990s; meanwhile the majority effectively
disbanded their parties in favour of constructing broader progressive electoral alliances, and often
ended up merging with the social democratic parties. The Finnish and Swedish communist parties re-
emerged in 1990 as the United Left and the Left Party; the Italian communist party became the
Democratic Party of the Left in 1991; and a few months later, the Communist Party of Great Britain
dissolved into the Democratic Left. In Spain and Greece, communists had split in 1986 and 1987
respectively but agreed to work within a United Left (Izquierda Unida) and a Coalition of the Left and
Progress (known as Synaspisms).655 The latter eventually became Syriza. In Germany, the Party of
Democratic Socialism was established in 1990 and later, in 2007, merged with other groups to form
the Left Party (or Die Linke).656

The crisis of communism cannot be seen in isolation from the rise of neoliberalism as the dominant
approach in social science and politics since the end result was the formation of left wing more at
ease with market forces, but at the same time uncomfortable with its own history of

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uncompromising struggle against capitalism. And for many, the disintegration of the USSR and the
socialist commonwealth discredited Marxism thoroughly.657 Socialist renewal had taken much of
the left into the camp of neoliberalism and the rest into a sort of limbo, where both Twentieth
Century Socialism and neoliberalism were equally unwelcome.

Thus, by the end of the 1990s, the twin spectres of fascism and communism had departed the
political scene in many countries, but their place was soon to be occupied by the populists ready to
take advantage of the political establishments failure to address inequality.658 The reason that
rather disparate political parties were branded as populist was that they all aimed to protect
working people from harmful policy measures.659 Populism represented an unwillingness to bow to
market forces and to accept orthodox policies that reduced peoples living standards. These parties
sought to break the duopoly of conventional left/right politics.660 Some, like Syriza, emerged from
Eurocommunism, a tendency which, as already explained, had renounced its revolutionary mission
for pressure group and parliamentary politics. On the right, neo-fascist parties made the same
transition to re-brand themselves as genuine supporters of representative democracy. In Spain, the
neo-fascist Popular Alliance re-founded itself as part of a broader conservative grouping, the
Peoples Party in 1989, and came to enjoy electoral success with a mainstream program. The Italian
neo-fascist party dissolved in 1995 and became the National Alliance, itself merging into Silvio
Berlusconis The People of Freedom party in 2009. The French National Front changed course in
2011, again hoping to emulate the electoral success of its Spanish and Italian counterparts. Still
others were more difficult to classify on a left-right spectrum, like the Italian 5-Star Movement (as in
***** your politics), whose motto according to its founder Beppe Grillo was vaffanculo (stuff it up

Despite their avowals to respect the rules of representative democracy, the populists were feared by
neoliberals because they might implement radical policies that challenged property rights, impose
punitive taxation or dilute fiscal responsibility.662 The 1997 financial crisis had sparked a deep
recession in Latin America and rising poverty fed widespread discontent. The pink tide of leftist
governments Hugo Chvez and Nicols Maduro in Venezuela; Daniel Ortega in Nicaragua; Lula da
Silva and Dilma Rousseff in Brazil; Evo Morales in Bolivia; Nstor Kirchner and Christina Fernndez de
Kirchner in Argentina; and Rafael Correa in Ecuador were described by the Financial Times as
nationalistic, spendthrift and often immensely corrupt populists who undermined the rule of law
and left their economies in ruins.663 These movements, which emerged from the trade unions,
peasant associations and the formerly insurrectionary left, sought to build broad coalitions often
under the banner of a national hero from the past: Jos Gabriel Tpac Amaru (17381781), Simn
Bolvar (17831830), Jos Mart (18531895), Emiliano Zapata (18791919), Farabundo Mart (1893
1932) and Augusto Csar Sandino (18951934) the continents liberators.

The pink tide as it was not quite a red wave according to the humourists was led by Chvez,
who won the 1998 presidential election in Venezuela with the votes of both the poor and middle
income citizens.664 Over the next fifteen years, the boom in commodity prices filled government
coffers, enabling the funding of social programs, and lifting economic growth. The poverty rate in
Latin America fell from about 43 percent to under 30 percent between 1999 and 2013.665
Furthermore, between 2003 and 2013, one in five people moved up the income scale to earn

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between $10 and $50 a day.666 The rising standard of living tempted these middle income citizens
back to the liberal and conservative parties, while disenchantment with the leftists as a new
recession took hold eroded their support among the poor, resulting in right-wing election gains in
Argentina and Venezuela in 2015 and a constitutional coup in Brazil in 2016.667 In pursuit of Twenty-
first Century Socialism, Latin American leftists were willing to use executive power while respecting
constitutional conventions and the market economy. They relied upon the market to find the
resources for social programs and had little to fall back upon when world commodity prices turned
against them. Even the Bolivarian Revolution orchestrated by Hugo Chvez in Venezuela never
attempted to use the national development plan to establish a planned economy, but merely to
expand the cooperative sector and reduce the deprivation and marginalization of the poor through
the extension of public services. Neoliberal commentators, nevertheless, objected strongly to state
intervention to control prices and foreign exchange transactions, to the nationalization of private
companies, and to the imposition of high minimum wages. Such measures were not sanctioned by
the neoliberal principle that state intervention can only be justified to rectify market failure.

The financial crisis had nevertheless prompted serious reflection by neoliberals on the Future of
Capitalism, as the Financial Times headlined a series of articles published in 2009.668 Many of the
contributions examined the roots of the crisis and the lessons learned. There was however no
acknowledgement that capitalism had failed. Greed had prevailed, to be sure, and regulation had
proved inadequate. Martin Sorrell, a prominent British businessman, put is thus: It must be said
plainly that capitalism messed up or to be more precise capitalists did. We business,
governments, consumers submitted to excess; we got too greedy.669 But calls to clip the systems
wings were unjustified. Edmund Phelps, a Nobel Prize winning economist, recommended that we
should try to make capitalism work well again. In short and paraphrasing Freidrich Hayek, Phelps
put the neoliberal case for capitalism:

Capitalism is not the free market or laissez faire a system of zero government plus the
constable. Capitalist systems function less well without state protection of investors,
lenders and companies against monopoly, deception and fraud. [] A huge social insurance
system, with resulting high taxes, low take-home pay and low wealth, may not hurt
capitalism. In essence, capitalist systems are a mechanism by which economies may
generate growth in knowledge. Growth in knowledge leads to income growth and job
satisfaction. [] Well-functioning capitalist economies [have] a high propensity to innovate.
[] Those [nations] that broke from capitalism were less innovative. [] Many countries in
western continental Europe shifted to corporatist systems. This was a low point in the
publics grasp of political economy. In the end the promises of greater prosperity [] could
not be delivered [ and in the 1970s] they saw unemployment rise far more.670

Populists had failed to understand the advantage of a decentralized system where knowledge was
dispersed among many actors. Frank Knight, Maynard Keynes and Freidrich Hayek had recognized
the precariousness of dispersed knowledge and the important role the market mechanism played in
assembling it. The market enabled a discovery procedure that made capitalism more innovative
than the top-down systems of socialism or corporatism.671 Moreover, as two contributors to a
similar exercise organized by consultants McKinsey & Company on redefining capitalism went on to

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argue, the inherent problem solving ability of capitalism in the end helped consumers. Prosperity is
created by solving human problems, Eric Beinhocker and Nick Hauser maintained.672 Human
creativity develops a variety of ways to solve problems, but some inevitably work better than others,
and we need a process for sorting the wheat from the chaff. [] Capitalism is the mechanism by
which these processes occur. It provides incentives for millions of problem-solving experiments to
occur every day, provides competition to select the best solutions, [ and] eliminates less successful
ones. Capitalisms benefits inevitably came at a price of failed businesses: it involved creative
destruction.673 People needed to recognize that capitalism generated growth but also instability and
that these were inseparable features.674

Unfortunately, the financial and economic crises destroyed confidence in the competence and
probity of financial and economic policymaking elites, as Martin Wolf later wrote.675 From the
neoliberal point of view, there was not sufficient understanding among people and politicians of the
advantages and hazards posed by capitalism. Phelps concluded that regaining a well-functioning
capitalism will require re-education [as well as] deep reform.676 That, however, was going to be
tricky. With public trust in democracy eroding, The Economist considered that even in its [Western]
heartland, democracy is clearly suffering from serious structural problems.677 If re-educating the
electorate was too large a challenge, The Economist was ready with another solution.

Democratic governments got into the habit of running big structural deficits as a matter of
course, borrowing to give voters what they wanted in the short term, while neglecting long
term investment. [] The financial crisis starkly exposed the unsustainability of such debt-
financed democracy. With the post-crisis stimulus winding down, politicians must now
confront the difficult trade-offs they avoided during years of steady growth and easy credit.
But persuading voters to adapt to a new age of austerity will not prove popular at the ballot
box. [] Many democracies now face a fight between past and future, between inherited
entitlements and future investment.

Democracy has been on the back foot before. In the 1920s and 1930s communism and
fascism looked like the coming things. [] Things are not that bad these days [ but] the
flaws in the system have become worryingly visible and disillusion with politics is rife. []
The most successful democracies have all worked in large part because they avoided the
temptation of majoritarianism the notion that winning an election entitles the majority to
do whatever it pleases. [] The best way to address popular disillusion towards politicians is
to reduce the number of promises they can make. The key to a healthier democracy is a
narrower state. [] The relentless expansion of government is reducing liberty and handing
even more power to special interests.iv [] Both voters and governments need to be
persuaded of the merits of accepting restraints on the states natural tendency to overreach.
Giving control of monetary policy to independent central banks tamed the rampant inflation
of the 1980s, for example. It is time to apply the same principle of limited government to a
broader range of policies. Mature democracies [] require appropriate checks and balances
on the power of elected government.678

Special interests are the opposite of the general interest but neoliberals tended to use the term to imply the
corruption of the political system by specific groups of producers (especially those organized into trade unions
or professional guilds) or by crony capitalism; in other words, special interests are the supposed recipients of
alleged economic privileges.

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Populists, according to this view, threatened to impose a tyranny of the majority and did not respect
the proper limits to government.679 The financial crisis and long recession offered them a chance to
win elections and the capitalist system needed to be protected against them. Neoliberals were thus
quite shameless in advocating constitutionally limited government that would not be allowed to
pander to special interests, could not restrict competition, would not restrain enterprise from
market experiments even if they caused social disruption, and could never be permitted to break
the rules governing markets.

The financial crisis and long recession in the mature market economies demonstrated not only that
the market could malfunction but also displayed clearly the failings in economic management. As in
the 1930s, the liberal and social democratic parties were seemingly unable to secure broad-based
prosperity without the on-going social dislocation of globalization. Neoliberalism had helped
undermine faith in socialism and reinforced support for the market economy on the left. Although
the crisis exposed neoliberalisms own shortcomings, the left now lacked credible policies to rectify
the situation, while the centrists could only repeat the same worn-out rhetoric of trusting the
market mechanism. To be sure, dyed-in-the-wool neoliberals were readying themselves to impose
another political agenda that would limit the options for addressing the social dislocation associated
with globalization and capitalism to market-friendly solutions. Meanwhile others sought to reform
capitalism by tackling the pressing issues around rising inequality and low growth rates.

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9 The Thomas Piketty affair

When economist Thomas Piketty published a book titled Capital it was inevitable that comparisons
would be drawn with an earlier work with the same name by Karl Marx. The Economist magazine
quickly dubbed him a modern Marx.680 The book, Capital in the Twenty-first Century (2013), sold
1.5 million copies in half the time that it took Marx to sell his first 1,000 (over five years).681 It dealt
with the right subject at the right time, as The Economist noted. Inequality has suddenly become
a fevered topic [ and the book] has duly enraptured the left [and] infuriated the right.682 Piketty
was not shy either: I have proved that under present circumstances capitalism simply cannot work,
he told The Observer newspaper.683

When I began, simply collecting data, I was genuinely surprised by what I found, which was
that inequality is growing so fast and that capitalism cannot apparently solve it. Many
economists begin the other way round, by asking questions about poverty but I wanted to
understand wealth. [] There is a fundamental belief by capitalists that capital will save the
world, and it just isnt so. Not because of what Marx said about the contradictions of
capitalism; [but] because, as I discovered, capital is an end in itself. [] The speed at which
the inequality gap is growing [is unsustainable].684

Piketty contended that Marx was mistaken to expect the rate of return on investments to gradually
fall as more and more capital was accumulated by society.685 Competition forced capitalists, Marx
had argued, to invest more and more in machinery to obtain economies of scale and gain greater
market share. But each additional dollar invested in machinery generated a bit less in output and
sales, reducing the rate of profit generally. If capitalists were able to cut wages, they might be able
to offset the fall in profits, but there were social limits to how far exploitation could be ramped up.
Marx formulated his hypothesis during the hungry forties and upon Ricardos writings. Neither
Marx nor Ricardo appreciated the degree to which technical advance could spur productivity.686 In
fact, investment in new machines could generate proportionately more output for each dollar
invested and this is what the experience since the nineteenth century has revealed. Pikettys analysis
of historical information on rents, profits, investment and savings led him to estimate a relatively
stable average rate of return on capital of around four to six percent a year in Britain and France
between 1820 and 2010 (after taking account of the costs of managing an investment).v The rate of
return dipped a bit between 1870 and 1920 and was at its highest during the 1950s. It fell back again
in the 1960s and 1970s, returned to its normal level, and then dipped again in the early 2000s.687
There has been no secular fall in the rate of profit over the past two centuries.

That said, Piketty pointed out a mathematical relationship between the volume of capital, the rate of
return and national income. Given the fact that the rate of return tended to be close to five percent
a year, capital has accumulated faster than the growth of the economy, which was between two and
three percent a year between 1970 and 2010 in several mature market economies.688 The stock of
capital grew faster than national income, which thus provided its owners with an ever larger income.
The owners of capital therefore increased their share of national income. The two components of
national income are wages (the returns from labour) and profits (the returns from capital). They are
The rate of return to capital calculated by Piketty was an average of the pre-tax yields from all types of assets
including profits from business activities, rents from land and other real estate, dividends from stocks and
shares, interest from savings and loans and annuities from pension funds.

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inversely related to one another. According to Pikettys calculations, in 2010, the share of labour
income was 73 percent of British national income and the share of capital income was 27 percent
(there was a very similar split in France). In 1920, after the destruction of the First World War,
capital income stood at 20 percent in Britain and 30 percent in France, with labour income at 80 and
70 percent respectively. By contrast, in 1850, the capital income share in Britain and France was
about 43 percent and labour income was 57 percent.689

Expressed as a proportion of national income, the stock of private capital in North America, Japan
and Western European countries in the first decade of the twenty-first century was between four
times and seven times annual national income. In the 1970s the stock of capital had been smaller
proportionately, at two and four times annual national income. Piketty estimated that current levels
of capital were the highest since the 1890s, when it had been nearly five times annual national

Pikettys analysis departed from conventional Marxism in another important respect. He noted
especially the broadening of wealth holding in developed economies. The existence of a property-
owning middle strata in the mature market economies, together with the welfare state, meant, as
economist Jamie Galbraith pointed out, that these countries enjoyed more equality than did
developing countries where the divide between the haves and the have nots was far greater (and
doomed the poorest to an early grave as well).691 Income inequality had reduced after the Second
World War in Europe and the USA.692 Inequality in wealth also declined, this time from the First
World War onwards, until it began to increase again from the 1980s.693 There were several factors
behind the equalization of income and wealth, including the two world wars, which dispossessed
many people of their assets through confiscation, forced removal and from being compelled to sell
family possessions to survive, and from the introduction of inheritance taxes. But the biggest factor
was the rise of a property-owning middle stratum: the richer 40 percent of the population who
managed to acquire some capital of their own enough so that collectively they came to own one-
quarter to one-third of the nations total wealth.694 Above them were the top 10 percent wealthiest
of the population, owning 60 to 70 percent of all capital, and below them the bottom 50 percent,
who owned almost nothing (five percent of the national total at most), with the majority having no
more than a few weeks worth of savings.695

Given the tendency for capital to accumulate faster than overall economic growth, Piketty
anticipated that inequality would rise inexorably in the course of the twenty-first century. He
therefore advanced the case for a progressive global wealth tax to apply to all forms of capital. The
tax would apply to wealth of 200,000 and over, starting at an annual percentage of 0.5 percent up
to one million euro; one percent of fortunes between one million and five million euro; two percent
above five million euro; and maybe five percent on assets worth of over one billion euro.696 For this
to become practical, tax authorities would have to agree to exchange information on taxpayers and
their banking and property ownership details and to outlaw tax havens, where the rich hid their
wealth. The rates for the wealth tax proposed would not be penal and were based on the
assumption that the rich would continue to earn an annual rate of return of four to six percent a
year. Existing property taxes would be eliminated. The tax would therefore act as a brake on
exponentially rising fortunes, and as the amount collected each year might be equivalent to around
two percent of GDP, it could be used to pay down government debt. Piketty suggested that
government debt should not normally exceed 60 percent of GDP.697

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The Financial Times checked Pikettys spreadsheets against the original source material and alleged
that data anomalies they discovered weakened the main conclusion that the share of wealth held
by the richest had been rising in recent decades and was therefore comparable to the situation in
the early twentieth century.698 Its criticism was misplaced, however, since Piketty had never claimed
that inequality in the early twenty-first century was higher than in the nineteenth and early
twentieth centuries in fact, he estimated it to be lower and the FTs corrections actually
supported Pikettys conclusions.699 The spat demonstrated nevertheless just how sensitive the
business community was to evidence that showed that the rapid growth of wealth in the mature
market economies since the 1980s had increased inequality markedly, and that the main recipients
were the owners of capital and other profit-takers top managers and financiers who comprised
only a small segment of society.

A concern in elite circles over apparently rising levels of inequality fed the interest in Pikettys
findings. His book came at the right moment to catch Western media attention as disillusion with
neoliberal prescriptions set in. The managing director of the IMF, Christine Lagarde, spoke of the
vital need to tackle inequalities, make growth more inclusive, and help those people in richer
countries who had been left behind by globalization.700 In 1980, a typical chief executive officer
(CEO) of an American corporation pocketed 40 times the earnings of an average employee; by 1990,
the ratio was 80 and by 2000 it had risen to 419.701 Although the ratio had fallen back somewhat by
2015, to 340, opinion polls indicated that Americans though that the maximum multiple should be
40 and most believed that a ratio of 20 to 1 would fair.702 In Britain, the ratio of the median full-time
earnings to the average remuneration of a CEO at the top 100 public companies rose from 1 to 141
in 2006 to 1 to 183 in 2014.703 The ratios in France, Germany, Spain and Switzerland were similar to
that in Britain, but in Japan and Sweden it was below 1 to 100.704

Echoing the concerns of the business community noted in Chapter 8, Martin Wolf, one of the
Financial Timess lead commentators, observed that prolonged stagnation, cultural upheavals
[arising from immigration] and policy failures are combining to shake the balance between
democratic legitimacy and global order. [ Populists] offer clear, simple and wrong solutions
notably nationalism, nativism and protection. Western governments needed to recognize the
urgent necessity to reform capitalism since our civilization itself is at stake. Wolf proposed re-
balancing the interests of shareholders and financiers in favour of employees and consumers, raising
minimum wages and extending tax credits for working people to lift incomes among the low paid.
Perhaps the most important is taxation. Wealth owners, who depend on the security created by
legitimate democracies, should not escape taxation, he argued.705

As Thomas Piketty outlined, a key difficulty with tax collection has been the existence of tax havens,
jurisdictions that do not levy a particular tax or apply a very low rate of tax. By 2013 tax havens were
home to perhaps $20 trillion of funds and assets, some of which were hidden there to evade
taxation.706 Pikettys former student, Gabriel Zucman, estimated that at least $7.6 trillion of these
offshore assets were held for tax evasion, implying an annual tax loss to governments of $200 billion
a year.707 But the offshore accounts could not have existed without an on-shore financial system to
facilitate tax evasion. Ever since the 1930s, when stricter banking regulations came into force in the

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USA, Britain has played a key role in the global tax avoidance system.708 According to The Economist
magazine, a growing array of tax benefits have made London the city of choice for big firms to put
everything from letterbox subsidiaries to full-blown headquarters. A loose regime for controlled
foreign corporations makes it easy for British-registered businesses to park profits offshore.709 The
beneficiaries included companies controlled by private equity investors with headquarters in the
Channel Islands of Guernsey and Jersey, or in Bermuda, the British Virgin Islands and the Cayman
Islands.710 Other countries in the spotlight were Luxembourg, Ireland and the Netherlands. For
decades, almost nothing was done, as Piketty pointed out. Britains Labour Party leader, Jeremy
Corbyn, observed in 2016, after repeated scandals had emerged, that there is one rule for the
wealthy and another for the rest of us.711

From a corporate point of view, an offshore tax haven that offered tax-neutrality to holding
companies proved to be highly beneficial. Profits paid by subsidiaries to a holding company
registered in such a tax haven could then be distributed tax-free to the shareholders of the holding
company. Special purpose investment vehicles pooling sums from investors resident in several
jurisdictions could be set up in a low tax territory and, quite legitimately, undertake business
somewhere else, where taxes were payable, and so avoid double taxation complications.712 By 2000,
corporations were increasingly restructuring themselves to establish their holding company in a tax
haven. Over the 10 years between 1985 and 1994, island tax havens in the Caribbean and South
Pacific received $200 billion of direct investment from companies based in the G-7 countries.713 By
2012, the British Virgin Islands was the fifth largest recipient of foreign direct investment in the
world, with inflows of $72 billion a year.714 In the USA, the state of Delaware housed a plethora of
shell companies which [] facilitate illicit activity ranging from tax evasion to money laundering,
according to a Financial Times investigation, with Nevada and South Dakota providing similar
inducements.715 America, The Economist commented, is unmatched in corporate secrecy.716
Several states (Alaska, Delaware, Montana, New Hampshire and Oregon) did not levy sales tax and
therefore on-line retailers based their physical facilities in those states, even though they sold (and
shipped) goods and services nationwide.717

Electronic commerce has meant that business transactions do not take place in any specific
geographic location, but, at the end of the day, all revenues accrue to somebody, either a person or
a corporate entity with a home (residency), and all contracts are legally enforceable somewhere. So
it is up to governments to decide who they tax and for the courts to arbitrate any disputes between
taxpayers and tax collectors. Transnational corporations undertake activities in multiple jurisdictions
so it can be difficult to determine what value is created where, based upon the companys accounts.
Even so, it is a fact that the personnel undertaking the activity are physically located somewhere,
whether or not the location is their usual workplace or a temporary one. Determining whether an
organization has permanent establishment in a country, which gives a government the right under
international law to tax its revenues, may be contested, but, if its customers or suppliers are doing
business regularly with an enterprise in a country, it looks like something is going on within a specific
jurisdiction. If governments could agree on a formula to calculate the value of business done in a
country then many complex tax avoidance schemes could be made obsolete and the international
company taxation system would be more efficient and fairer.718

An investigation by The Economist in 2000 explained the way transnational corporations avoided tax:

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When filing tax returns in a high-tax country, multinationals typically claim that they have
earned as little of their profits there as they can get away with. Instead, they try to attribute
as much profit as possible to their operations in low-tax countries. They do this by arranging
transactions between their subsidiaries in the two countries, and setting the transfer price
of those transactions so that it has the desired effect on profits. In theory the transfer price
is supposed to be the same as the market price between two independent firms, but often
there is no market, so nobody knows what the market price might be. This is particularly
true of firms supplying services or intangible goods. So multinationals spend a fortune on
economists and accountants to justify the transfer prices that suit their tax needs.719

Until recently, most governments appeared to tolerate tax avoidance and rarely undertook intrusive
tax inspection to uncover concealed profits, even though it was clear that the scale of tax evasion
was large. At the turn of the twenty-first century, News Corporation, a formerly Australian company
that had relocated to the USA and which owned several newspapers and a TV station in Britain, was
revealed to have paid no UK corporation tax since 1987 despite earning profits of 1.4 billion.720 A
decade or so later, a number of tax authorities followed up on information on tax cheating provided
by whistle blowers, although many others continued to ignore the problem. In 2010, an auditor
working for PricewaterhouseCoopers (PwC), Antoine Deltour, came across evidence of how 340 of
the worlds biggest companies were reducing their tax bills through sweetheart deals with the Grand
Duchy of Luxembourg. He leaked the information to a journalist who contacted the International
Consortium of Investigative Journalists. The companies included Amazon, Burberry, FedEx, FIAT,
Heinz, IKEA, J P Morgan, Pepsi, Proctor & Gamble and Shire.721 It sparked an investigation by the
European Commission into the misallocation of profits at Amazon, which, the inquiry revealed, used
inter-group royalty payments to shift 3.3 billion of profits made from sales in Europe between 2007
and 2013 to Luxembourg, where it had negotiated a cap on its tax bill of 75 million a year. Another
investigation was opened on the royalty payments made by the restaurant chain McDonalds to its
subsidiary in Luxembourg.722 The Commission also investigated similar profit-shifting practices by
Apple with Ireland and Starbucks with The Netherlands.723 The Irish taxation arrangements offered
American transnational corporations, including Apple, Facebook, Google, Intel and Microsoft, the
chance to charge royalties amounting collectively to one trillion dollars for intellectual property from
other divisions of the group that were then channelled from Ireland to Bermuda.724 Another sharp
practice involved inter-group loans: for example the pharmaceutical company Shire lent $10 billion
from its small unit in Luxembourg with high rates of interest to the companys drug manufacturing
and sales divisions, which the latter had to repay, thereby effectively shifting profits to lower-tax
Luxembourg.725 These arrangements meant that many transnational corporations were able to
reduce the tax rate on their corporate profits to between one and six percent.726 This compared to
the average corporate tax rate in the countries belonging to the Organization for Economic
Cooperation and Development (OECD) of 25 percent, which had already been reduced by half since
the 1980s.727 Piketty described the practices as stealing the tax base of your neighbours.728

As the 2008 financial crisis reduced government revenues, tax authorities turned their attention to
narrowing the scope for tax evasion by enterprises and rich individuals. For the most part, taxes are
levied on residents or domiciled persons. A smaller number of countries operate a system of
territorial taxation, under which only income gained in the country is subject to taxation. Under the

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American tax system, US citizens and other people entitled to work in the country (green card
holders) are required to declare their total income, regardless of where it was gained or where they
reside. Their total income is therefore taxed unless they show that they paid tax on it elsewhere
under agreements between the USA and other governments to avoid double taxation of the same
income. Most other countries limit taxation to those who are resident and if a non-resident earns
income in the country they may not be taxed on it, thereby providing a route for earnings to escape
taxation altogether (or for the overall tax payment to be minimized) if these are remitted to a tax
haven. Under the Convention on Mutual Administrative Assistance on Tax Matters, which came into
force in 1995, the signatory governments agreed to exchange information on tax matters, so in
principle, tax cheats could be traced. Around 70 countries signed the convention and many of these
countries have since agreed on a standardized format for companies to report their sales and

The mounting evidence of what the G-20 governments called tax base erosion and profit shifting
reinforced the need for greater information sharing between governments.730 If national
governments could agree to share corporate tax receipts according to a formula, based on payroll,
assets and sales, much as US States do in the USA, much more tax could be collected from
transnational corporations. Such a proposal was last considered, and rejected, by the League of
Nations in 1933.731 Instead, governments pretend that a subsidiary registered within their
jurisdiction is an independent entity (the arms-length principle), allowing them to engage in
supposedly commercially-valid transactions with other members of the group and their parent.732
Scrapping the fiction of independent entity status for subsidiaries in a corporate group, and treating
total group revenues in a corporate group as taxable, and then for governments to agree among
themselves on a formula for dividing these among themselves, is theoretically possible but,
unfortunately, has not so far gained the backing of the USA, among others.

Even if governments failed to agree on a way to cooperate in collecting corporate taxes, other
solutions were available, as The Economist pointed out. The incentive to avoid tax by restructuring
commercial operations introduced inefficiency: Let firms concentrate on doing what they do best,
and to establish themselves wherever they can operate most efficiently without wasting time and
resources on playing games with tax authorities.733 Eliminating corporation taxes would be
politically difficult, The Economist recognized, and might require rises in consumer taxation (sales
taxes or value-added tax) to offset the reduction in revenues to the government. Taxes on land were
another possibility. An alternative to taxing sales or land would be to tax company payrolls. Rising
welfare bills, as a smaller proportion of working age people were faced with supporting a larger
proportion of retirees, in any case demanded an increasing rate of social security contributions in
some countries. Deductions for social security from wages and salaries are often supplemented by
parallel charges levied on enterprises, so that the cost of social security is shared between
employees and employers. Often misnamed a tax on jobs, raising the tax on employers for funding
social security appeared to be a perverse measure, but in return enterprises could be freed from
corporation tax (the tax on profits). Exempting profits from tax would also eliminate all the options
in tax codes that allowed enterprises to off-set their investment, borrowing costs and any losses
against the tax owed in the current tax year or other years. It would be a tax system less vulnerable
to manipulation by corporate accountants and would generate a more predictable stream of income
to the government than continuing to tax more variable profits.

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Rich individuals were also escaping taxes on their income by establishing trust funds or shell
companies in tax havens. Banks such as Barclays, Commerzbank, Coutts, Crdit Suisse, HSBC, Socit
Gnral, Rothschild and the Union Bank of Switzerland helped over 200,000 of their clients hide
their savings in non-trading shell companies (which were not obliged to report their assets or
ultimate ownership to many tax authorities) located mostly around the Caribbean region with the
help of a Panama-based law firm, Mossack Fonseca, whose records were leaked to the Sddeutsche
Zeitung newspaper in 2015.734 Other leaked documents obtained by the New York Times revealed
that the Pacific Ocean Cook Islands were popular with the wealthy in Palm Beach, Florida, New York
and Hollywood. The Cook Islands, a protectorate of New Zealand, have a stable government and
sophisticated judiciary based in English common law and generally disregard foreign court
orders.735 Another favoured locations was the British Virgin Islands in the Caribbean, which are
overseas territories associated with the UK. A whistle blower sent details of 122,000 offshore
accounts held in the British Virgin Islands, the Cook Islands and other tax havens to the International
Consortium of Investigative Journalists in 2011.736 The Boston Consulting Group estimated that $8.9
trillion of private wealth was held offshore in 2013, of which over two trillion dollars was in
Switzerland and another trillion dollars in the Caribbean and Panama. The USA hosted $800 billion of
off-shore wealth, nearly half of which originated in Latin America. The value of offshore funds had
risen to nearly $10 trillion by 2015.737

An earlier whistle blower, data-entry clerk Heinrich Kieber, copied the records of 1,400 clients of the
Liechtenstein Global Trust, owned by the principalitys ruling family, in 2002 and sold them onto the
tax authorities of Germany, the UK and the USA.738 The German tax authorities began to prosecute
these tax evaders in 2009 and put diplomatic pressure on Liechtenstein to cooperate. It was
reported that the German governments actions on Liechtenstein were a precursor to a move
against Swiss banking secrecy.739 There, a software engineer, Herv Falciani, had disclosed client
data held by the Swiss private banking arm of HSBC in 2008 to the French tax authorities, who
passed the information onto other governments (the Lagarde List, as it became known, since
Christine Lagarde was the French finance minister at the time). Under this pressure, the Swiss
government agreed with Britain and Germany in 2011 to levy a withholding tax on British and
German account holders without revealing the names of those account holders, thus preserving its
banking secrecy laws dating back to 1934 (and introduced in part to help persecuted German
Jews).740 The European Commission published a list of 30 non-cooperative tax jurisdictions in
2015, of which twenty-one were small islands along with Belize, Panama, Brunei, Hong Kong,
Mauritius, Liberia, Andorra, Liechtenstein and Monaco. Switzerland was left off the list.741

Another contributor to the debate over inequality was Joe Stiglitz, who had served in Bill Clintons
administration and then as chief economist at the World Bank between 1997 and 2000. In two
books, Globalization and its Discontents (2002) and The Price of Inequality (2012), he advanced far-
reaching proposals to introduce notions of fairness, equity and shared prosperity into economic
decision-making. Inequality in the mature market economies had grown, he suggested, as a result of
stagnating incomes among the poor and fast-growing incomes among the very rich. At the bottom
end of the income scale, wages were held back by the weakness of workers bargaining position as a

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result of the innovations in technology, especially of information technology, and the relocation of
work to emerging industrial economies trends associated with globalization.742 Working people
who lacked appropriate educational qualifications or possessed outmoded skills were badly placed
to take up the new jobs being created as a result of technical change. That put them into
competition for low-end jobs with other less-qualified workers or migrants, who, even if they had
good qualifications, often faced discrimination in the labour market.

Ensuring a match between the types of personnel an employer required and the skills and
qualifications of the labour force called for a pro-active vocational educational and training strategy.
The wave of industrial restructuring that swept through the mature market economies in the 1980s
and 1990s exposed the weaknesses in many countries vocational education systems. In Britain, the
problems were compounded when the Conservative government whittled away at the activities of
the Manpower Services Commission, and then closed it in 1988. School leavers facing high rates of
unemployment were forced into the Youth Training Scheme between 1983 and 1989, which paid the
expenses of gaining work experience but offered only very modest training. Unless the substantial
minority of kids who leave secondary school with below average grades are recruited into vocational
education colleges, the country will fail to make best use of all its talents. In the immediate post-war
years, sixty percent of the UK labour force was without educational qualifications, but the tight job
markets of the time meant that employers hired them nonetheless and paid for much of their
training, including high quality apprenticeships.743 When employers were able to pick and choose
their recruits as unemployment rose, they tended to screen applicants by their qualifications and
often hired young people who were over-qualified for the job. Those recruits still received some
training, but the employers benefited from not having to supervise them as closely. In order to
provide a route into work for those with lower than average grades, the UK government forced all
sectors to specify their vocational requirements formally. A framework of National Occupational
Standards was established in 1986 and the first National Vocational Qualifications were awarded in
1988. School leavers could therefore go to a further education college or an apprenticeship that
provided a route into a specific profession. In 2015, the government raised the age at which a young
person could leave full-time education to 18 unless they were an apprentice, thus pushing them into
vocational, further or higher education.

But ensuring that there was the correct number of appropriately qualified people to fill the
vacancies at enterprises could only comprise half of the task. On the other side of the equation was
the requirement to create enough jobs for all those looking for work. As economist Robin Marris
(19242012) put it: the government is responsible for expanding demand, the private sector for
expanding capacity.744 Full employment required that employers created enough new jobs for new
entrants to the labour market to fill, taking account of retirements, and re-employed those workers
whose jobs disappeared as a result of technological change or from shifts in the patterns of
production and consumption. If the economy was expanding at a sufficiently rapid rate, then, with
an effective job matching system provided by the vocational education and training service, all was
likely to be well. If, however, enterprises were not investing enough in businesses located in the
country, structural unemployment would certainly result.

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The mature market economies of the twenty-first century were mass consumer societies with
relatively high rates of employment among both men and women. None, however, was a fully
employed economy as persistent structural unemployment demonstrated (see Chapter 6). At the
same time, they were also dependent upon inward migration, some of it unauthorized.
Undocumented workers and their families numbered over 11 million in the USA by 2014, nearly half
of whom were from Mexico. They represented 3.5 percent of the nations population.745 The
estimated undocumented population in the European Union was at least four to five million, around
one percent of the total population.746 A larger informal sphere in the mature market economies,
where undocumented migrants sought work under exploitative conditions, tended to undermine the
wages of other less qualified workers in regular jobs. Studies in the USA suggested that legally
established immigrant workers earned more than undocumented workers, and both these groups
earned less than native born Americans with similar qualifications (or none).747 A significant sphere
of informally employed workers contributed to a widening gap in earnings in the mature market

In much of Asia, Latin America and the Caribbean, and Africa, 40 to 50 percent of workers were
employed on a casual basis or on their own account in the informal sphere, with a further 15 to 30
percent in the Eastern Europe, and in Central and West Asia (see Table 9.1).748 Many informally
employed workers worked as unpaid members of a household (15 percent of all developing country
workers), which shared the products they produced, often from agriculture. Others (40 percent)
worked for a wage but without any form of social protection and were denied the employment
rights established in their countrys constitution and labour laws.749 Of the total 3.1 billion or so
workers in developing countries, nearly 1.5 billion (48 percent) were in what the International
Labour Organization (ILO) classed as vulnerable employment in 2012.750 The numbers had been
growing steadily since 2000 by about 10 million a year. Among those working in the formal sector of
developing economies, who were employed under proper contracts, around five percent were
unemployed, or 143 million. Another 54 million workers were unemployed in developed
countries.751 Half of workers in developing countries earned less than four dollars a day and 845
million (28 percent) under two dollars a day according to ILO estimates for 2012.752 Not surprisingly,
the vast majority of those working in the informal sphere were living on very low incomes, but low
wages were also prevalent among 35 percent of the waged workers in the formal sphere, indicating
that a job was not necessarily a sure route out of poverty. Nonetheless, the majority of those
earning more than four dollars a day were waged workers.753

Wage levels grew much faster in real terms in developing countries compared with developed
countries between 2000 and 2011: they rose by around 15 to 20 percent in Africa and Latin America
and the Caribbean; by 95 percent in Asia; by 170 percent in Eastern Europe and Central Asia; and by
just 5 percent in other developed countries.754 Wage rises accompanied rapid economic growth
despite the low incidence of trade union organization and collective bargaining in developing
countries. In Western Europe, 30 percent of more of employees were covered by collective
bargaining agreements with the exception of Ireland and the UK where about 25 percent were
covered. In most of Central and Eastern Europe, 20 percent or more employees were covered but
there were several exceptions, especially among the Balkan countries including Greece. Asian
countries generally saw 10 percent or less coverage and in Latin America only Argentina, Brazil and
Uruguay had broad coverage of 28, 42 and 68 percent respectively. Canada (26 percent), USA (11
percent) and Mexico (8 percent) in North America and Australia (55 percent) and New Zealand (12

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percent) showed similar variation in the coverage of workers by collective bargaining agreements. In
Africa, only South Africa figured with coverage at 28 percent.755 In China, collective consultation was
introduced in 1995 and by 2005 nearly 40 percent of urban employees (and 14 percent of all
employment), or 102 million workers, were covered by collective agreements.756 Broadly-based
collective bargaining reflected trade union organization generally but there were many countries
with low trade union membership rates but broad coverage by collective agreements, which
reflected historic gains by the labour movement in establishing collective arrangements in the public

Table 9.1: Employment 2012 (Millions)

Region Employment Vulnerable Earning

Total Unemployed Informal Employment <$4/day
East Asia 822.6 36.2 : 382.6 337.7
Southeast Asia & Pacific 302.7 12.4 151.4 180.8 202.9
South Asia 618.7 24.1 433.1 472.5 569.1
Middle East 66.2 7.2 14.2 16.8 19.7
North Africa 60.7 7.4 : 21.7 35.7
Sub-Saharan Africa 320.5 24.4 144.2 248.6 274.9
Latin America & Caribbean 273.2 18.0 129.8 86.7 61.3
CEE-CIS 164.7 13.2 37.1 31.7 24.8
Advanced economies 473.2 40.7 : 47.7 0
World 3,102.5 183.6 ~800.0 1,489.1 1,526.1
Source: International Labour Organization.

Collective bargaining resulted in a lower spread of wages and earnings and high compliance with
legal labour norms and standards, such as the payment of the statutory minimum wage and equal
pay for work of equal value between men and women. Thus collective bargaining was associated
with greater equality in incomes and in terms of employee treatment.759 In many developing
countries, therefore, and especially in Asia (with the exceptions of China, Vietnam and to a more
limited extent, Cambodia) the high proportion of workers making a living in the informal sphere and
the low coverage of collective bargaining created a situation where mandated employment rights
were ignored by employers with impunity.

The relocation of work to lower cost countries could thus disadvantage workers when basic
employment rights went unobserved and exploitative conditions existed as was the case in much of
Asia.760 Nonetheless, when a company in a developed country transferred less skilled factory work to
a developing country to reduce production costs, both countries could gain. The developing country
acquired capability to export finished or semi-finished goods to developed countries and jobs were
created, thus raising incomes all round. Cheaper labour costs in developing countries meant that the
developed countries importing those goods also benefited from the lower prices of those goods.
Meanwhile, higher export earnings boosted national income in the developing countries and
enabled them to buy more sophisticated goods from the developed countries. Trade between the
developed and developing countries benefited both sides. In addition, profits made by exporters
based in developing countries might be invested in the financial markets of the developed country
creating jobs in financial intermediation and banking. Overall, therefore, the less skilled jobs that
were lost by the developed countries were, in general, replaced by higher skilled jobs.

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Unfortunately, the less skilled workers in developed countries who had lost their work could not
expect to fill the new jobs created for workers with different or higher levels of skill. International
trade in goods and services could thus disadvantage less skilled workers in developed countries,
pulling their wages down, while befitting workers with more skills and qualifications, who saw their
wages rise as demand for their services expanded.761 Many, correctly, blamed globalization for the
rising inequality they observed in the mature market economies.

Globalization, as Justin Rosenberg rightly observed, is an outcome of economic change, not a driving
force.762 According to Stiglitz, globalization results from the closer integration of the countries and
the peoples of the world which has been brought about by the enormous reduction of costs of
transportation and communication, and the breaking down of artificial barriers to the flows of
goods, services, capital, knowledge, and (to a lesser extent) people across borders. Trade
liberalization helped economic development when exports drove economic growth and had left
millions of people far better off in the developing countries. But even in the developing countries
it is easy to destroy jobs, Stiglitz averred, as inefficient local industries closed down under
pressure from international competition.763

For millions of people globalization has not worked. Many have actually been made worse
off, as they have seen their jobs destroyed and their lives become more insecure. They have
felt increasingly powerless against forces beyond their control. They have seen their
democracies undermined and their cultures eroded. If globalization continues to be
conducted in the way it has been in the past, if we continue to fail to learn from our
mistakes, globalization will not only not succeed in promoting development but will continue
to create poverty and instability.764

Thus, the shift of jobs from the mature market economies to emerging market economies, the
outsourcing of both manufacturing and service functions, and the inflow of workers from developing
countries and transition economies held back wage growth at the bottom end of the income scale.
In fact a report from McKinsey & Company suggested that as many as 65 and 70 percent of
households in 25 advanced economies in Europe, North America and Australia/New Zealand, had
suffered from stagnating or falling incomes in the decade since 2005. For these households, their
income from wages and capital in 2014 was flat or below that of ten years earlier. In the preceding
twelve years, between 1993 and 2005, less than 2 percent of households had been in a similar
position; and over 98 percent of households had enjoyed a rising standard of living until 2005. Taxes
and state benefits had softened the impact in many cases, but even taking these transfers into
consideration, disposable incomes in 20 to 25 percent of households were flat or falling.765 The shift
in bargaining power also allowed enterprises to alter the nature of work, with reliable hours and pay
disappearing, with pay more linked to performance rather than to qualifications, experience and
seniority, and with the imposition of a 24/7 commitment.766

The relocation of production created a complex web of global supply chains with an increasing
number of jobs based in emerging industrial economies. The proportion of world output produced
by global supply chains rose from 11 percent in 1995 to 19 percent by 2008.767 According to the ILO,
453 million people were employed in global supply chains in 2013, up from 296 million in 1995, but
down somewhat from a 2007 peak of 497 million. Of these, in 2013, 320 million were based in

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emerging economies, a category which included many countries from Eastern Europe and Central
Asia, Latin America, along with China, India, Indonesia, Thailand, Turkey, Kenya and South Africa.
Employment in global supply chains represented one-fifth of employment in the advanced and
emerging economies (28 percent of the advanced economies).768 The share of women employed in
global supply chains was 42 percent. Most of the jobs were in manufacturing, but there were also
some in transport and wholesale and retail trade.769 Wages at enterprises that were part of global
supply chains were little different from wages in similar domestically-oriented sectors, but the
nature of the business cycles in the electronics and garment sectors meant that demand for labour
fluctuated considerably, leading to high levels of overtime and hiring of temporary workers during
peak periods.770

Meanwhile, at the top end of the income scale, Stiglitz claimed, the rich were gouging the economy
through unfair business practices. As a neoclassical economist, Stiglitz recognized that monopoly
profits were a form of rent, and resulted from the ability to sell goods and services at a high price
where competition was impeded. More than a small part of [the success of those at the top of the
wealth distribution] resides in devising better ways of exploiting market power and other market
imperfections, he asserted. The financiers, owners of licenses in regulated markets, such as
telecommunication and pharmaceutical companies, defence contractors and the regulated
professions, like lawyers, were all recipients of rents, and this was how they built their fortunes.
Other corporate executives and entrepreneurs used unfair business practices, such as predatory
pricing and the bundling of products into packages, to drive out competitors. These practices often
went unchallenged by the market authorities and corporations were permitted to get away with
exploiting their market power over consumers.771 Stiglitz noted that regulators and governments had
been bamboozled into believing that markets were inherently competitive and efficient by Chicago
school economists like Milton Friedman and George Stigler. The market authorities shared the same
mindset as the corporations that they were supposed to be policing in the public interest. He called
this cognitive capture.772

Even so, the explanation as presented by Stiglitz for the rise in incomes among the rich did not
convince everyone. While recognizing the relevance of rent-seeking to profit-taking, Piketty himself
cautioned against viewing such behaviours as the main cause of rising inequality.773 The facts, in any
case, appeared to show that Stiglitz was placing too much emphasis on market distortions and rent-
seeking. An investigation by The Economist magazine into rent-seeking, whereby industries were
classified by the degree to which they were regulated and by lack of competition, found these to be
a very minor proportion of profit-taking. Cartels, monopolies and lobbying are common ways to
extract rents, the magazine noted, and even banking offered rent opportunities as there was an
implicit state guarantee to depositors. According to these estimates, however, in 2016, only 1.5
percent of GDP in developed countries was derived from industries prone to rent-seeking, while in
developing countries the proportion amounted to 4 percent.774 This small share of rent-prone
industries in total production suggested that rent-seeking had not in fact been the major factor
driving the rapid accumulation of wealth at the top-end of the income scale, as Stiglitz was claiming.
A more likely explanation was asset price inflation, which will be examined in Chapter 11. The rising
price of real estate and financial assets in most mature market economies since the 1980s made the
wealthy wealthier still, adding to their incomes and steadily widening the distance between their

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lifestyles and those of working people, whose incomes depended upon the labour markets, rather
than capital markets.775

Contrary to neoliberal assumptions, competition made widening inequality inevitable.776 Liberals

since the days of Adam Smith have argued that market competition driven by self-interest benefits
society automatically.

Every individual who employs his capital in the support of domestic industry, necessarily
endeavours so to direct that industry that its produce may be of the greatest possible value.
[] He generally [] neither intends to promote the public interest, nor knows how much he
is promoting it. [] He intends only his own security; and by directing that industry in such
manner as its produce may be of the greatest value, he intends only his own gain., and he is
in this, as in many other cases, led by an invisible hand to promote an end which was no part
of his intention. [] By pursuing his own interest he frequently promotes that of the society
more effectively than when he really intends to promote it. I have never known much good
done by those who affected to trade for the public good. It is an affectation, indeed, not very
common among merchants, and very few words need be employed in dissuading them from

This most famous law of economics is a lesson in counter-intuitive thinking: self-interest begets the
public interest. It builds on the finding that people have a predilection for a good deal and will alter
their spending pattern to secure it. Smith argued for free markets but he was also a professor of
moral philosophy and recognized a role for the state and the community.

For example, most folk will say that chocolate brings them happiness but an economist knows that
society will be much happier if chocolates were far more expensive, so that eating them becomes a
rare treat. Chocolate has addictive qualities which means some people cannot be satiated by eating
one or two, but will devour the whole box in one go, thus messing up their body chemistry not to
mention one day possibly losing some of their teeth. If chocolate tasted like onions there would not
be a problem. People would consume them in line with their preference ordering system and within
their budgetary limit. In such circumstances, Adam Smiths invisible hand would guide producers and
consumers alike and, as a result of market forces working themselves out, society would get the
optimum quantity of onion-flavoured chocolate supplied and the highest degree of satiation. Once
the preference ordering mechanism becomes distorted by addiction, however, bad things start to
happen and the goods and services in question must be taxed heavily or banned altogether.
Economists realize that smuggling will then become attractive to criminals and, therefore, policing
has to be stepped up but since the government will have more revenues from all those sin taxes
then hiring extra police would be an affordable proposition. They understand that education and
information are not sufficient motivators and that material incentives or coercion are frequently
necessary to form a happy and prosperous society. Moreover, as this example shows, economists
like to think strategically and to anticipate the reaction of producers, consumers, savers, speculators
and investors to changes in the rules or in the ratio of costs to benefits.

A large degree of inequality is widely viewed as detrimental to social cohesion. It leads to the
marginalization of sections of the community and, if resentments accumulate, can result in civil

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disorder. It may have contributed to the possible secular stagnation in mature market economies.778
Even the most ardent liberal accept that inequality can cause unhappiness and if this is a sufficient
basis for taxing chocolate then the problem of inequality cannot just be ignored. If everyone agrees
that inequality has a downside then the government should do something about it. Piketty proposed
taxing wealth, with which Adam Smith and many more economists even some neoliberal ones
would probably have concurred. But although taxing the rich in order to use the money to help the
poor could go some way towards closing the gap in income and wealth, it was unlikely to be a
sufficient response. Persistent unemployment has been a feature of the mature market economies
since the 1970s (as shown in Chapter 6). Job creation will be necessary along with measures to tackle

In addition, international competition has put pressure on wage levels in the mature market
economies, while raising incomes in the emerging market economies. At some point in the twenty-
first century world wage levels may converge, perhaps around the levels currently found in the
former socialist countries, although future rises in productivity might boost these somewhat. In any
case, as wages in the mature market economies fall gradually in terms of purchasing power, working
people can be expected to work longer hours to make ends meet. The standard 40 hour working
week is already a thing of the past for many low paid staff and for the self-employed. It might not be
long before a 48 hour working week becomes the standard. Thus, by the time the financial crisis
erupted in 200708, the economic stress that working people were experiencing was already fuelling
dissatisfaction with the political status quo.779 The liberal order of the mature market economies was
clearly becoming more fragile, as Chapter 8 indicated.

The widely articulated concern over widening inequality was a political response to the electoral
threat of the populists. Inequality, to be sure, was a natural issue for progressives but it could also
feature in the agenda of some neoliberal commentators, who looked to win the support of affluent
cosmopolitan liberals who like [] an open world and engineer a split within the social democratic
left.780 Prominent British Labour Party parliamentarian Tristram Hunt expressed his worry over
inequality in a speech to the Fabian Society in 2015, for instance. He argued that the labour market
is no longer opening up the kind of opportunities for social and material advantage as was
historically the case. The fundamental task of progressive politics, he maintained, was to ensure
the opportunities enjoyed by the powerful are spread to the powerless. He called for a more
assertive social investment state, which challenges concentrations of market power and rewrites the
economic rules of the games to bolster redistribution through taxation and benefits. It was
essential to work with the trade unions on rebuilding them for the coming economy of self-
employment, micro-businesses, declining social rights, and the unequal effects sometimes
liberating, sometimes exploitative of flexibility and for active labour market policies to secure full
employment.781 Having recognized that unequal social outcomes were rooted in the unequal
distribution of power and resources, Hunt nonetheless fell back on the same largely neoliberal
solutions of education and training and flexible labour markets, including help for self-employment,
whilst also endorsing collective bargaining. The aspiration of working people to improve their lot
could be achieved, he suggested, by reducing the height between the rungs of the ladder of social
mobility: when the rungs are further apart, the ladder is more difficult to climb. His Labour Party
colleague Yvette Cooper used the same ladder of opportunity metaphor in another speech a few

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months later, in which she argued that the hollowing out of the economy removed the middle
rungs, leaving working people less in control of their lives and vulnerable to downward pressures
on wages.782 Barack Obama also called frequently for the ladders of opportunity to be re-built for
those struggling economically.783

The states role, according to this approach, was help people climb the ladder by giving them
another chance to improve their situation.784 Tony Blair and his social democrat counterpart Gerhard
Schrder issued a manifesto in 1999 calling for a transformation of social security from a safety net
of entitlements into a springboard to personal responsibility.785 An earlier British Labour figure, Neil
Kinnock, himself echoing a phrase used by Bill Clinton in 1974, emphasized the importance of
offering people a hand up, rather than a hand out, with the state acting as an enabler, providing
them with the means to take advantage of economic and social opportunities.786 Such programs
might be welcomed by working people, of course, but they were unlikely to be sufficient in effecting
a structural transformation in their access to power and resources. Campaigns around inequality
further opened progressives to the counter-charge that they were seeking to exploit the politics of
envy. Nevertheless, the concerns around inequality allowed a debate over its causes and
consequences to blossom. The relative stagnation of American wages since the 1970s contributed,
some economists argued, to a chronic shortfall in demand that stifled economic growth in the USA
and other mature market economies.787 It could account for the growing proportion of Americans
who defined themselves as working class: the proportion increased from 33 percent in 2000 to 48
percent in 2015.788 (In Britain, the proportion defining itself as working class remained stable at
around 60 percent between the 1980s and 2010s.)789

Furthermore, the rhetoric around climbing the ladder of opportunity neglected to mention the
problems of economic insecurity and marginal status. Migrant workers might find opportunity
abroad but rarely did they gain status or economic security. This could extend even to the second
and third generations growing up in their adopted homeland (assuming that settlement was
permitted). As economic insecurity worsened for working people generally, and especially for
women, a more attractive program for progressives would have involved an agenda constructed
around basic rights, rather than one founded on dubious claims for social mobility. Many working
people still sought a living wage, an eight-hour day with sufficient time for family life and leisure,
decent housing, and economic security in terms of employment protection and social security in
sickness, old age and unemployment, all of which were being withdrawn as a result of neoliberal
policies. Aside from the rhetoric on social mobility and tackling tax evasion, the debate over
inequality generated few proposals for reducing its apparently inexorable rise. Hardly any political
leaders seemed willing to advocate the sort of progressive tax on wealth that Piketty was

The merit of Thomas Pikettys analysis lay in the way it linked widening inequality in the mature
market economies to the rate of capital accumulation and the structure of income. The majority of
working people, Piketty found, were almost entirely reliant upon earning a living from the labour
market. Although there was a substantial middle section of the population who possessed a modest
amount of capital, between 60 and 70 percent of all capital was owned by just 10 percent of people.

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Moreover, the share of the rich appeared to have been growing since the 1980s, coinciding with the
rise of neoliberal influence.

Even if the missing rungs of the ladder of opportunity were restored, Pikettys Law effectively
stated that capital accumulation would tend to exceed the pace at which new and better
remunerated opportunities for working people could be created. Inequality was therefore bound to
keep on growing.

The private rate of return on capital, r, can be significantly higher for long periods of time
than the rate of growth of incomes and output, g. The inequality r>g implies that wealth
accumulated in the past grows more rapidly than output and wages. [] The entrepreneur
inevitably tends to become a rentier [ and] capital reproduces itself faster than output

Nor was it simply a matter of strengthening the role of competition, to constrain rent-seeking by
corporations and the wealthy. Many socialists would have agreed that the market economy was
rigged against working people, but even a fair market that eliminated so-called imperfections and
predatory practices would not invalidate Pikettys Law: Pure and perfect competition cannot alter
the inequality r>g, which is not a consequence of any market imperfection.791 The accumulation of
wealth tended to proceed faster than wages could increase on the back of rising productivity. It was
a fundamental feature of a capitalist market economy.

Piketty alluded to another important issue, although he did not address it directly. Acknowledging
that saving is forgone consumption, he speculated on how much capital had to be accumulated in
order for Marxs Law of the falling rate of profit to be satisfied. This being a particularly tricky
question, Piketty preferred unsurprisingly not to furnish a clear-cut answer, but he indicated that the
volume of capital would certainly have to be double the amount owned today for the rate of profit,
r, to start to fall. Quite correctly, Piketty discussed the issue in the context of intergenerational
equity. In other words, the more profits that are re-invested today, and the less consumption today,
the richer the rentiers of tomorrow will be. Chapter 10 will discuss intergenerational equity or, as it
is also called, sustainable development. In Pikettys view, it is fairer to tax private capital as it
accumulated in order to boost investment for todays sorely needed public goods. Tomorrows
rentiers, some of whom will have inherited their wealth, will still be richer than they would
otherwise have been; taxing todays profit-takers simply means that tomorrows rentiers will be a bit
less richer.792 The existing needs of society, and especially of the poor in developing countries,
outweigh the rights of profit-takers to hoard their wealth.

The fact that Piketty addressed these issues, albeit somewhat elusively, should be enough to qualify
him as a modern Marx. In using the language of contemporary neoclassical economics, Piketty
ensured that his critique of the political economy of the twenty-first century would be recognized as
valid by his peers. It is often forgotten that Marx wrote in the manner of his time, using a
philosophical and lawyerly idiom now largely outmoded (not to mention being also a competent
mathematician).793 But to his contemporaries Marx presented a lucid argument, albeit one they may
have found uncomfortable. The same can be said of Pikettys book. Piketty adopted neoclassical
economics to serve a subversive end and to encourage his readers to question the neoliberal
assumptions on which the case for capitalism was based.

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For as long as rentiers comprise a minority less than ten percent of the population there is profit
to be taken. If everyone was a rentier (as well as being a worker) the rate of profit would be reduced
to the rate of interest in its essential form: that is, the price of consumption foregone today in
order for tomorrows generations to be a bit richer. Economists estimate this rate to be about two to
three percent a year (half the real long-term return calculated by Piketty from historical data).
Societies face a choice between allowing a minority to collect the profit from business, and to do
with it as they please, or of ensuring that working people receive the full fruits of their labour.
Pikettys view was that entrepreneurs should be permitted to collect the profits arising from their
business activities because it gave them an incentive to innovate and hustle. He nonetheless
advocated a progressive annual tax on the value of capital to reduce the inter-generational transfer
of assets, which deprived society of a portion of the resources needed to deal with contemporary
economic, social and environmental problems, like poverty, like global warming, and so on. If we
are to regain control of capitalism, we must bet everything on democracy, Piketty concluded. An
avowed socialist, Piketty was no supporter of the neoliberal notion of limited government. No doubt
he had his opinions as to how to spend the revenues from a wealth tax, but given that there are so
many problems to solve, his solution was to let the people decide!

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10 Making poverty history

They wore white wristbands to signify their support for the campaign to make poverty history. The
2005 G-8 Summit, held at the Gleneagles golf course near Edinburgh, Scotland, attracted 225,000
demonstrators to rally behind the British governments bid to persuade the international community
to put more money into international development. The campaign was supported by eight million
white wristband wearers worldwide and had been organized by the Global Call for Action against
Poverty, a network of international charities, community and faith groups. The coalition was formed
in 2003 and launched their call for action at the World Social Forum held in Porto Alegre, Brazil, in
2005.794 Their collective efforts were rewarded in part, but the neoliberal orientation of
development strategy will unfortunately mean that global poverty will not be eradicated any time

In their communiqu, the G-8 leaders acknowledged that the world faced serious and linked
challenges in tackling climate change, in promoting clean energy, and in achieving sustainable
development. They announced a plan of action to support a market-led approach to encouraging
energy efficiency and for accelerating investment in, and the deployment of, cleaner energy
technologies. On development, the heads of government accepted that a substantial increase in
official development assistance was required to achieve the Millennium Development Goals, and
agreed to support sound development strategies and boost international trade. Private enterprise
is a prime engine of growth and development, they stated, and it was the responsibility of
developing country governments to enhance governance and the rule of law to attract more and
broader private investment [] which is the basic condition for inclusive growth.795 The G-8 leaders
also agreed that all of the debts owed by eligible heavily indebted poor countries to the World Bank
and the IMF should be cancelled.796 Tony Blair, who chaired the G-8 summit, called it a rare occasion:
a summit that mattered and which had changed the world.797

The first years of the twenty-first century saw considerable success in reducing the extent of poverty
but the neoliberal orientation of many developed and developing country governments hampered
the implementation of development programs at the necessary scale. The number of people living in
abject poverty in developing countries began to diminish quite quickly after 2000, though one-third
of the fall was achieved by two socialist planned economies, China and Vietnam, and poverty
actually worsened in Sub-Saharan Africa. Part of the explanation for the welcome reduction in
poverty lay in the migration of poor people from the countryside into the cities, where jobs paying a
slightly better wage could be found. However, as a result, the numbers living in urban slums rose by
one third between 1990 and 2012. In 2015, over a billion people still lacked access to electricity
supplies, 2.5 billion were without improved sanitation facilities, and 663 million had no access to an
improved source of drinking water.798 Progress towards making poverty history remained slow and
beset by setbacks as the economic crisis deepened, with most developed and developing country
governments remaining wedded to neoliberal solutions that could not work successfully.

The international community agreed on a series of development targets during the 1990s to be
achieved by 2015; later renamed the Millennium Development Goals.799 Chief among them was a
commitment to halve the proportion of people living in extreme income poverty (on less than $1 a

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day). The dollar-a-day international poverty line had been adopted by the World Bank as it matched
the poverty lines of some of the poorest developing countries in terms of purchasing power. It was
recalculated as $1.25 a day in 2005 but essentially represented the same purchasing power over the
25 year period. The Bank funded numerous poverty assessment surveys in developing countries,
which were used to generate estimates for poverty in the world as a whole. According to the dollar-
a-day measure, the rate of poverty declined by about one percentage point a year from 1990
onwards. In 2011, as a result of another revaluation exercise, the Bank recalculated the comparative
purchasing power of people in developing countries and came up with a new international poverty
line of $1.90 a day.800 Although the poverty line appears to have been raised from one dollar in 1985,
to $1.25 in 2005, and then again to $1.90 in 2011, the income this represented always bought a
similar amount of goods and services in developing countries. The new number became the
benchmark for another set of development targets to be reached by 2030: the Sustainable
Development Goals.801

Table 10-1: People living in abject poverty

Number of people living on an income of less than $1.25* a day (millions)

Region 1985 1990 1999 2005 2010 2015p
East Asia & the Pacific 280 957 661 324 207 86
- China 303 360 231 208 125 :
- Vietnam : e44 37 20 14 :
South Asia 520 603 619 589 465 311
- India 420 435 441 456 378 :
Middle East & North Africa 60 13 13 9 6 7
Sub-Saharan Africa 180 287 385 399 416 403
Latin America & the Caribbean 70 53 55 41 28 27
Eastern Europe & Central Asia 6 7 18 6 3 2
Industrial market economies - - - - - -
World 1,116 1,920 1,751 1,368 1,125 836
Proportion of people living on an income of less than $1.25* a day (percent)
East Asia & the Pacific 20 52 36 17 10 4
- China 29 32 19 16 9 5
- Vietnam : e65 49 25 16
South Asia 51 53 45 39 29 18
- India 55 51 44 42 33 24
Middle East & North Africa 31 6 5 3 2 2
Sub-Saharan Africa 47 57 59 53 48 41
Latin America & the Caribbean 19 12 11 7 5 4
Eastern Europe & Central Asia 8 2 4 1 1 0
Industrial market economies - - - - - -
World 33 36 29 21 16 9
* Purchasing power parity in 2005
e: estimated by the author; p: projected by the World Bank
Purchasing power parity of an income below $1 a day in 1985
Source: The World Bank.802

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Table 10-1 sets out the World Banks figures for abject poverty around the world. The World Bank
estimated that the number of destitute people in 1980 was about 800 million.803 The numbers
apparently rose steadily until the 1990s, almost reaching two billion, and only declined in the 2000s,
so that by 2015 they again stood at around 800 million. World economic growth had been weak for
much of the 1970s and 1980s, averaging 1.2 percent a year and only picked up to 3.2 percent in the
1990s and to 3.8 percent a year in the 2000s.804 As a result, between 1990 and 2015 the proportion
in poverty fell by more than half, so, on its own terms, the first Millennium Development Goal was
met on a worldwide basis. As the table shows, however, the rate of poverty remained much the
same in Sub-Saharan Africa, while it declined in Asia and Latin America. The countries of Eastern
Europe and Central Asia saw a marked increase in poverty in the 1990s as the transition to a market
economy unfolded (see Chapter 3). Rapid economic growth in Asia in the 2000s allowed incomes to
rise and reduced the extent of absolute poverty considerably. This was especially true in the two
largest planned Asian economies, China and Vietnam.

The same pattern could be seen among the still larger proportion of people who were in poverty
according to a two dollar a day threshold, as shown in Table 10-2. This benchmark approximated to
the median poverty line in developing countries as a whole.805 Of the 2.9 billion poor people living on
less than $2 a day at the start of the twenty-first century, 73 percent (2.1 billion) lived in the
countryside. This was equivalent to 70 percent of the rural population as a whole. The urban poor,
about 800 million people, represented about 40 percent of the total urban population of developing
and transition countries. Thus, the bulk of people living in absolute poverty were to be found the

Absolute poverty measured by reference to a specific income threshold is only one way to look at
the problem. By definition, poor people have low incomes and the reason they have low incomes is
that their livelihood niche is usually precarious and does not generate a sufficient reward to offer
them a decent life. It is often an unreliable livelihood, subject to big swings in income, which pushes
the people below the poverty line for considerable periods of time. They are vulnerable to any
change in their circumstances and, being poor, they cannot afford to put much money aside for a
rainy day or to invest in improving their opportunities. In fact around two billion adults worldwide do
not hold an account in a formal financial institution.806 In most developed countries, people may
experience tough times and be obliged to live on reduced incomes; but, generally, this is relative
poverty and the social security system provides them with a safety net which stops them from falling
into absolute poverty, as households in developing countries are prone to.

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Table 10-2: People living in absolute poverty

Number of people living on an income of less than $2* a day (million)

Region 1990 1999 2005 2008 2015p
East Asia & the Pacific 1,334 1,138 757 659 394
- China 961 770 482 395 220
South Asia 959 1,069 1,113 1,125 973
- India 702 e847 828 684 728
Middle East & North Africa 53 60 53 44 30
Sub-Saharan Africa 389 503 559 562 574
Latin America & the Caribbean 98 111 92 71 67
Eastern Europe & Central Asia 32 57 22 10 e6
Industrial market economies - - - - -
World 2,865 2,938 2,596 2,471 2,044
Proportion of people living on an income of less than $2* a day (percent)
East Asia & the Pacific 81 62 39 33 19
- China 85 61 37 30 16
South Asia 84 78 73 71 57
- India 83 e85 76 59 58
Middle East & North Africa 24 22 17 14 8
Sub-Saharan Africa 76 78 74 69 60
Latin America & the Caribbean 22 22 17 12 11
Eastern Europe & Central Asia 7 12 5 2 e1
Industrial market economies - - - - -
World 65 57 47 43 34
* Purchasing power parity in 2005
e: estimated by the author; p: projected by the World Bank
Source: The World Bank.807

The World Banks calculations for the numbers living below a poverty line were based upon the cost
of a reference basket of goods and services purchased at market prices in a range of countries. This
method of assessing poverty provided a common basis for estimation, but it was misleading in
relation to poverty levels in Eastern Europe, Central Asia and China before the 1990s, a time when
markets were controlled. While it was definitely the case that there were many people living on low
incomes in the socialist countries, their situation differed from that which prevailed in the
developing countries generally. A herder in Tajikistan was employed full-time by a livestock
collective, as was a rural household in China, which was part of a commune. Collective arrangements
such as these provided regular incomes, even if these were quite low relative to industrial workers,
as well as access to locally provided public services. Everyone was expected to work if they were able
to and received an income. Communes in China looked after childless and infirm elderly people to
ensure the five guarantees: food, clothing, fuel, medicine, and funeral arrangements. Despite being
a developing country, by 1978 China was providing social assistance to 250 million people.808 There
were social assistance programs too in the USSR and the other developed socialist countries.

Furthermore, a paucity of survey data for the 1980s means that the estimates made by the World
Bank for poverty in the socialist countries relied upon extrapolations from the 1990s to earlier

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years.809 These estimates implied that levels of poverty in socialist countries were higher in the early
1980s than in 1990 (the base year for calculating progress in meeting the Millennium Development
Goals). In China, supposedly, 98 percent of the population were living on less than two dollars a day
in 1981, which, if extrapolated still further back, would have meant that in 1978 more than 100
percent were too poor to buy the benchmark basket of goods and services that defined the two
dollars a day poverty line.810 In truth, of course, no-one in China would have been able to buy such a
basket of goods and services at market prices in the 1970s and 1980s, because Chinese consumers
did not have to pay market prices; many prices, especially for staples, were set at low levels by the
planning administration. Wages were also fixed at levels that enabled most people to buy the basics
to enjoy an adequate diet, rent a home, and travel to work, as well as to reward the skills attained
from education. To be sure, incomes in the socialist countries were relatively low but this did not
necessarily imply that a large proportion of people existed in absolute poverty. China in the 1980s
was one of the most egalitarian countries in the world, with a Gini coefficient of 811 The
evidence points to a much smaller degree of poverty than is implied by the World Bank estimates.

From 1979 on, under the household responsibility system introduced under Deng Xiaoping, the
Chinese communist party encouraged communes to divide the land to the households but
retained village and township enterprises as collectives. The new system had been introduced
experimentally in Anhui Province by one of Dengs associates, Wan LI, in 1977. Households received
a plot of land and retained a share of the harvest. Under the commune system, everyone was forced
to eat from the same canteen and daily tasks were controlled, leaving no room for individual
advancement. Dengs policies were successfully waging a war on poverty and backwardness by
introducing new individual and family incentives to raise productivity.812 In 198384, the 50,000
peoples communes were replaced by 92,000 townships and the six million production brigades
(each consisting of an average of 33 families cultivating about 8 hectares of land) were broken up.
Households became responsible for managing land under lease and had to fulfil government
contracts for production. They were free to sell any surplus produce in the newly re-opened
markets. Typically a household leased about 0.6 hectares for a term of 15 years, though terms of 30
years were made possible from 1995. China became self-sufficient in food production, and expanded
its cropping area and raised yields. Since the 1990s it has been a net exporter of grains.

Dengs economic reforms are credited with bringing prosperity to the countryside. The opportunity
to diversify production into a wider range of crops and activities (such as sugarcane, fruit, vegetables
and medicinal herbs, orchards, animal husbandry, dairy products and other non-farm small-scale
industry), rather than be tied to the top down state procurement of grains, enabled enterprising
households to raise their standard of living. Even so, it was not an entirely market-driven or privately
owned system of production. The government continued to provide know-how, seeds, fertilizers and
pesticides at affordable prices, which were the key elements of the Green Revolution in agriculture
around the world. Investment and maintenance of the irrigation infrastructure, a major effort
undertaken by the communes in the 1960s and 1970s, remained a collective responsibility. Local
governments also helped households in marketing their produce. Farm mechanisation and plot
consolidation suffered as a result of the breakup of the communes, however, and in recognition of
this, since 2008, larger-scale mechanised farming was encouraged. Nonetheless, it remained difficult

The Gini coefficient measures inequality on a scale of zero or completely equal distribution to 1 where one
person has everything.

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for leaseholders to trade their plots, and, as these could be dispersed partly to ensure that every
household had a fair mix of soil types and growing conditions Chinese agriculture reached
something of a productivity plateau by the 2010s (leading to the more extensive use of genetically-
modified crops).

Prosperity generated by the incentives provided under the household responsibility system brought
the number of people lacking adequate food and clothing down to 80 million by 1994.813 On the
other hand, the dissolution of the communes also meant that the five guarantees disappeared to
be replaced by local authority-managed social assistance programs.814

The Sustainable Development Goals agreed in 2015 were intended to address the many dimensions
of poverty. They included commitments to end poverty in all its forms everywhere; to ensure
healthy lives and inclusive and equitable quality education; to achieve gender equality; to promote
sustained, inclusive and sustainable economic growth, full and productive employment, and decent
work for all; to take action to combat climate change and its impacts; to ensure sustainable
consumption and production patterns and to protect ecosystems; to provide access to justice and
build effective, inclusive and accountable institutions at all levels of government; and to reduce
inequality within and between countries.815 The mechanism to put these aims into practice was the
Global Partnership for Sustainable Development, which recognized that each country had primary
responsibility for its own economic and social development. The developed countries reaffirmed
their commitment to provide 0.7 percent of gross national income for development assistance.816

There were additional goals to ensure access to adequate, safe and affordable housing; the
availability of water and sanitation; and affordable, reliable and sustainable modern energy for all.817
As Table 10.3 shows, the number of people living in slums and other informal settlements in
developing countries rose from 651 million in 1990 to 864 million in 2012, according to estimates
made by the United Nations Habitat program. By 2050, 66 percent of the worlds population will be
urban according to UN projections, with rural populations in decline worldwide from the 2020s
onwards. Ninety percent of the growth of the urban population will be in Asia and Africa. By 2030
there will be 41 megacities (of ten million or more inhabitants), up from 28 today, with about 700
million inhabitants in total. Another 1.5 billion people will live in cities with one to ten million
inhabitants by 2030, up from 800 million.818 The UN projections anticipate the list of megacities to
include Buenos Aires, Bogot, Lima, Mexico City, Rio de Janeiro and So Paulo in Latin America;
Ahmadabad, Bangalore, Chennai, Delhi, Dhaka, Hyderabad, Kolkata, Karachi, Lahore and Mumbai in
South Asia; Bangkok, Ho Chi Minh City, Jakarta, Kuala Lumpur and Manila in Southeast Asia; seven
cities in China alone; and Cairo, Dar es Salaam, Johannesburg, Kinshasa, Lagos and Luanda in
Africa.819 Such huge urban agglomerations will impose massive resource strains on their regions
unless spatial planning can guide their expansion to create a more dispersed settlement pattern with
multiple nodes (small and medium-sized towns) linked to the main city. If current trends continue, it
can be expected that the on-going drift from the countryside to the cities will result in the further
expansion of informal settlements, so that by 2050 these will be home to perhaps three billion or
more people.820 One-third of the world population of 9.7 billion could therefore still be living in
slums if the largely uncontrolled migration of people escaping the wretched conditions in their
villages goes on unchecked.821 Once in the slums they will remain trapped in desperate poverty.

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Table 10-3: People living in sub-standard dwellings and informal settlements

Regions of the World 1990 2000 2012

Urban Slum Proportion Urban Slum Proportion Urban Slum Proportion
Population Dwellers of Urban Population Dwellers of Urban Population Dwellers of Urban
(Million) (Million) Population (Million) (Million) Population (Million) (Million) Population
(Percent) (Percent) (Percent)
East Asia 353 154 44 512 192 37 732 207 28
Southeast Asia 139 69 50 197 78 40 258 80 31
South Asia 318 182 57 424 194 46 574 201 35
West Asia 79 18 23 107 22 21 145 36 25
North Africa 59 20 34 74 15 20 96 13 13
Sub-Saharan Africa 147 103 70 221 143 65 346 213 62
Latin America and the Caribbean 311 105 34 393 115 29 482 113 24
Oceania 2 0 24 2 1 24 2 1 24
Developing countries 1,406 651 46 1,930 760 39 2,635 864 33
Europe 506 : : 534 33 6 539 : :
Other developed countries 373 : : 367 21 6 458 : :
Developed countries 879 : : 902 54 6 997 : :
World 2,285 : : 2,832 814 3,632 : :
A dwelling that lacks improved water and sanitation and sufficient living area (more than three persons per room) or is not constructed from durable
Source: UN Habitat.822

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Meeting the Sustainable Development Goals will undoubtedly be an enormous task, involving the
provision of homes, water and sanitation services, and electricity supply to the growing population
of slum dwellers as well as to the one billion or so lacking power connections and the 1.75 billion
without adequate sanitation living in the countryside.823 The capital cost of constructing 200 million
decent dwellings to house the billion people living in informal settlements and slums by 2030 could
amount to $30 trillion, or $2 billion a year for 15 years.824 Unfortunately, a household living on four
dollars a day could never afford to buy or rent a decent house at an outlay of $9 a day (assuming the
housing provider obtained a 40 year loan at 3 percent interest a year to build the dwelling). This is,
of course, the reason why those in abject poverty have to live in makeshift shacks in informal
settlements or on blankets and cardboard under roadside tarpaulins. People scraping a living in the
informal sphere of the urban economy are compelled to live in informal settlements and for the
most part they have no route out of it.825 For this reason, alongside the fine words of the Sustainable
Development Goals, there were more practical aims, such as to upgrade slums, but how this was
to be accomplished was not so clear.

The year after the Sustainable Development Goals were agreed, the international community met in
Quito, Ecuador, to try to make the commitments more operative with what they called a New Urban
Agenda. The national and local governments gathered in Quito agreed to provide basic and social
services to all and to support the progressive realization of the right to adequate housing in safe
environments and with accompanying security of tenure, especially for women. All urban
inhabitants should be provided with affordable, reliable and clean modern or renewable energy
supplies; safe drinking water and sanitation; recycling and waste disposal; public transport;
healthcare and family planning; education; cultural facilities; and green public spaces. The
governments would encourage sustainable consumption and production patterns and decent
work for all in collaboration with employers and trade unions. They also declared their support for
integrated, polycentric and balanced territorial development [] to prevent urban sprawl, for
compactness, proximity, and connectivity, and to strengthen the role of small and intermediate
cities and towns.826 These principles echoed almost word for word the aims of urban planning
formulated and implemented in the socialist countries since the late 1920s and the pioneering
recommendations set out by the International Congress of Modern Architects in 1933 the so-called
Athens Charter promoted by the architect Le Corbusier (18871965).827 Joan Clos, the executive
director of the UN Habitat organization said that the New Urban Agenda aimed to regulate urban
expansion to check its tendency to concentrate poverty into the slums, create districts where
housing is unaffordable, and to counter the Washington Consensus.828

In the USSR, the concept of polycentric urban settlement was intended to prevent uncontrolled
metropolitan expansion by settling people into neighbourhoods where public services and amenities
were within walking distance or just a short bus-ride away.829 The urban planning norms were
codified in 1958 but many of their elements dated back to 1931 and earlier debates over socialist
living. In order to curb the growth of metropolises, new industries were to be established in
compact small and medium-sized towns with a maximum population of 250,000. Such towns had to
be built at least 40 kilometres outside a metropolis, providing a green belt in between.830 Towns and
cities were the foundation for supplying public goods, which were the capability-enhancing basis for
constructing a socialist society in which everyone had equal opportunity. But the design for
dwellings, playgrounds and parks also purposely granted people both the privacy and communality
to enjoy fulfilling family and cultural lives, unlike the more radical proposals for communal living

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(and which were partially tried out in the Chinese communes).831 Multi-storey blocks with
playgrounds and shops were the norm in the socialist countries but self-built house construction was
possible and had been encouraged during periods of acute housing shortage.

The New Urban Agenda assumed that its bold aims would be funded by the international
development banks, governments and the private sector. The UN Habitat program, which organized
the Quito conference, also helped governments and local authorities to plan citywide slum
upgrading, and developed participatory planning tools for enumeration and mapping, program
management guidelines, and general guides to support the implementation of complex urban
improvement programs. It also provided technical assistance to formulate and adopt sustainable
housing building codes and revised regulations at country and city levels.832 A key issue was security
since informal settlements tended to be run by gangsters and illegally-built structures were at risk of
being declared unsafe and demolished. A slum upgrading program could bring about improvements
in living conditions by providing a procedure to gain security of tenure for the plots and shacks in
informal settlements and through public services. The approach superseded more traditional slum
clearance models, whereby people would be moved to distant suburbs and risked losing their
livelihood niches as a result. It was also a far cheaper option than to build new suburbs with good
transport links to the rest of the city.

The fundamental problem remained unresolved, however. In order to recover the construction costs
of providing decent housing people had to have decent work, with regular wages. The two elements
went together, along with education, security and other public services. It called for a quantum step
in development rather piecemeal improvements to ameliorate the desperate living conditions of
poor people.

Any development strategy that aims to take a quantum step to an industrial and mass consumer
society should learn the lessons from past attempts, which in some cases were undertaken at great
cost and loss of life. One such was the great leap forward promoted by Mao Zedong in China. To a
degree the Chinese communist party sought to emulate the Soviet industrialization and farm
collectivization programs that Stalin had initiated in the 1920s. However, when Stalin came to
examine the early drafts of Chinas first Five-Year Plan (19531957) he considered it too rash and
refused to over-commit Soviet resources for Chinas ambitious strategy for industrial expansion and
defence sector strengthening.833 It was not his first clash with Mao. When Mao had sought to
backtrack on the broad front alliance by eliminating non-communist parties from the parliament,
Stalin had objected. The Chinese government will be a national revolutionary and democratic
government, rather than a communist one, Stalin insisted in 1947.834 Mao had ambitions for his
country, however, and resented the USSRs control of Manchuria and Xinjiang. During 1930s,
Xinjiang had been virtually a Soviet protectorate under the warlord Sheng Shicai (18971970), who
had executed Maos brother in 1942; it became known for a brief period as Uighuristan and
abandoned both Chinese characters and Arabic script for Cyrillic in line with its Soviet neighbours
Kazakhstan and Tajikistan. Then in 1945 Soviet forces liberated Manchuria from Japanese rule. The
communist party boss in the region, Gao Gang (19051954), enjoyed close links with Beria and
Stalin. On a visit to Moscow in 1949 Gao had suggested that Manchuria become a Soviet republic. So
when Stalin died in March 1953 Mao wasted no time in imposing his authority over these Soviet-

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leaning provinces. Gao, who had in the meantime been promoted to head the new State Planning
Commission to prepare the countrys first Five-Year Plan, was purged shortly after Berias execution
in Moscow, which had followed Khrushchevs seizure of power in June 1953.835 The same month,
Mao announced an acceleration of the transition to socialism. Refute Right-deviationist views that
depart from the general line, Mao instructed the Chinese communist party; the general line or
general task of the party for the transition period is basically to accomplish the industrialization of
the country and the socialist transformation of agriculture, handicrafts and capitalist industry and
commerce in ten to fifteen years, or a little longer.836 Mao considered the priority to be class
struggle in China rather than planned development in association with the USSR.837 He told his
comrades to stop admiring the Soviets uncritically as if even their farts are fragrant and once
reminded Zhou Enlai: I am opposed to opposition to rash advance.838

Back in 1927, Mao had seen the potential of peasant associations to implement land reform in
Hunan.839 Poor peasants drove land reform by targeting the landlords and richer peasants, as their
Soviet peers had done through the Committees of Poor Peasants. Land reform meant the
redistribution of holdings so that everyone received a plot. But farmers did not just need land; they
needed tools, carts, and animals (in an age of horsepower). Land reform in the USSR in the 1920s
and in China in the 1940s entailed the forced sharing of tools, implements, animals and farm
buildings, which many established farmers termed kulaki in Russia resisted. Mao also argued that
China should walk on two legs; by which he meant that industrialization was imperative in the
countryside as well as in the towns in order to achieve national and local self-sufficiency.840 Rejecting
those who counselled against rash advance (mojn) he urged a great leap forward (yujn).841
Local production of agricultural tools and machinery and the construction of warehouses and
irrigation would raise agricultural productivity, facilitating the growth of towns and industry more
generally. The solution proposed by the Chinese communist party just as their Soviet comrades
had pioneered lay in the collectivization of agriculture. In addition, Mao promoted the formation
of peoples communes, with up to 20,000 households each, a process which was completed in
1958.842 The new communes were to form the basis for local industrialization as well as providing
childcare, education, social services and free food. In this way, Mao boasted, China would surpass
the USSR in terms of steel production by the end of 1960, overtake the USA by 1962, and there
would be so much food produced that people could eat five meals a day.843

But land reform and, later, collectivization came at a high price in human and economic terms.
Although ground rents were abolished, farmers now had to pay a tax in the form of grain or other
produce in order that the growing cities might be fed.844 Within eight months of Stalins death, in
November 1953, the Chinese government had imposed the states monopoly on grain purchases. It
meant that farmers had to sell their surplus produce to the government at a fixed price. They could
keep a ration for themselves, but the amount permitted amounted to a starvation diet. The
monopoly was soon extended to oil crops and, in September 1954, to cotton.845 Food production fell
as a result of peasant resistance to collectivization and the mass drafting of villagers to work on
irrigation and construction projects. Famine struck China regularly between 1953 and 1962.846
Rationing was introduced to the cities in 1955.847 The USSR offered to supply food in 1961, but the
offer was rejected.848 Unreleased Chinese estimates put the numbers dying in these years from
famine, overwork and associated disease at no less than 43 million, out of a population of about 650

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As in the USSR, Chinese peasants often slaughtered and ate their animals ahead of collectivization.
Famine had similarly struck the USSR in the 1930s as a result of the disruption caused to agricultural
production by collectivization. In order to release land for the newly formed collective farms, the
kulaki, those farmers who hired labourers, undertook sideline occupations or owned some animals,
were targeted for taxation and, from 1929, for deportation. The kulaki the designation is derived
from the Russian word for fist, signifying a closed hand or a selfish peasant were accused of
hoarding grain from the tax collectors and thus sabotaging food supplies to the towns. Altogether,
1.8 million were forcibly relocated to Central Asia and Siberia to work in forestry and mining and to
develop new areas for cultivation, where conditions allowed.850 The deportees also included traders,
priests, former landowners and anti-Soviet elements. Another 805,559 were imprisoned in a
network of labour camps the GULag between 1926 and 1933 by the OGPU, the special police
force under the control of the communist party. Over these years, 38,813 were executed, of whom
28,136 were shot on the orders of summary tribunals between 1930 and 1931, according to OGPU
records.851 By January 1933, 64 percent of peasant households had joined collective farms, and by
1937, 99 percent of cultivated land had been amalgamated into 250,000 collective or state farms.852
The collectivization campaigns were implemented by Committees of Poor Peasants (in Ukraine) and
local party workers with the support of militants from the towns and the OGPU. The disruption
created in the countryside reduced food production initially. Rationing was introduced in urban
areas in 1928 and this put more pressure on the remaining family farmers as well as the collective
farms to secure food supplies. Grain requisitions, deportations, active and passive resistance by the
newly collectivized peasants, the lack of equipment, draught animals, fertilizers and know-how at
the collective farms, combined with adverse weather in 1931 and 1923 left hunger in their wake.853
Famine broke out in Kazakhstan in 1931 and continued until 1933. In the main grain growing regions
of Ukraine, South Russia and the North Caucasus, famine occurred between 1932 and 1933. Grain
production in the USSR was 10 to 20 percent lower in the five years 19291933 compared to the
previous years of 19251928 and the subsequent years 19351939.854 The death toll between 1930
and 1933 has been estimated at nearly six million, from a total population of about 157 million.855

The repression that swept through the USSR in the 1930s and China in the 1950s had nonetheless
enthused millions of men and women into turning the old order upside down. Eric Hobsbawm
identified the ideas of socialism and nationalism as the sources of what he called the twentieth
centurys Age of Extremes.856 Revolution mobilized young men and women from the countryside
into militancy through which they discovered the opportunities for advancement, for economic
security and status that were denied to them under the traditional order. This was especially true of
Tsarist Russia and Imperial China. It endowed the revolution with some of the features of banditry
and millenarianism, as it still does today in regions of South Asia and Latin America. (The
contemporary jihadi movement in the Islamic world is similarly apocalyptic, although it draws
support from the cities as much as the countryside.)857 It accounted for the readiness of the first
generations of communists to resort to violent methods in Russia and China.

Some form of farm collectivization is likely to be needed nonetheless in developing countries as the
worlds agricultural systems struggle to cope with global warming and climate change. By the time
governments got around to signing the historic agreement to monitor their efforts to reduce
greenhouse gas emissions in 2015, the world was nearly 1oC warmer than it had been in pre-

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industrial times. Existing concentrations of greenhouse gases such as carbon dioxide, nitrous oxide
and methane meant that it was almost inevitable that the world would continue to warm by at least
one more degree and thus experience considerable climatic disruption that would impact food
production and fisheries severely. Climate change will also reduce the ground water resources in dry
sub-tropical regions upon which much of agriculture relies.858 Water shortage is an obvious problem
in semi-arid and continental climate zones, where drought conditions prevail. But droughts seem to
have increased in frequency. The US National Centre for Atmospheric Research forecast a trend of
increasingly severe droughts affecting the western and southern US and Mexico, the Amazon basin
and the Pacific coastline from Peru to Chile, the Mediterranean region, Iran and Central Asia, China
and Southeast Asia, Australia and much of Africa. Regions north of the 45th parallel should see
increasing rainfall however.859

Agriculture uses about 70 percent of all water consumed by humanity (310 trillion litres a year in
total). The proportion has fallen from 90 percent as a result of rising demand from industry and
cities. By 2030 it is estimated that farmers will need 45 percent more water and an off-take
amounting to 450 trillion litres a year.860 At the moment, many farmers are relying on water drawn
from underground aquifers. High usage rates are depleting those aquifers, although there remain
vast water reserves on every continent. The problem lies with unsustainable extraction which means
that the aquifer cannot recharge itself. Depletion is especially rapid in middle latitudes as a result of
high extraction by farmers. Water must be pumped from deeper and deeper reserves.861 The
existing accessible, reliable and sustainable supply of fresh water is estimated as being 420 trillion
litres a year. If total demand for water goes up to 690 trillion litres a year by 2030, including
withdrawals for industry and households, it is obvious that we will be drawing water from much
deeper aquifers and doing so unsustainably.862

Farmers cannot cope with climate change on their own. Each year a farmer makes a decision on
what crops to grow and will usually hedge his or her bets by planting different crops according to the
season. If the change in the pattern of weather is gradual, a farmer will build up enough experience
to undertake incremental changes. But let us suppose that the weather no longer has a recognizable
pattern. Our farmer will go out of business over the course of a few planting cycles if nothing grows
successfully for several years running. In fact, all the farmers in the region will be bankrupted as
they will all be in the same boat. Climate change means that farmers must hedge their bets against
multiple scenarios that involve significant investments (such as irrigation projects or the
development of hardier seed varieties), which as stand-alone small businesses they cannot afford.
Furthermore, even if the government (or a state-backed farmers cooperative) is able to invest in
agricultural technologies that address the strategic problems, there is no guarantee that these
improvements in farm resilience will prove successful over the long term. This is because climate
change implies a different pattern of land-use. The land may become so arid that only nomadic
pastoralism will be successful and the arable farmers have to abandon their fields and move
elsewhere (if they can buy out another farmer). In developing countries, a high proportion of people
make their living from agriculture. They are also the biggest segment of people in poverty. African
and Asian farmers are mostly smallholders tending tiny scattered parcels of land. On their own, they
cannot invest in the techniques that will help them to grow more crops and supply animal products
for themselves and for sale. Nor do they have the capital and knowledge to change the use they
make of land and water resources to adapt to climate change.

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Rain-fed agriculture could prove to be more resilient to climate change than irrigated crops in the
shorter term, according to the International Food Policy Research Institute.863 Global warming will
increase water evaporation from the oceans and therefore rainfall should be heavier (but storms
more violent). African farmers tend to rely on rainfall so more frequent rain might help them
initially. Rain-fed crops are tougher and better adapted to the intermittency of rainfall. Irrigated
crops depend on there being a steady water supply and will perish if this is not available. Rice, the
staple food in much of Asia, is especially vulnerable in this respect. But it should be noted that while
irrigated farming takes up only one-fifth of the worlds farmland it grows two-fifths of the worlds
food.864 Africas problems are therefore interconnected: reliance on rainfall results in low yields; but
fertilizers are less efficient where rainfall is low and unpredictable; and lack of fertilizers leads to soil
depletion and worsens yields. Turning this situation around will be expensive: irrigation, drainage,
water harvesting and storage projects are capital intensive, with major environmental impact and
social repercussions in terms of management and upkeep.

However, if temperatures carry on rising, rainfall patterns could alter drastically and no agricultural
zone will then be safe. The increasing frequency of drought suggests that global warming is already
altering the climate around the Indian Ocean, including that of East and Southern Africa. Variability
in weather patterns is the ruin of small-scale farmers .865 A study in 2009 by the International Food
Policy Research Institute suggested that without an increase in irrigated area, in any case necessary
if Africa is to feed its growing population, Sub-Saharan Africa would see falls in agricultural output as
a result of climate change.866 Farmers in East Africa are adapting by introducing more drought
resistant varieties, but they are also changing or even abandoning a sowing season. Instead of raising
cattle they now just tend hardier goats.867 Adapting to climate change is already reducing food

The trouble is that African farms, as in other developing countries in Asia, are tiny and in no position
to finance capital investment. Table 10.4 sets out some recent data on average farm size. In Sub-
Saharan Africa, 80 percent of farmers are smallholders, the majority of whom are women.868 Small
farms can be very efficient but left to their own devices smallholders cannot invest to expand as
businesses. The long-term trend is towards larger farms, but even in developed countries these
receive state subsidies, which for many developing countries is unaffordable. The alternative is to
move towards a collective solution that draws upon the experience of Asian countries, such as

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Table 10.4: Average Farm Sizes Worldwide (19942011 data)

Region Mean size Percentage of farms Trend since 1970

(ha) under 2 ha (%)

Sub-Saharan Africa 2.4 69 Farms are getting smaller

Southeast Asia 1.8 57 Farms are getting smaller

South Asia 1.4 78 Farms are getting smaller

East Asia 1.0 79 Farms are getting smaller

West Asia & North Africa 4.9 65 Data not available

Europe 32.3 30 Farms are getting bigger

North America 190.1 4 Farms are getting bigger

Central America 10.7 63 Data not available

South America 111.7 36 No overall change

Oceania 2.7 18 Data not available

Australia/ New Zealand 2239.1 : Farms are getting bigger

World 5.5 :

Sources: The World Bank; Food and Agriculture Organization World Census of Agriculture 2000;
Canadian and US farm census data.869

Agriculture played an important role historically in development and President Paul Kagame of
Rwanda correctly saw the modernization and marketization of the sector as the backbone of
{African] economies and the agent for their transformation. We have to make it much more than
subsistence.870 In a 2013 speech Kagame suggested that the modernization of African agriculture
could only be achieved if it was economically viable.

Agriculture [is] a crucial cornerstone to Africas economic transformation, and there are
many examples where it has been pivotal to the realized growth, including among others in
Ethiopia, Uganda, Ghana, and my own country, Rwanda. However, agriculture must be
treated as a business and not just a subsistence activity, in order for it to become a
transformation agent. A huge market exists. The potential to increase productivity, create
more jobs and raise incomes is ever present. But to turn agriculture into a business dictates
that we modernize it, invest in technology and research, make reforms in land tenure, land
and water management, and develop transportation infrastructure for greater distribution
and trade.871

Deficiencies in farming technologies, the unaffordability of seeds, fertilizers and pesticides, and the
lack of access to banking and insurance, capital for investment, and to markets for selling the
produce as a result of poor roads, the absence of warehouses and refrigeration, all contribute to low

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yields in developing countries. Co-operatives for processing and marketing the produce are also
essential if farmers are to move up the value chain.

Security of tenure is another critical factor in ensuring that farmers have the confidence to invest
and innovate. If farmers think that they may not reap any benefit from improving the productivity of
the land they are working they will not invest, even if they are aware of the advantages. Rwanda has
endured a tragic history of ethnic conflict in which its two main communities have seized land from
each other, in repeated rounds of mass killing and expulsion. Under Kagames Rwandan Patriotic
Front government, which set out to end the cycle of conflict, claims to land have been arbitrated by
local commissions and title registered formally. A feature of the process was the recognition of
widows rights. With plots properly delineated by satellite mapping and on-the-ground boundary
markers, property rights are established legally and the lands value is available to secure loans for
investment. A similar program was put in place in Ethiopia, which also sought to register womens
title to the land they cultivated. Both programs were part funded by the World Bank and the British
government. But such measures must be accompanied by government-funded assistance to
smallholders and the modernization of the economic infrastructure. Irrigation and water storage will
be necessary if Africa is to ride out the early consequences of climate change. It is therefore entirely
feasible for African smallholders to grow far more crops per hectare and to prosper, as Kagame
envisaged, but they cannot do it on their own. The truth is they have to do it together on a model
that enables them to get the best from the land and water resources collectively. Community rights
to forage or pasture animals on land have to be addressed and this can only be achieved through
collective management. The Chinese experience in combining household responsibility with state-
supported development cannot, of course, be transferred to Africa without modification, but the
lessons are clear enough. Without a major transformation in a socialist direction, African farmers will
be at the mercy of world commodity markets and climate change. Food production, already low by
world standards, will continue to fall short of what people need.

Moreover the whole question of the sustainability of development assistance has been twisted by
neoliberalism. In particular, the process of granting development assistance has been subverted by
the application of the well-known analogy: teach a man to fish. According to this proposition, it is
better to give someone a fishing rod, so that he or she can provide for themselves, than to dole out
sustenance year on year. Common sense then tells us that the proposition teach a man to fish is
better than give the man a hand-out. But such an argument can be misleading. Development
programs are labelled as being better or worse on the basis that one provides capacity building
(teaching) while another provides a subsidy (hand-outs), when both may be necessary. A related
idea is that development assistance should be catalytic, and provide a temporary infusion that shifts
the economy onto the path to prosperity. In a World Bank study of Ideas that Work, for example, the
long-running Rural Support Programs activities in Pakistan were described as catalytic, implying
that its community mobilisation, funding and technical assistance inputs were the catalyst that
accelerated the development process.872

The term sustainable development was defined at the Rio Summit of 1992 as ensuring socially
responsible economic development while protecting the resource base and the environment for the
benefit of future generations.873 This was itself a rewording of the definition put forward by the

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Brundtland Commission as being development that meets the needs of the present without
compromising the ability of future generations to meet their own needs.874 It was conceived as a
way of capturing inter-generational transfers of assets and liabilities: to ensure that future
generations are not burdened with the results of our own reckless consumption of natural
resources. But too often the need to demonstrate fake sustainability at the project or program
level became a key criterion in allocating funds. In truth what was being asked for by developed
country donors was not so much sustainability in its inter-generational sense but, instead, whether
there was a good prospect for the project to become self-supporting within a global inter-
dependent capitalist market economy over the medium-term. A more accurate description of what
was usually termed sustainability would be a criterion that a project is potentially self-replicating or
self-supporting. Such an emphasis found its justification in the inclination among donors that
development interventions should be catalytic, with a defined near-term exit point.

A catalytic intervention ideally provided the extra ingredient to accelerate the development process
and was assumed by donors to provide more bangs for their buck. At the same time, the emphasis
upon self-sufficiency tended to de-legitimate enthalpic programs that offered an impact based upon
sustained and on-going resource inputs. Both terms catalytic and enthalpic come from the
chemistry of reactions. An enthalpic reaction involves the infusion of a substance or energy, for
instance heat, to keep the reaction going. (The word enthalpic derives from the Latin to put into.)
Although enthalpic programs could be ended at a specified milestone (for example, when
unemployment falls to a target percentage of the labour force or when median income approaches a
pre-specified fraction of income per person) their long-lived nature meant that donors could not
proclaim an early win or fake sustainability.875 Worse still, in the eyes of neoliberals, enthalpic
programs could entail aid dependency.876

In preparing for the Gleneagles Summit, Tony Blair established a Commission for Africa made up of
17 eminent Africans and international leaders and supported by the UK Treasury and the
Department for International Development.877 The Commission examined the evidence for what
worked in development and advocated a package of recommendations addressed to the
international community and to Africans themselves. At the prevailing growth rates it was going to
take the average developing country 350 years to match American living standards.878 The
Commission argued that to eradicate poverty, developing countries needed rapid and inclusive
growth. Poverty, they stated, will continue to rise unless there is greater economic growth and
of a kind in which poor people can participate.879 They identified trade and entrepreneurship as the
drivers of economic growth, but these were constrained by poor quality infrastructure, education
and governance in Africa and by unfair international trade. Left unaddressed, these constraints
meant that poor people had little opportunity to escape the poverty into which they had been

It is the private sector that in the main drives economic growth. But the state has a vital
role too for only it can create the climate within which private entrepreneurial spirit
flourishes. Our analysis suggests that there are three essential things that the state must do.
It must create an economic and political climate which encourages people to invest. It must
invest significantly in infrastructure, including in agriculture. And it must have a strategy on

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how to include poor people in growth by investing in the health and education of its people,
tackling the roots of youth unemployment and under-employment and by encouraging small
businesses, the most important of which in Africa are family farms.

Our study of all the available evidence leads us to conclude that governance is at the core
[of the problem]. [] If people are to feel safe about investing their money in a country they
need to feel confident about a whole range of things that the law will be upheld, that
contracts will be enforced, that business regulations will not be imposed merely to secure an
endless stream of bribes for corrupt officials. They also need stable economic policies, good
public financial management systems, predictable and transparent taxation and effective
competition laws. These requirements are the same for domestic and foreign investors. []
These measures work.881

Despite this essentially neoliberal approach, a quantum leap forward was deemed necessary to
accelerate growth: Africa requires a comprehensive big push on many fronts at once.882 To that
end, the Commission proposed an uplift in development funding to Africa from developed countries.
In 1980 the Independent Commission on International Development Issues, chaired by the socialist
politician Willy Brandt (19131992), had recommended that developed countries contribute 0.7
percent of their gross national product (GNP) towards the development of developing countries,
rising to one percent by 2000.883 Even by 2005, many developed countries were still not meeting the
0.7 percent target, and the shortfall was more than sufficient to meet the Africa Commissions goal
for a total yearly disbursement of $75 billion. Of this total, $20 billion was to be earmarked for
infrastructure, including irrigation, water and sanitation, transportation, energy and slum upgrading.
Nearly $30 billion was to be spent on health, including treating AIDS, $8 billion on education and $5
billion on social inclusion.884 The developed countries could also help by removing trade barriers and
unjustified subsidies for their own farmers.

To ensure opportunity for poor people to benefit from growth, the Commission advocated a strategy
to strengthen civil society, including human rights and especially womens rights and opportunities.
Women are the backbone of Africas rural economy, accounting for 70 percent of food production,
most of the selling of the family produce and half of the animal husbandry in addition to food
preparation, gathering firewood, fetching water, childcare and the care of the sick and the elderly.
[] Women are a key part of the solution to Africas problems.885 In this connection, the Africa
Commission discussed the nature of African culture and noted the importance of affiliative networks
like clans and patronage in determining access to resources and livelihood openings.886 Relationships
between friends and family, kith and kin, are important in all societies, of course, but in Sub-Saharan
Africa these were far more relevant to people because the institutions of civil society and the state
were less reliable providers of support and opportunity. Having noted the issue, however, the
Commission did not offer much by way of a solution other than re-emphasizing the importance of
good governance and capacity building. Strengthening the capacity and impartiality of public
administration, improving the transparency of policy-making and the accountability of officials and
politicians to citizens were highlighted. Developed country governments were urged to tackle
corporate bribery and transfers of illicitly acquired wealth.887

There was surprisingly no explicit recognition of the role of national liberation movements in
mobilizing communities for development. Two commissioners Trevor Manuel from South Africa

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and Meles Zenawi (19552012) of Ethiopia were leaders in the African National Congress and the
Ethiopian Peoples Revolutionary Front respectively. Since the Commissions report was built on
consensus, it may be that this aspect proved to be too contentious for some of the other
commissioners; in any case, the suggestion that a broad front of civil society organizations in
partnership with government should seek to work together to develop the country rather than leave
things to market forces would have been a development strategy out of step with neoliberalism,
where the role of the state is much more circumscribed.

Nevertheless, the Commission for Africa went some way towards recognizing the need for enthalpic
funding in advocating direct budgetary support to governments to provide social protection for
vulnerable children, the elderly and women. The measures highlighted for support included
childcare grants, disability allowances, pensions and other direct transfers of cash but no attempt
was made to quantify their cost.888 The provision of old age pensions, for example, would have had a
major impact on household incomes, as was clear from the South African experience in introducing a
non-contributory means-tested older persons grant of about $150 a month at age 60 years in 2004.
This is equivalent to seven dollars a day at purchasing power parity in an emerging industrial
economy like South Africa, and represents a high end example of an old age pension appropriate in
developing countries. There were 554 million older people living in developing countries in 2013
(aged 60 years and older).889 If they were each paid two dollars a day to ensure they were not living
in abject poverty, the cost would be some $405 billion a year; however, the additional cost of raising
their standard of living to above two dollars a day would be less in practice, dependent upon their
existing level of subsistence (for many this would be at or below one dollar a day in Sub-Saharan
Africa). According to the World Bank, the nominal GDP for high income countries in 2014 was $52.8
trillion, so one percent of this amounted to $528 billion.890 A major reduction in global poverty could
therefore be achieved within a few years by paying old age pensions in developing countries
provided developed countries devoted one percent of their national income to international

One of the few countries to accept the recommendations of the Commission for Africa was the
United Kingdom, which raised its contribution to international development to 0.7 percent of
national income. Official development assistance by OECD countries to Sub-Saharan Africa rose from
$32.4 billion in 2005 to $44.3 billion in 2014, a significant rise but still a far cry from the $75 billion
advocated by the Commission. Total official development assistance disbursed in 2014 was $161.1

As noted already, the current scale of development assistance provided by developed country
governments is well below that necessary to implement the Sustainable Development Goals, let
alone to make poverty history. One estimate of the investment required for infrastructure
worldwide put the total at $90 trillion by 2030, or $6 trillion a year over 15 years. That amount
represented an increase of $3.5 trillion over the existing investment level of around $2.5 trillion a
year. Developing countries and emerging industrial economies would need $60 trillion of investment
in infrastructure in cities, transport systems, energy supply, water and sanitation, and
telecommunications. The calculations took account of the needed to adapt to and mitigate global
warming in developed and developing countries. The authors of the study, Amar Bhattacharya,

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Jeremy Oppenheim and Nicholas Stern, assumed that private finance of up to $3.5 trillion a year
could be available, leaving governments and the international development having to find $2.5
trillion a year.892 Meeting the Sustainable Development Goals by 2030 would therefore involve the
mobilization of about $4 trillion a year, some of it from private sources. In addition, developing
countries needed $200 to $300 billion a year to drive up agricultural productivity.893

In total the measures discussed in this chapter would amount to about three trillion dollars a year,
equal to 5.7 percent of the national income of the high income countries.894 Since 80 percent of the
annual cost would take the form of loans, the balance of non-refundable expenditure would be of
the order of one percent of high income countries national income the proportion recommended
by the Brandt Commission. The international development banks would have to be re-capitalized
with an additional $130 billion to be able to raise the much higher level of lending (alongside private
finance). Without such a step change in the scale of official development assistance there is little
chance of eradicating poverty within one generation. Furthermore, the strong pro-market bias, the
emphasis on catalytic intervention, and the reluctance to assist broad coalitions of social forces as
the drivers of development programs conspire to keep developing countries from making the
quantum leap to becoming industrial and mass consumer societies. In a sense this is the problem of
escaping the trap of dependency and under-development, identified by writers such as Fernando
Henrique Cardoso, Celso Furtado, Andr Gunder Frank and Osvaldo Sunkel in the 1970s.895 The
neoliberal track to achieve development via rapid, deeper, and inclusive economic growth cannot
succeed, as it views the issues the wrong way around. It is development that generates rapid,
deeper, and inclusive economic growth. To secure development it is necessary to build a broad
coalition of social forces that can be mobilized through self-help, regulated markets, and general
economic and spatial planning to establish employment around public services, construction,
sustainable agriculture, and export industries.

To lend for infrastructure and housing at an appropriate scale the international development banks
and developed country donor governments would need developing country counterparts that are
able to repay the loans reliably in a stable currency. It would also entail capacity building around
program management and locally sourced goods and services, to reduce reliance on the use of
expatriate staff and imports. Unless this was done, bottlenecks and balance of payment constraints
could emerge. Developing countries often rely on a small range of exports to earn foreign currency
and as a result development agencies and banks restrict their programs to stay within the absorption
capacity of their developing country clients.

To avoid running into absorption constraints, it would be advisable for developing counties to
establish common currencies to match their common markets on the European Union model. Rivalry
between European colonizers resulted in the sequestration of natural resources into artificial
territorial configurations, which then became independent states at different times according to the
political priorities of the colonial rulers. The resulting patchwork of states hindered social and
economic integration in Africa, Asia and much of the Americas. The several attempts to create
common markets have often been undermined by political disagreements and vested interests.
Economic and monetary unions comprising a group of developing countries would not only be more
self-sufficient but also enjoy a more diverse export base and therefore be less vulnerable to
variations in world commodity prices.

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The mistakes made by neoliberal policy-makers in creating the euro (and outlined in Chapter 5) need
not be repeated by developing countries. Provided then that an economic and monetary union is
established between countries with a similar standard of living, a diverse range of resources, a
common market for goods, services, capital and labour, and without large disparities between
prices, the international lenders and donors would find they had a far more creditworthy partner to
cooperate with. The new currency would reflect the underlying strength and resilience of the blocs
economy. In time, the new currency might become more widely used in international trade and
financial transactions. As a freely convertible currency, the new monetary unit could gain the status
of acting as a reserve currency, and be accepted by the IMF and central banks as a liquid
instrument.vii Compared to a government-controlled national currency, vulnerable to exchange rate
fluctuation as commodity prices varied, and regarded with suspicion by foreign investors and
domestic savers alike, the new hard currency would permit much the larger capital inflows needed
for the quantum leap in development to be possible.

Eradicating absolute poverty globally within a generation is an enormous task and cannot be
accomplished on the cheap through catalytic interventions that leaves the heavy lifting to the
marketplace and the private sector. Neoliberal approaches to international development
cooperation have provided the excuses for limiting the size development assistance given by the
developed countries. But neither would poverty eradication be an unfeasibly large endeavour. The
numbers are big but manageable. Manageable for a world that has surmounted its various
economic, environmental, social and political crises, to be sure, but just as much part of the solution
to those crises as the proposals outlined in the other chapters of this book.

Since October 2016, the IMFs special drawing rights have been available to its member state governments
in British pounds, euros, US dollars, Japanese yen and Chinese yuan. These currencies comprise the set of so-
called reserve currencies most widely used internationally for payments.

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11 Balancing the books

The aim of macroeconomic policy is to balance the economy, not to balance the governments
books, according to economic commentator William Keegan.896 The national accounts comprising
of national income, national expenditure, national saving, international trade (the countrys imports
and exports), and so on do not necessarily balance by themselves. To be sure, at one level,
economic activity always balances: for every sale there must be an equivalent purchase, and for
every credit there is a debt. Furthermore, if milk is oversupplied to the market, sellers will cut its
price and some dairy farmers and dairies will close down (unless they are given a government
subsidy). In general, if supply and demand is not matching over the short-term, price changes signal
which direction any adjustment to equalize supply and demand should take over the longer term. If
imports exceed exports, the additional demand by importers for foreign currencies to pay for the
imported goods will pull the exchange rate downwards.

The government is just another actor in the market but it has the advantage over households and
enterprises in that it can never actually run out of cash. If a government needs to spend more it can
either borrow more or raise taxes. There are economic limits, of course, on how much a government
can borrow and tax at any one point in time, but it has much greater freedom of manoeuver than a
household or enterprise and therefore it has the capacity to intervene macroeconomically. This role
for government was accepted as a result of Keyness findings in the 1930s.

Unfortunately for working people, governments operating within neoliberal policy remits, have not
only often failed to take steps to balance the economy and allowed structural unemployment to
persist and worsen but have also contributed to the development of a huge financial sector
dedicated to speculation rather than investment. A speculator is someone who buys an asset in the
expectation of making a profit from selling the asset later, when the price changes. This business
strategy differs from that of an investor, who buys an asset with the expectation that it will generate
an on-going return. An investor does not buy an asset just to sell it again later but seeks to develop
the venture. There is something enduring implied by the word investment, even though the profit
motive remains the driving force in capitalism. When The Economist magazine headlined its 1990
survey of capitalism Punters or Proprietors?, it alluded to the on-going shift from an economy
oriented around investment to one based upon speculation.897 Capital had become more fluid.
Instead of being tied up in factories, warehouses, offices and shops which may be called lumpy
capital a larger proportion was embodied in financial paper that could, in principle, be traded more
easily. The shift added greater liquidity to financial markets, meaning it was easier to trade financial
paper. Furthermore, the whole set-up was underpinned by an expansion of borrowing by
governments: known as sovereign debt. The build-up of debts and the interlocking obligations
(IOUs) it implied led eventually to the largest scale financial crisis the global economy had hitherto

The world has lived with an unbalanced global economy for some time. A commodity price super-
cycle began with the rise in energy and metal prices in the 1970s. For the half century prior to that,
the cycles in the prices of primary commodities, like oil, coal, metals and agricultural products, were
unsynchronised. The very long-term trend since 1865 had been for primary commodity prices to fall

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slowly until around 2000, when they then began to rise again. Over the course of this overall trend,
prices fluctuated considerably in the short-term and there was little correlation between types of
commodities and financial assets. But from the 1970s, prices for all primary commodities types rose
and fell together. This was not the first such super-cycle. There had been an earlier one between
1895 and 1925.898 In energy markets, the oil price (inflation adjusted) went from $15 per barrel in
1970 to $90 in 1980 before falling back to $35 per barrel by 2000; coal prices followed the same
pattern as oil, rising to $120 per tonne in 1980 and declining slowly to $40 a tonne by 2000. Oil and
coal prices then increased steeply until 2008, when they reached $100 a barrel and $120 a tonne
respectively.899 Bloombergs commodity price index covering most primary commodities rose from
100 in 1991 to 125 in 1997, fell back to 75 in 1999, and then began a long climb to reach 235 in 2008.
The financial crisis entailed a sudden collapse of 110 points in the index from 235 to 125 by the end
of 2008; they recovered upward momentum temporarily until 2011, when the index hit 175, before
falling back to below 100 in 2015.900 Similarly, oil dropped from a peak of over $140 a barrel to $40
by the end of 2008, recovered to reach $120 by 2011 before collapsing again in 2015 to $40 a
barrel.901 In real terms, the prices of oil, coal, metals and agricultural products were back to where
they had been 25 years earlier.

Higher energy costs in the 1970s and 1980s encouraged companies established in Western Europe
and North America to shift their manufacturing operations to areas where lower labour costs
prevailed. Transnational corporations were attracted to the newly industrializing countries by pro-
investment policies offering tax-breaks, including export-processing zones, and the removal
restrictions on foreign ownership and the re-export of profits.902 They were also in fierce
competition with lower cost and more efficient producers from Japan, South Korea and Chinese
Taiwan. The fall in coal prices during the 1980s and 1990s put pressure on coal mining companies
deep mining operations in Western Europe and North America and forced most of them to shut-
down, often leaving only the open-pit operations viable. Extensive industrial restructuring left the
traditional industrial regions of Western Europe and North America with high structural
unemployment. Older plants employing less-skilled labour were especially vulnerable to the re-
location of production.903 Many mines, mills and shipyards closed altogether or were reduced to
undertaking higher value niche business that employed a tenth of the previous workforce. Millions
more jobs were lost from light industry as textiles, garment- and shoe-making, white goods,
automotive and telecommunication equipment manufacturing were re-located to Asia and Latin

The newly industrializing countries not only exported their goods to the mature market economies
but also invested some of the profits made in the global financial centres of New York, London,
Switzerland, Hong Kong, Singapore and the like. This inflow of capital boosted the recipients
financial markets from the 1990s onwards, thus off-setting partially the job losses from industrial
restructuring although, of course, only a small number of former steel-makers and miners were
able to retrain to become financial advisers. In some cases, the profit from the manufacturing and
primary commodity exporters and their corrupt government patrons was invested in residential
property in favoured locations (New York State, the London region, Geneva, the South of France,
and the Balearic Islands). But the impact of the capital influx was much wider. Property prices in
Europe and North America rose generally as finance personnel invested their bonuses in land and
buildings. Homeowners with more valuable houses were able to borrow more, fuelling consumption
and bolstering the financial sector still further. The Economist magazine estimated that residential

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property in the rich world was worth $48 trillion collectively in 2002 and this rose to $65 trillion by
2007, an increase of 35 percent over five years. The magazines indicators showed that house prices
in the USA went up by 116 percent between 1997 and 200708; in Canada by 78 percent; in
Australia by 163 percent; Britain by 213 percent; France by 152 percent; Spain by 190 percent;
Sweden by 145 percent; Italy by 104 percent; and Switzerland by 24 percent (house prices in
Germany were stable and they declined in Japan).904

Exports of primary commodities and manufactured goods from emerging market economies rose
seven-fold between 2003 and 2014 according to calculations by the Financial Times.905 Often some
of the profits generated from these commodity and manufacturing exports were re-invested in Asia,
Australia, Africa and Latin America, either in the stock markets or in the industrial base to enlarge
export capacity. An expanded working class formed as a result of this new international division of
labour in the 1980s, 1990s and 2000s.906 Permanent and better-paid jobs in prosperous emerging
market economies laid the foundation for their transition into mass consumer societies. The rapid
growth of industry in China, India, Bangladesh, Sri Lanka, Southeast Asia, Brazil, Chile, Egypt and
Turkey, to name the most prominent, in turn sucked in more primary commodities, pushing their
prices up still further. Ever greater sums were re-cycled back to the global financial centres, as
already mentioned, and then re-patriated as foreign direct investment into emerging markets
industry and infrastructure. It appeared to be a virtuous super-cycle that would last indefinitely.907

Yanis Varoufakis described the circulation of capital through the USA as a global vacuum cleaner,
whereby the worlds leading surplus economies (Germany, Japan and, later, China) kept churning
out goods that Americans gobbled up. Almost 70 percent of the profits made globally by these
countries were then transferred back to the United States, in the form of capital flows to Wall Street.
And what did Wall Street do with them? It instantly turned these capital inflows into direct
investments, shares, new financial instruments, new and old forms of loans and, last but not least, a
nice little earner for the bankers themselves.908 The convergent phenomenon of rising asset and
primary commodity prices was driven by speculators search for yield and by the propensity of
developed country governments to borrow. While it lasted virtuously, the super-cycle promoted
development and prosperity, but when the cycle reversed it meant a long recession was in train.
Falling asset prices unleashed a wave of retrenchment as borrowers struggled to pay off their loans
and banks cut back lending to less-credit worthy clients.

Rising commodity prices and house prices were not the only examples of asset price inflation in the
decades leading up to the crash of 2008. The first pointers to asset price inflation were seen in the
mid-1990s in the markets for fine art, where prices for paintings, sculptures and other objets darts
were selling for ever-higher values. It was demand-pull inflation driven by the rich. Since 1995, art
prices jumped 15 times to reach a peak in 2008. The value of sales in the global art market was
estimated at 51 billion in 2014. Overall the prices of valuable collectables such as classic cars,
stamps, coins, wine and art doubled between 2003 and 2013, according to The Economist
magazine.909 Fine wines performed even better than art and stamps, with prices rising by four
percent a year since 1900, after adjusting for inflation; higher than fine art at two percent and
stamps at three percent, although there were long periods of falling prices in the 1930s and from the
1970s to the 1980s.910

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Stock markets were also sites of speculative and manipulative activity. The longest and strongest
bull market in history began in 1982, in the words of The Economist magazine.911 Despite the
autumn crashes of 1987, 1990 and 1997 in New York and London, the value of stock markets around
the world rose steadily until 2000.912 One of the main measures of US stock markets, the Standard &
Poors Index of 500 leading companies stood at 109 in January 1982 and rose to 1485 by August
2000, a twelve-fold increase. After falling back to 855 in October 2002, US share prices began
another long rally to reach 1540 by October 2007. In the crash of 2000 to 2002, the S&P 500 fell
some 40 percent. From 2002 until October 2008 the index made up its earlier losses, only to crash
again by nearly 50 percent. Though these were large losses, the crashes of 2000 and 2007 were
smaller than that in 1929. After the September 1929 Great Crash, the S&P 500 index lost 80 percent
of its value by 1932, regained two-thirds of this by 1938 before dropping back again.913

A bull market occurs when equity traders expect stock prices to rise, while in a bear market
speculators engage in so-called short-selling. In the 1880s, American bearskin jobbers would
promise to sell furs that they did not yet own in the expectation that the price would soon fall and
they could make a larger profit than if they carried out a transaction at the current prices.914 In some
stock markets, short-selling is banned, but in any case, true bear markets have been infrequent. In a
drawn-out bear market equity traders sell whenever share prices rally, as they expect the rally to be
short-lived and prices to begin falling again. A bull market, where expectations are of rising share
prices, may also experience price dips, but these are viewed as opportunities to buy share
cheaply.915 The experience since the stock market crash of 2008 suggested that the long bull run had
merely been interrupted by the financial crisis and speculators were buying in the dips on the
expectation of continuing share price rises.916 By the end of 2016 the S&P 500 index stood at 2238,
its highest ever level.

Public companies are listed on a stock exchange and their shares can be trade freely. The shares in
private companies are not traded and are held by the same owners, a family group, for example,
over long periods of time. Both public and private companies can borrow money for investment but
public companies can also raise capital by issuing more shares onto the stock market or by issuing
corporate bonds. If they do not need as much capital for investment as before, they may buy back
their shares. American corporations saw their profits grow during the long recession and
accumulated cash reserves accordingly, which they used to buy back some of their shares from
shareholders. Since 2002, US companies have issued progressively fewer new shares and invested
less than European companies in expanding or upgrading their production facilities.917 This strategy
allowed US public companies boost earnings per share by 200 percent since 2009, compared to
European share earnings growth of about 150 percent.918 The S&P 500 index rose 125 percent
between 2009 and 2015, compared to just 40 percent for developed country stocks as a whole
(according to the Morgan Stanley commodity index).919 It enabled companies to generate bonuses
for their managers, whose performance was rewarded in relation to the companys stock price. It
helped explain why stock markets continued to boom during the long recession as economic growth

Asset price inflation differed from consumer price inflation in that it could not become a fully
generalized and embedded feature of the economy. Asset prices reflect the rate of return on capital

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and any sustained increase must eventually be checked by the reality of ever-smaller yields to the
buyers. When these limits are reached at the height of an asset price bubble, owners turn their
attention to sweating the assets in an attempt to raise returns putting more pressure on the
managers of the enterprise to reduce costs, including labour costs. So long as the market anticipates
further price rises, the assets will readily find buyers, but buyers will become more cautious as
expected yields reduce. As the asset prices reaches the top of the speculative cycle, the pool of
willing buyers diminishes because they consider the assets to be priced too high and the yields too
small. Asset owners are less able to sell their apparently poorly performing assets not enough
yield in relation to the high price and focus their attention on improving that performance. In
practice, as far as shares in companies are concerned, this often means pushing the staff to work
harder or for smaller salaries. Eventually the asset prices will fall to a low enough level to entice
buyers back and the asset price inflationary cycle begins once more.

By contrast, consumer price inflation is not so cyclical. Periods of inflation are not followed by
periods of deflation, which are then superseded by renewed inflation. The buyers of consumer
goods and services use them and do not expect to re-sell them any time soon. Workers use the
money they earn to buy products while investors buy assets to make money. The substitute for an
asset is money, but the substitute for a consumed good is another similar consumption good. There
was a case in Holland in the seventeenth century of a bubble in the price of tulip bulbs, which are
less perishable than many other plants and can be stored for months. The 1634 tulip mania was not
the first asset price bubble and the Amsterdam markets had already become the setting for frenetic
gambling, according to economic historian Fernand Braudel.920 The bubble arose as people gambled
that they would be able to sell the bulbs later for a much higher price than they had paid. As with
most speculation, the buyers had no intention of using the goods they purchased, in this case to
enjoy the tulips beauty when it flowered.

Since most goods and services are not traded speculatively, as they are in the futures markets for
some primary commodities and financial assets, expectations among market actors on future prices
play little part in pricing. What matters to enterprises and working people alike are current costs and
in so far as these can be known, trends over the foreseeable and short-term future of a few months.
For the most part, wage bargaining relates to the current value of wages in terms of their purchasing
power. If consumer prices are rising rapidly, working people individually and collectively seek wages
that maintain their standard of living. In this way, consumer price inflation can become generalized
and embedded in the economy.

The Monetarist approach proposes nevertheless that all types of inflation are generalized by the
collective expectations of market actors: a variant of the madness of crowds thesis.921 In other
words, the interaction between buyers and sellers leads them to expect a certain rate of price
increase inflation in the future. In some primary commodity markets, traders can hedge against
price changes by buying forward up to five years ahead (and sometimes up to ten years ahead).922 In
these few but strategically important markets, there exists a set of precise market expectations
about the future. Generally, however, there is no forward market for most goods and services and
market actors rely on past data for their predictions. If prices have risen in the last six months,
market actors imagine, prices will be higher in the next six months as well unless they foresee
some change on the horizon. It then becomes the job of the central bank to anchor inflationary
expectations at a tolerable level (usually set at two percent a year).

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Financial markets discount future inflation from the rate of interest charged over time. If they have
confidence that the central bank will act to keep inflation at around two percent then the market
players will apply a two percent discount to calculate the expected real rate of interest.923 The
mainstream monetary policy regime of targeting inflation to keep it relatively low, which was
adopted from the 1980s onwards, was predicated on the theory that central banks could control
core consumer price inflation through monetary instruments (mainly by manipulating the base rate
of interest). Therefore, if consumer price inflation was higher than two percent, the central bank
would raise interest rates, to reduce the supply of money and restrict spending in the economy in
the hope that the resulting recession would bring the inflation rate down. Core inflation was
calculated using a basket of consumer goods that excluded internationally traded primary
commodities, like oil, and financial products (where forward markets exist). In other words, asset
price inflation was ignored, even though the Monetarist approach suggested that speculative
bubbles were driven by the governments lax control of the money supply.924 Under its governor
Mervyn King, the Bank of England published a regular report on inflation that analysed trends in
inflation. In theory, the Bank of England would change its base rate of interest in order to target
inflation around 18 months ahead because this was the timescale over which a recession would
start to have an impact but in practice it was impossible to know future prices so far ahead, so the
Bank guessed what interest rate was appropriate on the basis of price trends over the past months.
Thus, the central banks behaved in the same fashion as the commercial banks, helping to reinforce
the super-cycle rather than counteract it.

Speculation can influence the prices of assets and certain strategically important primary
commodities, in particular oil. The Economist magazine commented that commodities have become
an investment class: declines in their prices [since 2012] may simply reflect the whims of
speculators.925 At the height of the commodity price boom, Alan Greenspan, former US Federal
Reserve chairman, told the Financial Times that speculation was importantly responsible for the
rise in oil prices in 2007 and 2008, though he doubted it was a bubble since it was good
speculation.926 His colleague, Jean-Claude Trichet, European Central Bank president, echoed this
view, saying that financial investors might have exaggerated changes in prices beyond what
would have been expected by fundamental economic factors. However, the price hike was benign
since volatility in the oil price at that point might have been the price to pay to avoid even higher
volatility in the future.927 The spot price of oil traded on the New York Mercantile Exchange had
risen from $50 a barrel at the end of 2006 to $147 a barrel in July 2008 and at the time of Greenspan
and Trichets comments had already fallen back by $40. The investment bank Goldman Sachs
considered that the natural price in terms of balanced supply and demand was $70 a barrel.928
Greenspan and Trichet appeared therefore to be defending an economic system that was doubling
the cost of oil to consumers.

The price of many staples rose rapidly from 2000 onwards: vegetable oils, oil seeds, maize, rice,
wheat and sugar had doubled in price by 2008. These movements, especially after the prices fell
quickly, were termed volatility and it was reported that the OECD and the UN Food and Agricultural
Organization believed that food prices have undergone a paradigm shift and will not drop back for
the next ten years.929 Within months prices had indeed fallen back. The Financial Times
commented, commodity prices have risen as institutional investment has flowed, prompting some
to attribute the increases to speculation. [] Pension funds and other big institutions today [July
2008] hold about $250 billion in commodities.930 It nevertheless argued that the volatility was

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driven by market fundamentals supply and demand not speculation since not all commodities
were traded on futures markets (iron ore, for instance) and physical inventories were being
adjusted.931 But this was to ignore the reality that traders in spot markets where commodities are
traded for immediate delivery, not future delivery could speculate only as long as the goods were
stored.932 Forward delivery prices helped form traders expectations and encouraged speculation in
the spot markets for primary commodities. On top of this speculation in spot and futures markets for
primary commodities and with oil trading alone amounting to around $2 trillion a year another
$9 trillion had been invested in derivatives, the financial products sold by the banks to investors
linked to deals in commodities.933

Though many economists recognized that a super-cycle in commodity prices and asset price inflation
was underway well before the crash of 2008, few perceived it as a harbinger of crisis. In its own post-
mortem, the IMFs Independent Evaluation Office blamed groupthink and an institutional culture
that discouraged contrarian views, so that risks were downplayed.934 Nevertheless, one of those
contrarians actually worked in a senior position at the IMF itself. Raghuram Rajan, then chief
economist at the IMF, alerted the influential economic policy symposium at Jackson Hole, Wyoming,
in 2005, that the world financial system was at risk.935 Nor was he the first doomsayer. The
economists Paolo Sylos Labini, Wynne Godley (19262010) and Jonathan Kirshner pointed to serious
weaknesses in the US economy in 2003 and 2004.936 Also in 2003, Karl Case (19462016) and Robert
Shiller raised the risks posed by the emerging asset price bubble in the American housing market.937
In 1999, economic adviser Peter Warburton, warned of the dangers posed by the Western worlds
speculative journey for which all historical precedents are forbidding with disaster ahead.938
Gross world debt which stood at 200 percent of world output in 2002 was to rise to 220 percent by
2008.939 As the economist Hyman Minsky (19191996) pointed out, debt repayments reduce the
disposable income available to households and enterprises, leaving them more vulnerable to an
economic downturn and thus exacerbating a recession.940 High levels of debt suggested that any
downswing would be deep and long-lasting.

Earlier still, the author wrote about the possibility of a global crash of shares and property prices in
April 1996 as a result of the sheer size of speculative demand for stocks and shares, financial paper,
fine art and even real estate [which] has pushed their price to levels which exceed the potential to
pay back the sum invested. He cautioned that this super bubble of over-valued assets might be
ready to burst.941 In the event, the first sign of trouble came shortly afterwards with the Asian
financial crisis of 19971998 (which affected Japan, Mexico, Argentina, Russia, Indonesia, Malaysia,
South Korea, Chinese Taiwan and Turkey). Then came the bursting of the boom in the USA
in 20002002; and it was followed by the further speculative bubble that peaked in 200708. One
year after the start of the 2008 crisis, BBC Radio Four interviewed former US Treasury Secretary
Larry Summers. In an aside, Summers pointed out that over the last twenty years, the world had
experienced a major financial crisis every two years or so. He mused that this looked like a structural
problem within capitalism rather than a being a coincidence.942 Between 1997 and 2007, markets for
primary commodities, government bonds, company stocks and many other assets were correlated
nearly half the time and this correlation rose sharply from 2008.943

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The financial crisis of 2008 involved all asset classes, from primary commodities to shares and bonds.
The IMF commented later that the search for yield, leverage, [financial product] innovation, and
high dependence on common factors across markets all led to highly correlated mispricing [] across
assets [] in the run-up to the global financial crisis.944 At the heart of the crisis was the banking
sector and at the centre of the banking problem was the housing market. From the late 1990s
onwards, international banks, and especially American banks, became brokers and dealers not just
lenders. They could attract a wider array of customers by offering exotic financial products.945 When
a company sells its products it gains a stream of revenue. If you own a share in the company you
may expect a share of that income stream, paid as a dividend. The price of the share is related to the
value of the income stream. If shareholders expect a company to do better in future, then its share
price will rise. A reduction in the expected stream of income will lead to a fall in the share price. In
just the same way, a bank, which sells loans, will obtain a stream of income from the interest it
charges borrowers. What banks did was to sell a share in the future income stream to investors a
process known as securitization. By 2006, two-thirds of new mortgage lending in the UK was funded
by securities. The value of these securities stood at $4.7 trillion at the end of March 2008.946

House prices rose in almost all the mature market economies. Between 1997 and 2008, house prices
doubled in 11 countries: Australia, Belgium, Britain, Denmark, France, Ireland, Italy, New Zealand,
Spain, Sweden, and the USA. They rose by more than 50 percent in Canada and The Netherlands,
and quadrupled in South Africa. In Switzerland house prices rose by a quarter but they dropped
steadily in Germany and Japan by a tenth and a third respectively.947 Following the crisis, between
2008 and 2014, house prices fell by a third in Ireland, Spain and Greece, and by lesser amounts in
France, Italy, Japan, The Netherlands and the USA. They rose by up to a third in Australia, Austria,
Belgium, Britain, Canada, China, Germany, Israel, Russia, South Africa, South Korea, Singapore,
Sweden and Switzerland; and doubled in Brazil.948 Only in Japan did house prices fall continuously in
the early twenty-first century, but this came after the doubling of house prices between 1980 and
1991.949 In 2010, after the crash, residential property in high income countries was worth $52 trillion
and commercial property totalled $28 trillion. The spike in US house prices between the late 1990s
and 2007 was the biggest ever since 1890.950 The near global boom in house prices was described by
The Economist magazine as the biggest bubble in history.951

House prices outpaced the rise in incomes, making it increasingly difficult for working people to
afford a mortgage and home ownership. According to consultants McKinsey and Company, given the
gap between house prices and average incomes, 330 million households in developed countries
were unable to afford to buy a decent home in 2014. Much of the problem lay in the high price of
real estate and the unavailability of land for residential development. Nine major cities were key to
resolving the problem of housing affordability: Boston, Los Angeles, Miami, New York and San
Francisco in the USA; and London, Milan, Paris and Rome in Europe.952 (To which one might add
Hong Kong-Shenzhen, Singapore, Moscow and Rio de Janeiro among the emerging market
economies.) Insufficient urban land was being released for housing to meet rising demand. An
average house in London sold for 40,000 in 1983; in 2016 the price was 450,000.953 People on
average incomes or below were being priced out of the housing market. High land and house prices
limited the number of private buyers, so private developers were not constructing enough homes
and local governments and social housing providers were unable to fill the gap. In the UK, a
government commissioned report calculated that 25,000 additional homes were required to be built
yearly by local authorities and social housing providers to help balance supply and demand. In total

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there was an annual shortfall of 67,000 homes for sub-market households to replace homes sold by
local authorities under the right to buy (22,000 a year) and to deal with overcrowding and the rise
in population.954 The UK Housing Corporation, which was backed by government guarantee,
arranged a one billion pound loan in 2016 from the European Investment Bank, repayable over 30
years, to build just 20,000 homes, apparently the banks largest ever loan for social housing.955
However, to meet the social needs for homes, nearly two billion pounds had to be spent each
year.956 It was a level of financing that called for a change of policy direction by government and the
central banks.

The fact is that few investors buy a share in a company, a corporate bond or a security from a bank
and then leave it in a drawer to await the annual dividend payment that it may generate. Shares,
bonds and securities are traded continuously. Professional investors buy and sell this financial paper
(essentially IOUs from companies and banks) in order to make a profit on the difference in its price
in the capital markets. The dividend payable was usually less valuable than the capital gain from
selling the share, bond or security. While share prices were rising, it was easy to sell for more than
you paid. But if the expectations concerning future income streams were downgraded, then the
share, bond or security lost value. This deflation in asset prices following a period of inflation
undermined banks balance sheets and drove them to merge, seek government bailouts or go into
liquidation. One of the biggest investment banks, Merrill Lynch, lost $14 billion in 2007, which wiped
out a quarter of all the profits it had made since 1971, when it was listed on the New York Stock
Exchange. The bank sold some of its mortgage-based securities in July 2008 for 22 percent of what
they had paid for them.957

Moreover, banks traded securities between themselves. This was meant to be a good thing, because
it dispersed the risk associated with the security more widely amongst the community of
professional investors. But once the income streams backing the securities started to diminish or
became less certain, the financial sector as a whole was hit by mutually transmitted contagion.
Several weaker banks were forced to merge with stronger competitors, including Bear Stearns,
Merrill Lynch and Wachovia in the USA, and the Halifax-Bank of Scotland and the former building
society, the Alliance & Leicester, in Britain; at the same time the fourth largest investment bank on
Wall Street, Lehman Brother, went into bankruptcy. These banking collapses prompted generous
bailouts by the US Treasury and the Belgian, British, German, Irish, Spanish and Swiss governments
allowing the banks to off-load their property-based securities onto the taxpayer, and the injection of
government investment into American and European banks. The total state aid provided by
governments to the financial sector between 2008 and 2015 in the EU amounted to over 620
billion, while the US Treasurys troubled asset relief program spent an initial $430 billion.958 The
costs of saving the banks were huge but not only did this avoid an economic depression but the
governments and central banks, acting as lenders of last resort, stood a good chance of being repaid
as the banks returned to profitability.

When Stanley Fischer, once chief economist at the World Bank and later the governor of the Bank of
Israel, described the financial crisis as one of the worst ever at the 2008 Jackson Hole gathering of
central bankers, he was not alone.959 His successor in the World Bank job, Larry Summers also
thought that the West is facing the most serious financial crisis since the second world war.960

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Another economist, Nouriel Roubini, predicted: this recession will long, ugly, painful and deep. And
the credit losses associated with it will be closer to two trillion dollars leading to the most severe
systemic financial and banking crisis since the Great Depression.961 But there was less agreement
concerning the cause and the solutions, although many echoed the words of Alan Greenspan when
he described the stock market boom of the late 1990s as an example of irrational exuberance.962
Professor Willem Buiter, who once sat on the Bank of Englands Monetary Policy Committee, wrote
with apparent relish of the punishment that a market correction would inflict:

Capitalist market economies are inherently cyclical. The private credit system is intrinsically
prone to alternating bouts of irrational euphoria and unwarranted depression. Busts play an
essential role. They clean up the mess created during the boom by inflated expectations,
over-optimistic plans and unrealistic ventures. These become embodied in unsustainable
household debt, productive capacity with no foreseeable use, excessive corporate and
financial sector leverage and enterprises whose only asset is hope. The correction is painful,
even brutal: unemployment rises, as do defaults, repossessions and bankruptcies. []
Financial stability was undermined by thoughtless financial liberalisation, especially in the US
and the UK. Light-touch (really soft-touch) regulation permitted an explosion of opaque
instruments often held by non-transparent shadow banking institutions. [] It will take two
or three years to work off these excesses.963

This problem with this explanation is that it seemed to owe more to psychology than to economics.
According to Buiter, investors just got carried away and placed bets on ever more unlikely outcomes.
He was by no means alone in putting forward this morality tale. Guardian newspaper columnist Ian
Jack opined that booms and bubbles are caused by greed, busts and crashes by fear.964 But why
should this mass psychosis have occurred among people who wanted to make money, not to lose it?
The answer lay in part in the remark by Chuck Prince, at that time the chief executive officer of
Citigroup, the parent company of the giant Citibank: As long as the music is playing, youve got to
get up and dance. Were still dancing.965 There was no reason to stop playing the game whilst there
was money still to be made; the trick was not to be the one left holding the parcel when the market
changed direction. It was, indeed, one giant Ponzi scheme, in the words of Charles Goodhart of the
London School of Economics, in which the banks trading pushed up asset prices for as long as
lending against the collateral of over-valued assets continued to enable yet more trading.viii 966 But
the trading in loans and securities among the banks had already spread the contagion, so once the
music stopped the whole financial sector was left with a slice of the problem.

The funds for speculation were advanced by the super-rich and large corporations. There were over
ten million people in the world with financial assets worth more than one million dollars in 2008.
Their combined assets were valued at $40.7 trillion, and this figure excluded the value of their
homes. Their wealth had been expanding at a rate of 67 percent a year.967 The super-rich often
used professional investors to manage their money. The value of assets under management in the

A Ponzi scheme is a fraud whereby unwitting investors put in cash which is used to pay returns to earlier
investors. The fraud can only keep going if ever larger numbers of dupes are persuaded to invest, usually
achieved by the fraudster offering above market rates of return. The swindle is named after Carlo Ponzi (1882
1949) who was imprisoned in 1920 on fraud charges.

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first half of 2007 in Europe was 5.5 trillion, and world-wide over $1.8 trillion was managed by
hedge funds, who promised high returns from high risk gambles.968 Obviously, the super-rich did not
put all their eggs in one basket: the majority of their wealth was invested in traditional assets like
property, government bonds and shares. Professional investment fund managers also managed the
assets of pension funds or worked directly for big corporations, banks and insurance companies.
Along with the super-rich they were in continuous pursuit of those assets yielding the largest capital
gains. When the banks diversified from lending into brokerage and dealing, their internal culture
changed to become more risk inclined.969 It was this search for yield that led them to speculate in
riskier segments of the global financial market and in the stock markets of developing economies.
Economist Edmund Phelps concluded that speculation drove the crisis and, unfortunately for those
already put out of work, it augured a structural slump of long duration.970

The economic crash that followed the boom in assets and primary commodities sparked debate on
the future of capitalism. The former Italian finance minister Tommaso Padoa-Schioppa (19402010)
said that it was not a crisis within a system; it was a crisis of a system.971 Looking back, Adair
Turner, chairman of the UK Financial Services Authority, thought that the financial services sector
can grow to be larger than socially optimal, with the bits [relating] to fixed income securities,
trading derivatives, hedging, but possibly also aspects of the asset management industry and equity
trading, [growing] beyond a socially reasonable size. In short, some of it is socially useless
activity.972 Lloyd Blankfein, chief executive at Goldman Sachs, echoed Turner, agreeing that some
financial products were socially useless.973 Many progressive commentators called for a reining in of
financially driven or casino capitalism.974

Bank deposits and bonds are savings instruments and the saver has a contract with the bank or
bond-issuer that specifies the rate of interest he or she will receive. There is some risk involved
because the bank or the bond issuer may become bankrupt or fail to honour the contract for some
or other reason. But these contracts are enforceable in the courts, just as the shareholders right to a
share of the companys assets are. There is always some risk associated with any economic activity
and in the case of a debt obligation or bond the risks are priced in, based on the credit-rating given
to the individual or enterprise.

Shareholders may be divided into investors and speculators. They acquire certain rights when they
buy shares, usually permitting them to vote at the annual meeting of the company and elect its
board of directors. Shares are an instrument by which investors obtain power over an enterprise.
Unlike a bond, a share is not a contract and does not specify any particular size of reward to the
shareholder. It is simply a claim on the companys assets. In the event of bankruptcy, shareholders
are at the back of the queue, with employees, suppliers, banks and bondholders ahead of them.975
But in terms of power, shareholders are among the best placed of an enterprises stakeholders to
direct its activities and determine, collectively, the value of the dividend they will be paid. In
Germany employees have the right to appoint some of the directors but almost everywhere else
employees only have a right to be consulted over the enterprises activities and strategy.

Shareholders owning a small number of a companys shares are placing a bet on the stock market
that they will earn more from their purchase of the share than they paid for it. In a rising stock
market this gamble is a relatively safe one. Many of these speculators buy and sell their portfolio of

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shares in the light of information on the companys performance or as a result of tips from investor
gurus like Warren Buffett. Others are professional gamblers working for investment banks and
hedge funds. Investor shareholders try to amass a sufficient number of shares to buy them a seat on
the board or an entitlement to be consulted by the companys management. They seek to use their
shareholding to have a voice in the affairs of the enterprise. As active investors they contribute to
the enterprises development and profitability. The speculative shareholders do not attempt to do
this, preferring to sell their shareholding if they think the company is going in the wrong direction as
far as they (and their profit expectations) are concerned. Essentially, most shareholders are free
loaders and have bought the shares simply to extract whatever profit they can get from the
dividends and from trading the shares.

There are risks attached to shareholding and these stem from two factors. Shares that are quoted on
a stock market may attract a higher or lower price so the shareholder may not be able to sell the
share for the same price or a higher price than he or she paid for it. Secondly, there is the risk that
the enterprise fails and, like a bondholder, the shareholder may receive only a fraction of his or her
outlay when the company is wound up. Shareholders consider that since they are taking a risk with
their money in buying a share they are entitled to be rewarded. The price of a share is usually
compared to its earning potential and it is claimed that there is an in-built risk premium within the
share price. However, this risk premium is a misnomer for the reasons already explained in Chapter
4. In economics there is no justification for rewarding risk. Earnings per share are purely and simply a
reward from profit-taking. To be sure, shareholders take a risk when buying a share, but they can
manage that risk through their oversight of the companys policies. Shareholders ensure that they
receive a reward because they have leverage over the enterprises management and because they
can take advantage of the liberties granted to them by the capitalist system.

From the point of view of an enterprise, issuing shares is a less risky way to raise capital than issuing
a corporate bond. A bond is a promise to pay a fixed amount of interest to the bondholder for the
period until it matures and has to be repaid in full. It is a contract and the interest on the bond and
its full repayment on maturity must be honoured whatever situation the enterprise finds itself in.
Shareholders do not need to be paid any dividend if the enterprise is not doing too well.

The synchronization of the super-cycle arose from the search for yield by the super-rich and the
large corporations and from the investment strategies used by the professional asset management
companies to whom they entrusted their funds. Asset managers advised their clients to hold diverse
portfolios of financial assets as well as buying real estate. The safest financial assets to buy were
government debt: bonds issued by governments and state-owned enterprises and utilities to raise
cash. The safest bonds were those issued by governments with an AAA+ rating from rating agencies
like Fitch, Moodys and Standard & Poors. But even these carried some default risk and there was
also a need to deal with the risk that the money tied-up in the bond would be worth less at the date
when it was repaid as a result of price and exchange rate changes. Bonds issued by governments
with poorer credit ratings and by corporations carried greater risk and those who bought them were
keen to hedge against unexpected price changes if they could. Thus on the back of the rise in
government borrowing there occurred a massive expansion of complementary financial products to

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insure the bondholders against some of the risks from buying bonds. Banks, pension funds and
insurance companies were big buyers of government bonds.976

To insure against default risk, that is, the possibility that the bond-issuer might refuse to pay back
the bondholder, asset managers recommended credit default swaps. A credit default swap worked
like an insurance scheme: the bondholder paid a fee to the counterparty who bought the risk. In the
event of a default or bankruptcy by the bond-issuer or a downgrading of the bond-issuers credit
rating, the counterparty paid the bond-holder a pre-agreed amount of compensation. To some
degree, the yield on a bond already reflected the risk of default by the issuer, but the interest rate
paid to the purchaser of the bond could only take account of the average of the probability
distribution of risks, and some credit events (defaults, bankruptcies, etc.) which carried a low
probability but a high cost were unpriced. Credit default swaps were thus a better way to cover the
bond-holder against the less likely credit events occurring during the period over which the bond
was to mature.977 The counterparties buying the risk of default from bondholders were banks and
insurance companies and from their point of view a credit default swap was a bet on future market
developments. Collectively, then, banks and insurance companies held both the bonds and the
credit default swaps meant to insure those bonds, adding to the sectors overall exposure to the risk
of default rather than reducing it.

Bonds are IOUs that pay a fixed rate of interest for every year until they mature, when the issuer of
the bond repays the money borrowed. As already explained, if financial market players expected a
stable two percent rate of consumer price inflation a year, then this would be reflected in the rate of
interest paid by the bond. It was, however, a stretch to be certain that the money tied up in a five- or
ten-year bond, let alone a 30-year bond, could holds its value in terms of purchasing power over the
whole period. In any case, the commitment by central banks to anchor annual consumer price
inflation at around two percent was based on domestic prices so-called core inflation and
excluded the effect of primary commodity prices traded internationally. If inflation rose above two
percent a year, the value of the money tied up in the bond was bound to be eroded over the bonds
duration. The bondholder stood to receive less value when the bond matured and paid out the cash
invested five, ten or 30 years earlier. To hedge against this, asset managers advised their clients to
buy commodity futures. A forward contract for a commodity was a gamble on the future price the
commodity would command when it was actually sold. Buying forward in a commodity market
meant a bondholder could reduce the risk that the money tied up in the bond would fail to retain its
value in purchasing power terms. Since commodity futures might only be purchased for a period
ahead of months (rather than the years of a bonds duration), linking bonds to commodity futures
involved rolling over the forward contracts regularly.978 With generally rising commodity prices this
was always quite a safe bet.

Foreign currency exchange volatility added yet another set of risks for bondholders. The safest
bonds were those issued by governments with triple A credit ratings: for the decades preceding the
2008 financial crisis, these were the USA, the UK, Germany, France, Japan, Switzerland and so on.
Under the old gold standard, currencies were exchanged at a rate fixed by the currencys mandated
convertibility into gold. Gold is a commodity like many others with industrial and retail value, and
therefore bondholders were assured by law that when the bond matured and they got their money
back it possessed much the same purchasing power as it had when the bond was purchased many
years earlier. During the Great Depression of the 1930s, governments dropped their commitment to

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abide by the gold standard. After the Second World War, the USA reinstated the dollars link to gold
and, under the agreement reached at Bretton Woods, its other major trading partners agreed to
maintain fixed exchange rates with the US dollar. The economic problems facing the mature market
economies in the 1960s and 1970s, however, led neoliberals to advocate a flexible foreign currency
exchange regime. Chief among these advocates for a market-based currency exchange regime was
Milton Friedman, who had published an influential paper on the subject in 1953.979 American
transnational corporations and international commodity traders built up big reserves of dollars held
in bank deposits outside the USA during the 1960s and 1970s (since most commodities were priced
in dollars), which vastly exceeded the capability of the US Federal Reserves own gold reserves. The
Feds promise to freely convert dollars into gold at a fixed parity soon lacked credibility and in 1971
the Nixon administration broke the link.980 Once countries moved to the floating currency regime,
companies and banks found it more necessary than ever to hold stocks of US dollars in order to be
able to trade in commodities. But as economic historian Giovanni Arrighi explained: the breakdown
of the regime of fixed exchange rates added new momentum to financial expansion by increasing
the risks and uncertainty of the commercial-industrial activities of corporate capital. [] Under the
regime of flexible exchange rates, corporate capital itself had to deal with day-to-day shifts in
exchange rates and they turned to the forward currency markets.981 The surge in dollar-
denominated commodity prices began at this time and the foundations for what became a massive
cycle of speculation were laid down as a result. By 1979, foreign exchange trading amounted to
$17.5 trillion on the back of only 1.5 trillion of international trade in merchandise.982 The tail was
well and truly wagging the dog.

Financial asset prices became more correlated as asset managers sold their clients complex products
to manage the risks of buying even relatively safe financial instruments like government bonds. They
encouraged huge purchases of commodity futures as a hedging strategy and indirectly raised the
prices of commodities in the real economy. As the world economy grew, the super-rich and the large
corporations used their profits to buy real estate and financial assets in the mature market
economies, thus pulling up asset prices generally. As their portfolios expanded to include more
exotic financial products the financial sector multiplied the paper it traded. Although it was
considered to be a way to reduce financial risks, the Ponzi-nature of the enterprise in fact created
additional risk to society and to the wealthy strata that profited from the system.

A tax levied on the sale of shares a form of Tobin Tax would have deterred speculative
shareholding and reduced the frequency of share trading by encouraging shareholder to hold their
shares for longer periods and to act more like investors. This type of financial transaction tax is
named after the Nobel Prize winning economist James Tobin in recognition of his 40 year campaign
to tax foreign exchange dealings, which he first proposed in 1972.983 The idea was promoted by a
French campaign ATTAC (Association pour la Taxation des Transactions Financires et pour lAction
Citoyenne), a key player at the World Social Forum. In 2011 the French and German governments
agreed to revisit the idea of levying a Tobin Tax and the European Commission president Jos
Manuel Barroso tabled a plan to tax trades in bonds and shares at a rate of 0.1 percent and on
derivatives by 0.01 percent. The European Commission calculated that this would raise between 30
and 55 billion a year in government revenues. Eleven European Union member states agreed in
2012 to discuss introducing a common system of financial transaction taxation but little progress

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was made, with the UK government challenging the legal basis for such a European directive, even
though it was not to be made mandatory on states.984 France introduced a financial transactions tax
of 0.2 percent on share purchases in 2012 and in 2013 Italy introduced a tax on share transactions
and derivatives of 0.12 percent. Share trading in France was not much affected by the tax, but
volumes went down in Italy.985 The UK had levied a 0.5 percent tax on share purchases since 1694
and the USA had one between 1916 and 1964; so had Hong Kong, Singapore, South Africa, India and
Switzerland.986 These countries experience suggested that the rate of the tax would need to be
nearer two percent of the assets sale price, not 0.1 percent, and levied on the seller of the shares if
it was to deter speculation.

An increasing volume of trading became automated in the 2010s and involved sales of shares and
commodities to secure fractions of a dollar in profit, but undertaken at massive volumes at close to
the speed of light. By 2015, automated trading accounted for half of all trades for metals and energy
futures and 67 percent of trades in futures linked to US government bonds, according to the US
Commodity Futures Trading Commission.987 A Tobin Tax would have eliminated the majority of these
trades between computers.

The financial crisis and the recession it sparked drove several governments (not to mention, banks
and enterprises) towards bankruptcy. In an attempt to stem public borrowing as their revenues fell,
governments cut their spending, which only exacerbated the problems as people lost their jobs. The
economy became even more lop-sided, with proportionately fewer working people carrying non-
contributors, rather than better balanced. Rebalancing the economy called for a change of strategy.
Each economy needed several self-sustaining economic pillars of prosperity within it to restore
overall balance in employment and macroeconomic terms. Large economic areas, such as the EU
and the USA (or, in earlier times, the USSR and the British Empire), could in principle produce all the
goods and services they needed with minimal imports. The planned economy in the USSR was pretty
successful in this regard. But smaller open economies cannot shut their countries off from
international trade. Most countries, like the UK, Switzerland, Japan or Greece, developed robust
economic pillars that provided them with a degree of stability in an inherently unstable and
unbalanced system: oil and gas extraction, manufacturing, retail and financial services, shipping,
tourism, and so on. These economic pillars of the trading section of the economy are not necessarily
sufficient to maintain a macroeconomic balance and full employment and so should be
supplemented by non-trading pillars of prosperity. Any such non-trading economy pillar might have
to be orientated at soaking up the unemployment caused by capitalisms unstable gyrations. It
would make sense to organize such pillars of the economy around public services since these are
provided mainly by citizens to other citizens.

To illustrate the way a fully employed economy with a socialized public service section might work, a
simplified model of the UKs economy is presented, based upon the numbers of jobs (not in terms of
money, which is how GDP is calculated). This makes it easier to see how one persons job depends
upon anothers. It is based on the employment situation before the crisis struck, in 2007, when the
UK was closest to being fully employed (set out at Table 11-1). The adult population is divided into
productive workers (61 percent) and non-productive workers (22 percent), and those who were no
longer working, mostly old age pensioners (17 percent). Staff employed in most types of public

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service are defined as productive workers in the non-trading section. Public administration workers
and soldiers are considered to be non-productive workers. As can also be seen from the table, the
UK economy was operating with a very high proportion (39 percent) of non-productive adults,
comprising some public administrative staff, students, pensioners, disabled people, those on long-
term sickness and unemployed people. (Arguably, financial speculators and non-executive members
of company boards are also performing non-productive activities, but since they derive their
remuneration from the profits made in capital markets they have not been enumerated separately.)
These proportions are shown graphically in Figure 11-A. In the graphic, productive workers have
been further divided into those employed in the trading sector (48 percent) and those whose output
is not traded (13 percent).

Figure 11-B illustrates a more balanced economy without unemployment. Each section of the
workforce makes a contribution to society through their taxes and other state charges. The general
social transfer rate is set at 50 percent. A 50 percent social transfer contributed by those in
productive employment would be sufficient to employ the rest of the population and provide
pensions, benefits and stipends for the retired, those who cannot work and students. It could also
provide the resources to pay a parent a salary so that he or she could be on leave for the first three
years of a childs life or to provide an allowance for carers looking after relatives at home.

For simplicity, students are included among the non-productive workers and paying taxes (in
practice it is a deferred tax to repay the loans that they incur to fund their higher education, and this
assumption could be changed if it was decided to provide higher education free of charge). A large
portion of workers with disabilities could in fact work if the job was designed around them, and are
therefore assumed to be employed. Figure 11-B also assumes there is no foreign trade, again for

Half of the workforce is employed as productive workers in the trading section of the economy, and
50 percent of their income goes towards the employment of productive workers in the socialized or
non-trading section (20 percent of the adult population). They also contribute 5 percent to
pensioners (retirees, the long-term sick and disabled who are unable to work). The 20 percent of
productive workers of the non-traded section are also taxed at a rate of 50 percent to cover the
wages of the 7 percent of non-productive workers undertaking public administration and defence
functions and students; their taxes also go towards providing for pensioners (3 percent). In turn, the
non-productive workers contribute another 3.5 percent to the upkeep of pensioners and to cover an
allowance to carers looking after relatives or small children at home. Pensioners and benefit
recipients are assumed to receive the same after-tax income as other workers (that is, half the
average income of employed people) and so they are not taxed further.

In this model of a partially socialized and planned economy, the proportion of productive workers
expands from 61 percent to 70 percent and non-productive workers comprise just 7 percent of
adults, with the retired and those unable to work standing at 23 percent, but enjoying a higher
standard of living than they would do under a continuation of current neoliberal policies. There
would be no unemployment as everyone who wanted a job but cannot find one in the traded
section of the economy would have been hired to provide public services in the non-traded section.
As a result the public service workforce would be larger than it was pre-crisis (up from 13 percent to

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20 percent). There are many tasks not being fulfilled properly at the moment in the UK, notably in
health and social care, education and law enforcement.

It should also be pointed out that although the traded section supports the non-traded sections
through their taxes and other social transfers, it would be wrong to conclude that only the traded
section creates value. We are all too familiar with the refrain that it is private enterprise that creates
wealth. But a little thought shows how false this idea is. As Figure 11-B shows, the traded section
would lose half its jobs if the non-traded section of the workforce, including pensioners, did not exist
to buy their products. For every sale there must be a buyer and one cannot argue that one is more
necessary than the other.

Nor, given that everyone needs healthcare, security and education, does it makes sense to argue
that we cannot afford social services unless wealth is firstly created by entrepreneurs.988 There is,
of course, a sensible debate to be had around whether or not healthcare, and other public services,
should be socialized and paid from taxation. Public services can be sold, as commodities, just as
beauty treatments or diets are. If so, taxes would be lower but household bills would be higher. It is
a political choice society has to make. In any case, an economy is always a system of mutual interest
and dependency, whether it operates through the market mechanism or according to a plan.

A large pool of unemployment has built up in Britain, including many people on long-term sickness
benefits and pensions who would be able to work if the circumstances were favourable. Providing a
job for a welfare recipient means that the government can transfer part of the social security budget
to education, health care or another budget, thus covering the first part of the wage for the newly
recruited teachers, nurses and other staff. The rest of their wage is an additional cost to the
government but can be covered from the extra taxes raised from all the former welfare recipients
now in employment and from those other people who find decent jobs as a result of the general
stimulus given to the economy by hiring hundreds of thousands of workers.

Lastly, there is no reason in principle why the non-traded section could not be further expanded or
contracted. If a progressive government decided to socialize house building then there would be a
transfer of workers out of the traded section into the public service section. Conversely, a neoliberal
government could privatise part of the health service, and shift workers into the traded section.
These changes will have implications for the social transfer rate. The UK has had a relatively lowly
taxed economy for thirty years. This has meant that the size and pay of the public sector and of
pensioners incomes have been squeezed. With a relatively small increase in taxes overall, the British
people could hire more teachers to reduce class sizes and improve learning outcomes in schools; or
recruit more police to patrol the streets. Job creation would feed back into higher spending and
taxes and the British people would then enjoy a more balanced and healthier economy all round.
The tax and hiring changes would have to be introduced in a sensible sequence to avoid an increase
in government borrowing or a sudden drop in household incomes.

The model presented is a simplification of the employment structure and designed to illustrate a
way of thinking about the economic system. A 50 percent social transfer rate assumes that when
half the salary from a job is taken by the government it goes on creating half a job at the same rate
of pay. For simplicity it is assumed that everyone pays one income tax at a single, 50 percent, rate

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and there are no other taxes levied. In reality, of course, the rich pay a higher rate of tax than the
poor, so the social transfer rate should not be confused with real tax rates. The model could be
adapted further to show how spending by those in jobs supports other jobs (or fractions of jobs),
since the job-holders do not just sit on their after-tax income they spend most of it.

The pre-crisis employment structure of the UK economy was unbalanced, with a high proportion of
non-productive people. (This does not imply that those who had retired or who could not find work
due to structural unemployment or because they were studying were not making a contribution to
society; it just means they were not producing traded goods and services.) The equivalent social
transfer rate implied by the UKs situation in 2007, where there was considerable under-
employment of the available human resources, is estimated to be 53 percent (see Figure 11-C). This
is significantly higher than the 40 percent proportion of government spending in GDP but as already
explained the social transfer rate is a simplifying assumption.989 In fact, it implies that a fully
employed economy could have a smaller share of government spending and taxation than the
unbalanced UK had in 2007. To balance the books, the country must return to being a fully
employed economy, and this, as the model shows, would reduce the social transfer rate.

It is therefore erroneous to conclude that the UK (or any other mature market economy with
persistent structural unemployment) cannot afford to spend more on public services. If such a
strategy had been implemented, full employment could have been achieved within three to five
years by expanding the non-trading section of employment in providing public services to people.
Moving people on benefits into productive jobs cannot be done overnight; it requires education and
training, building additional facilities and installing new systems to manage the operations, and so
on. There would have to be upfront investment financed by government borrowing. For an economy
in recession the task would be harder still. But the choice lies between a continuation of neoliberal
policies and a feasible alternative.

This way of thinking about an economy could be applied to economies at any stage of development.
As a developed country, the UK could eliminate its structural unemployment relatively quickly by
expanding the non-trading section of productive work. A developing country faces greater
challenges and would have to prioritize job creation in the trading section of productive
employment, since the unmet needs in developing countries are for many basic goods and services
that should be provided as commodities. This sort of development strategy cannot secure full
employment except over a period of decades, but this is exactly what many countries have achieved
historically. In the twenty-first century, some of the opportunities that were available to the
European and North American countries in the nineteenth century and to Asian countries in the
twentieth century are no longer available. Much more could be said on this question, to be sure.

The concept presented demonstrates that an under-employed economy is a lop-sided one, and
probably operating unsustainably. Only a fully employed economy which is at least partially planned
can hope to be sustainable and offer a high standard of living to all people. The commodity super-
cycle, asset price inflation, the financial crisis and the subsequent long recession were all
phenomena associated with an unbalanced world economic system. To continue along this path will
be immensely damaging and fundamentally detrimental to working people. Any alternative pathway
must seek to put in place a balanced economy: to find the right balance between employment and
production, between traded goods and public services, and between paid work and domestic work.

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It will never be an easy task but forging a balance in activities will be the key to gaining economic
stability and social cohesion in the twenty-first century.

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Table 11-1: Structure of the UK Employment and Population

Pre-Crisis Quarter 3, AugustOctober 2007
Thousands (rounded figures)
Workforce 41,200 82.8% 41,200 Workforce
Economically Active 33,240 60.6% 30,175 Productive Workers
Agriculture, Energy & Water 630 47.5% 23,620 Employed in Traded Section
Manufacturing 3,205 13.2% 6,555 Employed in the Non-Traded Section
Construction 2,230
Commercial Services 17,555
Public Services 7.980 22.2% 11,025 Non-Productive Workers
Public Administration 1,230 2.9% 1,425 Public Administration & Forces
Education 1,405
Health & Social Work 1,895
Police 285
HM Forces 195
Other 760
Unemployed (Actively seeking work) 1,640 5.0% 2,505 Unemployed (including discouraged jobless)
Economically Inactive 7,960
Students 1,920 3.9% 1,920 Students
At home 2,300 )
Sick 2,250 10.4% ) 5,175 Sick/At home/Retired
Retired 625 )
Other 865 )
Pensioners not working 8,560 17.2% 8,560 Pensioners not working
Adult Population 49,760 100.0% 49,760 Adult Population
Children under 16 years 11,510
Total Population 61,270
Sources: Office of National Statistics, 2009, Social Trends; December 2007, UK Labour Market Statistics.

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12 Keeping to the rules

Gentlemen, Karl Marx told his audience, I am in favour of free trade. Marx was addressing the
Democratic Association, of which he was vice president, in Brussels on 9 January 1848.990 To be sure,
Marxs reasoning did not follow from any starry-eyed expectation that free trade would necessarily
benefit working people, trapped within a capitalist system of exploitation. Even if it resulted in lower
cost imported food, working people might not be allowed to enjoy a higher standard of living
because the employers would seek to reduce wages proportionately, an argument he had adopted
from David Ricardo. The free trade system works destructively [ and] breaks up old nationalities
and pushes the antagonism of the proletariat and the bourgeoisie to the extreme point, he pointed
out. But it also stimulated economic growth, or as Marx put it, free trade increases productive
forces.991 Moreover, it spurred socialists to look beyond the borders of their countries and become
internationalists in theory and in practice. There was no doubt that the joint struggle by liberals and
socialists in Europe to establish democratic nation states which recognized basic rights the aims of
the 1848 revolutions had made gains for working people. Part of that reform package was the free
trade system and through it capitalism was spreading around the globe. Marx realized the
domestic sphere must be the immediate arena for [the] struggle, as he was to write some twenty-
seven years later, but the framework of the present-day national state [] is itself in turn
economically within the framework of the world market and politically within the framework of the
system of states.992 It made little sense, therefore, to spit into the wind.

Free trade increases productive forces. When manufacturers keep advancing, when wealth,
when the productive forces, when in a word, productive capital increases the demand for
labour, the price of labour, and consequently the wage rate, rises also. The most favourable
condition for the working man is the growth of [productive] capital. This must be admitted.
When capital remains stationary, industry [] declines, and in this case the working man is
the first victim. He goes to the wall before the capitalist.993

Marxs attitude would have come as a surprise to those assembled against free trade agreements
and globalization in recent years. The anti-globalization movement managed not only some
impressive feats of mobilization (see box) but a number of significant victories too. The big
demonstration in Seattle in 1999 by the anti-globalization movement gained the mainstream
medias attention and as a result governments decided to put off the launch of the next round of
trade negotiations until another meeting in Doha, where protest could be limited. The so-called
Doha Development Round that began in 2001 eventually broke down amid multiple disagreements
in 2008 and was wound up in 2015.

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Recent international anti-globalisation protests

Birmingham, UK, May 1998 70,000 demonstrators at the G-7 Summit.

Cologne, Germany, June 1999 50,000 demonstrators at the G-7 Summit.
Seattle, United States of America, December 1999 50,000 demonstrators at a WTO meeting.
Washington DC, USA, April 2000 20,000 demonstrators at the IMF/World Bank meeting.
Prague, Czech Republic, September 2000 12,000 for the IMF/World Bank annual meeting.
Okinawa, Japan, 2000 27,000 demonstrators against US Airforce base and at the G-7 Summit.
Melbourne, Australia, September 2000 15,000 at the Asia-Pacific Economic Forum.
Davos, Switzerland, February 2001 1,000 defied a protest ban at the World Economic Forum.
Qubec, Canada, April 2001 100,000 protesters at the Third Summit of the Americas.
Gothenburg, Sweden, June 2001 15,000 demonstrators for a European Union Summit.
Genoa, Italy, July 2001 80,000 demonstrators for the G-8 Summit.
Annemasse, near Lausanne, France, June 2003 75,000 demonstrators for the G-8 Summit.
Cancn, Mexico, September 2003 10,000 demonstrators at a WTO meeting.
Rome, Italy, October 2003 30,000 demonstrators for a European Union Summit.
Gleneagles, Edinburgh, UK, July 2005 225,000 ahead of the G-8 Summit.
Mar del Plata, Argentina, November 2005 10,000 for the Fourth Summit of the Americas.
Hong Kong, China, December 2005 5,000 at a WTO meeting.
Heiligendamm, Germany, June 2007 9,000 at the G-8 Summit.
London, UK, March 2009 35,000 at the G-20 Summit.
Berlin, Germany, October 2015 250,000 against the TTIP between the EU and th