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Economics: Comparative Economic Performance

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  • Type: Video Tutorial
  • Length: 12:17
  • Media: Video/mp4
  • Use: Watch Online & Download
  • Access Period: Unrestricted
  • Download: MP4 (iPod compatible)
  • Size: 131 MB
  • Posted: 03/29/2010

This lesson is part of the following series:

Economics: Full Course (269 lessons, $198.00)
Economics: International Focus (25 lessons, $43.56)
Economics: Transition Economies (4 lessons, $7.92)

This video lesson looks specifically at cases from history which highlight the distinctions between free-market and centrally planned economies. We'll look at comparative and relative economic performance over time for these different approaches in this video lesson. Taught by Professor Tomlinson, this video lesson was selected from a broader, comprehensive course, Economics. This course and others are available from Thinkwell, Inc. The full course can be found at http://www.thinkwell.com/student/product/economics. The full course covers economic thinking, markets, consumer choice, household behavior, production, costs, perfect competition, market models, resource markets, market failures, market outcomes, macroeconomics, macroeconomic measurements, economic fluctuations, unemployment, inflation, the aggregate expenditures model, banking, spending, saving, investing, aggregate demand and aggregate supply model, monetary policy, fiscal policy, productivity and growth, and international examples.

Steven Tomlinson teaches economics at the Acton School of Business in Austin, Texas. He graduated with highest honors from the University of Oklahoma and earned a Ph.D. in economics at Stanford University. Prof. Tomlinson's academic awards include the prestigious Texas Excellence Teaching Award given by the University of Texas Alumni Association and being named "Outstanding Core Faculty in the MBA Program" several times. He has developed several instructional guides and computerized educational programs for economics.

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We have been talking about the distinction between free market economies and centrally planned economies. But, rather then persist in theory let's talk now about history. The 20th century saw a huge experiment in central planning as several large and important economies turned away from market driven allocation of resources towards central planning.
What happened? Well, Karl Marx believed that the communist revolution would start in mature capitalist's economies. And, yet, in 1917 the first really important communist revolution occurred in a futile agrarian state, Russia. Now, Karl Marx left relatively little detail about how a communist state should be run. But, the Bolsheviks, who took power in Russia, had their own ideas about how to move from a system characterized by the centralized competition to one characterized by central planning. They believed, first of all, that it would be effective only if capital were nationalized. That is, if land and tools were owned by the collective and by the state so that the profits of enterprise were owned by the government and could be distributed equitably among the people in the society. And, remember the Bolsheviks really believed that their way of running the economy was going to raise the standard of living for Russians.
Now, as the 20th century unfolded more and more economies came under the sway of this idea. First of all, Russia consolidated Central Asian and Eastern Europe into the Soviet Union. Then the Chinese communist revolution occurred in 1949 so that China became a communist economy of its own, then Cuba in the 1950s. So, that by the 1950s and 1960s we had this experiment running in the world with some economies on the planning track and others on the laissez-faire free market track.
Well, what happened? First of all, let's look at growth rates. In the 1950s and the 1960s the economy of the Soviet Union grew at an annual rate of five or six percent. That was comparable with the growth rate in capitalist economies. In the 1970s the growth rate slowed to about two or three percent annually and in the 1980s one or two percent. And in the 1990s the economy of the former Soviet Union actually shrank at an annual rate of four percent.
So, what we see then is declining growth rates in the countries of the Soviet Union and the former Soviet Union as the 20th century comes to a close. But, on the other hand, growth rates in the rest of the world were also slowing in the 1970s and the 1980s. So, what's the difference? Well, the most important difference is that things in the Soviet Union began to become very difficult because of the lack of incentives for people to produce goods of high quality. What happened in the countries of the former Soviet Union is that first of all, the government was taking a huge chunk of the resources of the economy to take care of national defense. In the countries of the former Soviet Union there was a heavy commitment to expend it from military goods taking 15 to 20 percent of gross domestic product. While in the United States only six percent of GDP was being devoted to national defense.
So, people in the Soviet Union were poor to start with. The per capita GDP was lower. Plus, they were giving up a larger share of their output to keep the military equipped. And, of course, because of the tensions between the capitalist world and the communist world there was always the possibility of military conflict. And the Soviet Union felt it necessary to stick with the arms race, which took a bigger and bigger share of its budget. Meanwhile there is a lack of incentive on the part of individuals in the economy to produce high quality goods and services, because they are not being coordinated and motivated by the price system. But rather by the central planner, which as a rule didn't give people as much incentive as the opportunity to make profits did.
The next thing you wind up with is shortages occurring both in consumer and capital goods in the Soviet Union. There are line that people have to stand in t get stuff because there is not enough stuff made because the price mechanism isn't working freely to guide the allocation of resources to goods that people really want. The central planner got it wrong a lot of the time. So, there were shortages of things that people really wanted. And, non priced competition, that is, standing in line, finding people who can get you the goods at some price, that is the informal market or the black market, begin to take a lot of resources of the economy. This stuff isn't taxed the government then has to work harder to get resources for military spending and that creates some problems.
Technology was a decade behind the technology US, Europe and Japan because people in Russia just didn't have anything to invest in their technology because they didn't own it. Their motives came from winning prizes or the fear that the government would fire them from their job as scientists. Not from the opportunity to own a share in something that they created that might be valuable. Therefore, the incentives to produce high quality innovation were just lower. Black markets developed from many products. And, finally, this two-class society emerged in which communist party members and the people who were really especially valuable to the government and its objectives got very, very great rewards. Whereas, other people persisted in poverty which created all kinds of social strain.
So, meanwhile there was low agricultural productivity, which produced a drain on foreign currency. The Soviet Union has all of this productive land and yet people didn't have an incentive to cultivate it and sell the products for export to create the foreign exchange that could pay for imports of capital goods and other things that the Soviet Union needed. So, the economy was just in trouble. And, the standard of living of people began to slip further and further behind the rest of the world. And, the government scrambled to keep up in the arms race at a time when overall gross domestic product was not growing rapidly.
By the late 1980s the dissatisfaction with the communist system produced Mikhail Gorbachev, a leader, who believed in glasnost and perestroika, a warming, an opening of the Soviet Union towards the ideas of the West. And the spirit of the age was that central planning had failed the people of the Soviet Union. And that indeed, perhaps replacing planning with the market would increase the standard of living and create more hope in the economy. So, Mikhail Gorbachev began to lead his country into an experiment in which market forces would be allowed to shape the country rather then relying on central planning. The first step was to privatize state owned factories. And, give the people of Russia an opportunity to own shares in their capital. The belief then that ownership would lead people to make decisions that increased the value of tools and created more profits was the belief that coordination motivation could come more effectively from the market then it could from a central planner.
Now, what happened after this was a period of profound upheaval. That is, in Russia now that the state ownership of factories had been relinquished the government no longer could rely on the profits of its state owned businesses to finance government spending on defense and roads and bridges and stuff like that. So, Russia turned then to printing money to pay for government spending. The excess of government revenue over taxes taken in was covered by printing money. And think there was not a well-organized system of tax collection the government had to lean heavily upon money printing to pay for its expenses. This sparked rapid inflation of the ruble. Prices began to go haywire. At a time when prices were being deregulated and allowed to be set by the interaction of supply and demand rapid increases in the supply of rubbles caused prices to rise due to inflation. And, people became very confused. Why are prices going crazy? Oh, this must be because of capitalism.
Now, remember this was occurring in a country where there were not a lot of democratic institutions. There were not well functioning banks, there were not institutions for property ownership. There were just simply not the institutions that support capitalism that we all take for granted living in the United States. Therefore, we've got all of the law of the jungle. All of the wild energy of a free market laissez-faire economy loose in a country that doesn't have the institutions to support it.
So, institutions began to arise on demand. One of them being the Mafia, the mob. After all, the mob will offer you some protection. It will protect your car, it will protect your person, it will protect your building and since we don't have a police force and a system of property rights people were turning to anyone they could to protect themselves and their investments. So, the Mafia became kind of law and order on demand for the highest bidder.
See, this is the problem. If you turn market forces loose in a country without institutions then you get all kinds of weird things happening. We would have the same thing in this country if we hadn't a well-organized system of property rights. The pressure of competition is the free market would lead to a demand for law and order just like there is a demand for ice cream. And, the Mafia would arise to provide protection to people who could afford it. So crime, organized crime in particular went kind of crazy in the Soviet Union in the early years of the 1990s.
What happened to economic growth? Well, it tanked the growth rate of the countries of the former Soviet Union in 1991 was negative 13.0 percent. And, negative 19.0 percent in 1992. And the numbers were negative until 1997 when there was a growth rate of one percent. But, then the following year financial turmoil in Russia lead to a growth rate of negative 5.0 percent. And, the inflation rate went nuts in 1992. The inflation rate was 1,353 percent at an annual rate. That is a crazy increase in prices because the printing of rubles was just out of control.
Now, what can we say about this? If you look at the countries that made the transition out of the eastern block. That is, from Soviet communism to capitalism, because the Czech Republic had a negative growth rate of 7.0 percent in 1992, but a positive growth rate of 5.0 percent in 1995. So, the Czech Republic seems to be making the transition in an orderly way. But, think about the Czech Republic is a country that has a history of having had institutions that make it easier to do business in that country. Whereas, Russia didn't have that because they went from the feudal agrarian society to centrally planned communism. Where the Czech Republic had a history of being a capitalist country before it fell under Russia's influence after World War II. Hungry had a negative growth rate of 4.0 percent in 1992 and a positive growth rate of 1.5 percent in 1995. And the stories go on.
Well, what do we learn from this? Do we learn then that capitalism is a triumph and communism is a failure? Well, I think in same ways that conclusion is simply too simplistic, because we have lots of central planning even in capitalist countries. A firm is a centrally planned economy. There are all kinds of examples in which we don'' let the free market have full sway over the allocation of resources in an economy. But it does seem to be the case that the biggest experiment of the 20th century, which is Russia's experiment with communism, failed to give people a standard of living that was comparable to other countries with similar resources as we enter the 21st century.
Now, it may be that communism was still the best that Russia could do, who knows. But, communism still subjected the Russian people to all kinds of abuses and horrors because of the concentration of power that it produced. But, if we go too far down this line we inevitably get into propaganda. I've got my capitalist propaganda because I was raised in a capitalist country. And, I can have an argument with someone whose got a communist background and we're just going to be trading prejudices.
But, if we look at the facts what we can see is that in the Soviet Union central planning did create problems for that country. It slowed its growth rate and that the transition to a capitalist economy is still underway often with painful stops and starts as the people of Russia try to develop the institutions that support the free market exchange of goods and services.
International Focus
Transition Economies
Comparative Economic Performance Page [3 of 3]

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