This is a contentious issue, so it is worthwhile considering first what is on offer.
This approach can be summarised by the following: the economy works best if it is allowed to run its course with as little interference as possible. When people follow their own economic interests, the economy is spontaneously regulated by its ‘natural’ laws. The best way to take care of the economy is to leave individuals alone to take care of themselves (hence laissez-faire). If something goes wrong, it is because the state gets in the way. The system corrects itself, so interventions are not helpful.
This has been a prevailing view in recent decades and there is no doubt that it has a certain appeal – that is, if it works. Let’s examine some of those laws that are supposed to regulate the economy. The invisible hand (coined by Adam Smith) is arguably the oldest and best known. There are two issues here:
- Can the invisible hand really regulate the market?
- Even if it could, would it be really good for society at large?
Let’s start with the first question. The invisible hand should work best with small businesses (this is what Adam Smith had in mind) and yet, after all these years, we still have cowboy builders or plumbers who do shabby work, overcharge, etc. Why haven’t they been rooted out by the invisible hand? This is because the invisible hand requires ideal conditions to work well, but in the real world conditions are never ideal. There are many other factors, beside the ratio of the price and the quality, that matter, such as location, convenience, distance, available information, and so on. If we rarely need something, or the quality of a product/service becomes apparent only later (as in the case of pension plans, for instance) it is hard to make comparisons. So, we rely on other means to help us choose, such as advertising – and advertising may be misleading. If there is sufficient demand, the invisible hand can even be turned upside down, leading to the equilibrium of bad work or a ‘race to the bottom’.
There are also all sorts of advantages that one producer can have over the other. Producers and service providers can lower their prices and kill the competition by cutting corners in ways that are not easily spotted. This gets far worse in complex systems and when corporations are involved. A small or a new company may have a better product, but not enough resources to compete (as a big company can afford to run a business at a loss in some areas until it kills local competition). Such distortions cannot be eliminated solely by the invisible hand. Furthermore, competition logically ends in monopolies, which Adam Smith was so against: when the ‘best’ wins and drives others away, what will secure the maintenance of good quality relative to the price?
There is also a deeper issue here that cannot be ignored. Even if the invisible hand were capable of regulating the market perfectly, this may not necessarily be good overall, for several reasons. The market and economy are important but there are other aspects of human life that also matter (usually called externalities by economists). For example, imagine a supermarket that has been opened in a rural town. It may well ‘win’ according to the invisible hand, as it can offer lower prices and greater choice than small, local producers can offer. But it may have many negative effects on community cohesion, the beauty of the town, and other industries such as tourism, not to mention an increase in pollution and noise. This is important, because while the market and the economy are means to an end, factors such as health, happiness, development, spirituality, beauty and social harmony are ends in themselves. So, if a means does not serve these ends well, it loses its meaning. Otherwise, people serve the invisible hand, rather than the other way around. We can draw an analogy here with the positive feedback that appears in electronic sound systems (the screeching noise that is produced when microphones pick the sound of their own speakers and send it back through the same speakers). Nothing is wrong with the equipment – the screeching is the result of the natural laws – but we need to interfere with the additional technology to correct it and prevent such undesirable outcomes. The same applies to the ‘natural’ laws of economics. Even when they work well, they do not always produce desired outcomes.
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The invisible hand, of course, is not alone in this respect. Let’s consider other ‘natural’ laws that are supposed to regulate the supply and demand of the workforce. An idealised version goes something like this: the economy has a tendency towards equilibrium. So, if the supply of workers is greater than the demand, wages drop. This, however, makes employing more workers affordable, which leads to an equilibrium. The opposite applies too: if demand is greater than supply, wages grow and businesses tend to employ fewer workers, reaching equilibrium again. However, this hardly works in complex economies, for a number of reasons: business owners may conspire to keep wages low; they may outsource their production; and, most commonly, they may invest their capital in the stock market or property speculations that yield quicker and more lavish returns, so you may have low production and low wages (and high unemployment) at the same time.
But it works in nature, doesn’t it? Nature – itself a complex system – is self-regulating. Animals and plants take care of their own survival and reproduction and nature appears spontaneously to be in relative harmony and equilibrium. The main problem with this analogy is that human activities, including the economy, are largely not natural. The economy is a product of human civilisation that has extraordinary layers of complexity. Let’s take an analogy: if lions eat too many gazelles, the population of gazelles goes down but so does the number of lions, as there are fewer gazelles left to feed on. This is called dynamic equilibrium and neo-classical economics is based on this notion. However, economic processes cannot be reduced to it. If lions could eat vegetables too, diversify their ways of obtaining food by using weapons, import gazelles from other parts of the world, buy a gazelle for pieces of paper, or make other lions hunt for them, there would not be equilibrium in nature.
This takes us to another reason why we should be cautious about using nature as a justification or even as a guide for economic practices. In order to appear scientific, mainstream economics banishes ethics from its textbooks as it is not part of the natural world. Nature is neither moral nor immoral – it is amoral. When an organism penetrates another to lay its eggs inside, keeping the host alive but in a docile state till the eggs hatch, this is not immoral. When a virus alters the brain of a mouse so that it starts liking the smell of a cat in order for the virus to move into a cat’s body, it is not immoral. Species do these things because they have to, they don’t have a choice. We, however, do. As amply evidenced throughout history, humans are capable of doing horrendous things to each other (and to other species) but they do not have to. We have a choice to do things differently and survive. Therefore, by our human nature, we are not amoral, but moral or immoral. So, ethics cannot be taken out of the equation, and those economists who do so are cutting off a fundamental feature of what we are. Our political and legal systems, as well as our personal and social lives, take into account moral responsibilities and it does not make sense that economics and the economy can ignore them.
Empirical support for the bottom-up approach is very weak too. The golden age of capitalism in the West (roughly the three decades after WWII) was defined by so-called mixed economies. In other words, capitalism was most prosperous when it moved away from the bottom-up approach. Furthermore, after a certain point, the more a market is left to itself, the less it serves society. Available data throughout the last few centuries indicate that when businesses are left alone, wealth does not trickle down. When the aphorism ‘a rising tide lifts all boats’ is used, it is forgotten that this benefits only those who already have boats, and that big boats can easily sinks small ones. There is no reason to think that such a trend would suddenly be reversed and help society flourish if the economy was left alone completely. Most likely the opposite would happen: the fabric of society would disintegrate, with a few rich people separated from the vast majority of the poor, as depicted in many dystopian works of fiction. We are now perilously close to that point. Since the role of the state was massively reduced after the neoliberal counter-revolution, the gap between the market ends and the social ends keeps widening. As Karl Polanyi argues in his still relevant book The Great Transformation (1944), the market is based on an a-historical myth; it is portrayed as universal and inevitable either for ideological reasons or from a failure of the imagination. In reality, the market is affected by non-economic factors and embedded within a host of complex social institutions and practices. The move towards a society in which the market is dominant tends to erode the social institutions on which the market depends. So, the ultimate extension of the market threatens very conditions on which it relies.
This is not to say that the bottom-up approach should be dismissed. The contribution of this approach to economy can be great, but we cannot put our faith in it alone. it is only natural that society wants to have a say about where the economy is going and regulate economic processes when they go against its own best interests, which takes us to another, the so called top-down approach.
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Top-down approach (planned economy)
In essence, a top-down approach means attempting to run the economy rationally, in a planned way. Top-down economics is out of fashion, especially since the collapse of the Soviet Union, which had adopted this approach (its economy was run from the top, usually in blocks of five-year plans). The critics of the top-down approach often brush aside the fact that the Soviet economy was remarkably successful for a while. It achieved probably the fastest economic growth ever (only rivalled by that of another communist country in recent years – China). There are many factors that contributed to this steep rise in GDP. For example, the emancipation of women under the communist regime meant that most of them would take employment, reducing dramatically the average number of children per family from 5–7 to just 1–2. So, the population dropped, pushing GDP up. Nevertheless, the top-down approach definitely played its part. Rational planning of the economy and having the power to put this into practice can have dramatic and rapid effects.
The trouble was that in the Soviet Union economic planning gradually stopped being rational, but identifying a planned economy with its failure is little more than propaganda. Planned economies were also successful in the West and the Far East. The evidence for this is the rapid growth of South Korea and Japan, whose economies in the transition periods were very much planned and top-down (although they were not communist countries). In Japan, the state controlled the economy via a few families who ran the major corporations (as family businesses); in Korea, an army general was put in charge of developing the steel industry top-down and was very successful (contrary to the advice and expectations of the IMF and the West). After WWII, the lives of many British people improved dramatically due to educational reforms, free health care and affordable housing, even if their country lost it empire and was very heavily squeezed by debt repayments to the US. This was mostly due to nationalisation and the top-down approach of the post-war Labour government.
But, if this approach is so good, why have so many planned economies ended up badly? The critics of the top-down approach are correct in saying that it has its limits:
- A lack of flexibility and adaptability: planned economies tend to collapse under the weight of their own success. Success makes decision making inert, repeating more of the same, and sooner or later more of the same is no longer any good.
- There are limits to human rationality (especially if you eliminate the best qualified people in purges or ‘cultural revolutions’), so mistakes are made. These mistakes are amplified when implemented on large scales.
- A loss of motivation and the race to the bottom: when agriculture in the Soviet Russia was re-nationalised, production grew for a while but then started to decline steadily as people lost motivation. If someone who works less than others gets the same reward, or if any surplus is taken away, it makes sense to save energy and do less.
- A growing bureaucracy becomes parasitic and self-serving which, in time, erodes economic vitality.
- A top-down approach often leads to disconnectedness from the real world, creating a peculiar form of corruption: as you could be arrested (in the Soviet Union) or lose power (in post-war Britain) unless you showed results at least on paper, responsibility for not achieving planned targets could be avoided by faking the data. Communist economies, in particular, were driven by projected results without paying sufficient attention to what was happening on the ground.
To summarise, the top-down approach can be extremely useful. After all, a planned economy is at the heart of hard-core capitalism too, although on a corporate rather than state level (practically all big businesses have their four- or five-year plans). However, history teaches us that it is not a good idea to rely on this approach alone.
The even-level approach
If the economy is left to the market, there is a real danger that the whole society may end up as a plutonomy (ruled over by oligarchs). There is also a danger if the economy is wholly left to the care of the state. But what if it’s left to the people? This is the true meaning of communism (Marx was very much in favour of abolishing the state). Probably the closest example of an economy being run by people was kibbutzim in Israel (and possibly some communes). They really functioned well for a while in a quite harsh environment, but they seem to be going out of fashion and are slowly declining (as communes do too). There may be several reasons for this:
- They seem to operate well only on a small scale – as soon as they start growing bigger, some forms of corporate and/or state structures seem necessary.
- Individualism has to be suppressed to some extent when the economy is run by a group, which has negative effects on economic diversity and creativity, and people don’t like it. The ‘tyranny of the majority’ can be a real problem.
- The knowledge and expertise of experts are sometimes undermined, leading to ill-informed decisions or not being well prepared for challenges.
- Decision making can be very slow and cumbersome, unless there are pre-set stringent rules, but then who sets these rules?
However, we should not throw the baby out with the bath water. The even-level approach can play an integral part in running the economy, but it too is unlikely to be sufficient on its own, especially on a large scale. Not surprisingly, a mixed approach is adopted in most countries, so let’s turn to that one.
The vast majority of countries in the world are already mixed economies (including the US). There are virtually no states that allow the economy to be run completely bottom-up, and there are very few that fully control the economy. However, the actual mix in a mixed economy can vary enormously. Using a broad brush, three categories of mixed economies can be discerned, recognising that there are many nuances and grey areas between them:
- Mixed economies in which the state prioritises cooperation with business (especially the corporate and financial sectors) over people. The primary role of the state in these economies is to control inflation (as those who have a lot of money have more to lose if inflation is high), while unemployment is only a secondary consideration by far. In fact, big businesses prefer this to a pure bottom-up model, as this is effectively socialism for the rich: the state provides security (i.e. the army and the police) and the businesses can be bailed out and receive many other benefits in times of crisis, while in good times they can move their spoils to safe-havens. This has been the model in the US and the UK since the 1980s. Despite ample evidence that it doesn’t work, it is still sold to the electorate using the ‘trickle down’ narrative (Trump and the Republicans used this argument to popularise their tax-cuts, whihc were mostly for the top 1%). It may be worth mentioning that Adam Smith himself was against such a system and would be dismayed to know that his work is used to justify it.
- Keynesian mixed economies, in which the state prioritises people, as they are not only workers but also consumers. The main role of the state in these economies is to control unemployment rather than inflation. So, in a time of crisis, money is pumped into the economy to create jobs, which is supposed to revive the economy as people with paid jobs also spend. This used to be the favoured approach in the US (the New Deal being an example) and in the UK from the 1930s to the 1970s, and represented the most prosperous period in capitalism. However, it collapsed in the 1970s when its economic machine seemed to fail.
- Mixed economies in which the state, businesses and the people cooperate. This type evolved in so-called social democracies, notably Scandinavian countries. In Sweden, for example, the state, businesses and unions often make major decisions together (sometimes unions even vote to decrease the wages of their members if this is deemed the best collective course of action). Although some of these countries had their own financial crises in the late 1980s and 1990s – after their attempts to follow the fashion and deregulate financial markets, they avoided or felt less strongly many other crises that shook the rest of the world. Arguably, this model has been successful for the longest period of time. The standard of living is still higher on average than in countries with different economies, and the population is generally more satisfied. Their economies have already been evolving away from hard-core capitalism, which has put them at loggerheads with the dominant neo-liberal paradigm and its political allies (most Americans would not even recognise these as capitalist). For this reason, some compromises have to be made (for example, unsustainable growth is still chased, with the result that they often aggressively compete abroad). So, these countries seem to have one foot in capitalism and the other in post-capitalism Right now, these two feet are growing ever-more apart, and it is uncertain which one will prevail.
The Synthesis Perspective
It seems clear from the above that some sort of triangulation between the state, business and people is the way forward. However, as the new, evolving economy grows in complexity, such a triangulation will be at risk of becoming imbalanced. To avoid this, we need to make some seeming opposites work together and act as checks and balances for each other. We have particularly these three in mind:
The top-down and the bottom-up approaches: as Ha-Joon Chang points out, “…the question is not whether you plan or not. It is about planning the right things at the right levels.” What the right things and right levels are can be only determined from feedback on the ground. This requires indicative rather than rigid planning, which is already practiced in some countries: it involves the government setting broad targets concerning key economic variables (e.g. investments in strategic industries, infrastructure development, exports, etc.) and working with other sectors to achieve them. This is not about the state trampling spontaneous economic processes but about the need to moderate them, because they do not operate under ideal conditions and they are insufficient when the economy is seen in context. For example, the demand for public transport or post office services in remote areas may be relatively low, but those services are still vital for the survival of local communities. So, if such services are in private hands, the state may need to intervene (by subsidies, tax breaks, or other incentives).
Individual and common interests: It is really difficult to see how these interests can be balanced if they are seen as opposing forces. Thankfully, the dichotomy between individual and common interests is, in essence, false. After all, individual interests depend to a large extent on the common interest (every individual needs a natural and social environment in which to thrive) and ‘common’ implies a number of individuals without whom it cannot be. From this perspective, individual interests are advanced (economically speaking) to a degree that they contribute to the common interest, and the common interest is advanced to the extent that it contributes to individual interests. The only caveat is that the common interest needs to take into account not only humans but also the natural environment, as this is in the interest of all. This dimension requires cooperation between various agents who represent those affected by economic decisions (individuals, communities, businesses and the environment). How this can work out in specific cases (such as taxation, for example) will be discussed in the following chapter.
Theory and practice: the above two can go a long way, but they are not enough. We also need to balance theory and practice. This means recognising the value of grass-roots initiatives and projects (which are largely experiential and experimental), as well as the value of theoretical models and formulations created by those who are independent from other players and interests. This is important for several reasons: theoretical models need to be not only rationally but also empirically based (i.e. based on observation); we have already discussed how badly economics can go wrong if this is neglected. On the other hand, grass-roots projects are usually local but, due to interconnectedness and often complex consequences, they need the larger picture; history is full of examples of well-intended projects that have been short lived or have even done some long-term harm simply because they have been too naïve (hippy communes is one such example). Theoretical work and models can also bring together, in one place, innovative projects, experiments and good practices and see if they can be disseminated, transferred or generalised, so that others can benefit from them too. The work of Geoff Lawton, one of the leading figures in the permaculture movement, is a good example of successfully combining these elements. A Finnish miracle too is in part the result of this type of cooperation. There is little doubt that we all can benefit if theory and practice cooperate and moderate one another.
In a nutshell, two factors are crucial to enable smooth cooperation across these three dimensions: listening and observing, which enable evolution through corrective feedback loops, and transparency, which enables listening and observing.
 Some dismiss the claim that China is a communist country because it incorporated some elements of a market economy, but it is still a centrally planned economy with a matching political system.