Read Online Fault Lines: How Hidden Fractures Still Threaten the World Economy by Raghuram G. Rajan - Free Book Online Page A
Authors: Raghuram G. Rajan
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machines effectively.
Of course, these complex organizations do not operate in a vacuum either. They need other complex organizations to provide inputs and sometimes to buy their output. Equally important, they need finance, infrastructure—for example, electric power, and transport and communication networks—and governance institutions to provide security to property and life as well as to facilitate business transactions.
The Strategy of Late Developers
The late developers, especially nations that became independent just after World War II, started out with organizational deficiencies similar to those of the early developers. Indian politicians like to recall that when India became independent in 1947, it had to import even sewing needles. 11 Their governments were, however, much more impatient for growth, especially given the expectations of their newly free citizens. Moreover, when they started out, they faced much fiercer competition from firms in developed countries than the early developers had faced initially. In the century or so between when the early developers began industrializing and when the late developers started, the cost of transportation had fallen tremendously, and the extent of potential competition from firms in richer countries was commensurately much higher.
Their strategy for advancement, though, was clear: climb the same ladder the rich countries had done, step by step, moving from the least sophisticated technologies to the frontier of innovation, using low labor costs to stay competitive until technologies improved and the available capital stock, including human capital, increased.
The organizational path was less well laid out. Given that the late developers had little faith that their small and underdeveloped private-sector firms could lead growth at a pace that would satisfy their needs, they had two options: they could create government enterprises to undertake business activity, or they could intervene in the functioning of markets to create space for a favored few private firms to grow relatively unhindered by competition. In either situation, the country’s savings were directed through a largely captive financial system to the favored few firms. Governments also typically protected their domestic market from foreign imports through high tariffs and import restrictions, allowing domestic firms the space to flourish.
The Commanding Heights
Consider first the strategy of creating state-owned enterprises. In a developing country, the government typically is the best-developed organization, apart from the army. It is tempting for it to use its existing organizational templates—often put in place by a colonial power—to create additional departments to manage investment and production. Indeed, Lenin, in a famous speech in 1922, pointed the way (ironically while defending his New Economic Policies, which allowed more freedom to farmers and traders) when he declared that the state must control the most important sectors of the economy—the “commanding heights,” as he called them. 12
Some countries have grown rich from substantial contributions made by government-owned firms—France and Taiwan are examples—but there aren’t many. The fundamental problem with the government’s implementing projects such as building schools, roads, and dams, let alone running complex firms, is that incentives in the government are not aimed at using resources efficiently. The primary role of the government is to ensure that the superstructure that facilitates private activity—including public security, the functioning of markets, and the enforcement of contracts—functions efficiently. Typically, this means a neutral and transparent exercise of power with the public interest in mind, not power that can be bought by the highest bidder. The sociologist Max Weber postulated that a bureaucrat’s rewards should come from long-term career progress, status, and the knowledge that he has
Of course, these complex organizations do not operate in a vacuum either. They need other complex organizations to provide inputs and sometimes to buy their output. Equally important, they need finance, infrastructure—for example, electric power, and transport and communication networks—and governance institutions to provide security to property and life as well as to facilitate business transactions.
The Strategy of Late Developers
The late developers, especially nations that became independent just after World War II, started out with organizational deficiencies similar to those of the early developers. Indian politicians like to recall that when India became independent in 1947, it had to import even sewing needles. 11 Their governments were, however, much more impatient for growth, especially given the expectations of their newly free citizens. Moreover, when they started out, they faced much fiercer competition from firms in developed countries than the early developers had faced initially. In the century or so between when the early developers began industrializing and when the late developers started, the cost of transportation had fallen tremendously, and the extent of potential competition from firms in richer countries was commensurately much higher.
Their strategy for advancement, though, was clear: climb the same ladder the rich countries had done, step by step, moving from the least sophisticated technologies to the frontier of innovation, using low labor costs to stay competitive until technologies improved and the available capital stock, including human capital, increased.
The organizational path was less well laid out. Given that the late developers had little faith that their small and underdeveloped private-sector firms could lead growth at a pace that would satisfy their needs, they had two options: they could create government enterprises to undertake business activity, or they could intervene in the functioning of markets to create space for a favored few private firms to grow relatively unhindered by competition. In either situation, the country’s savings were directed through a largely captive financial system to the favored few firms. Governments also typically protected their domestic market from foreign imports through high tariffs and import restrictions, allowing domestic firms the space to flourish.
The Commanding Heights
Consider first the strategy of creating state-owned enterprises. In a developing country, the government typically is the best-developed organization, apart from the army. It is tempting for it to use its existing organizational templates—often put in place by a colonial power—to create additional departments to manage investment and production. Indeed, Lenin, in a famous speech in 1922, pointed the way (ironically while defending his New Economic Policies, which allowed more freedom to farmers and traders) when he declared that the state must control the most important sectors of the economy—the “commanding heights,” as he called them. 12
Some countries have grown rich from substantial contributions made by government-owned firms—France and Taiwan are examples—but there aren’t many. The fundamental problem with the government’s implementing projects such as building schools, roads, and dams, let alone running complex firms, is that incentives in the government are not aimed at using resources efficiently. The primary role of the government is to ensure that the superstructure that facilitates private activity—including public security, the functioning of markets, and the enforcement of contracts—functions efficiently. Typically, this means a neutral and transparent exercise of power with the public interest in mind, not power that can be bought by the highest bidder. The sociologist Max Weber postulated that a bureaucrat’s rewards should come from long-term career progress, status, and the knowledge that he has
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