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Why Have a Free Economy?

| Opinion by *Eustace Davie

China's economic freedom in a totalitarian state


Our politicians and government officials are taking a great interest in China, which, they seem to believe, is a role model of how high economic growth is achieved in a government-dominated economy.

Their visits to the China of today will not supply them with the information they need to understand why its economy has grown so rapidly. Besides the policies that operate today, they need to learn about China’s history and appreciate the role that Hong Kong played in demonstrating what makes economies and the incomes of the people grow.

In his 1987 book, The New China, economist Alvin Rabushka provided a detailed analysis of economic events in mainland China, Taiwan and Hong Kong, three political jurisdictions with a common cultural heritage. When Mao Zedong’s government took over control in mainland China in 1949, after 12 years of devastating war, the party planners were beguiled by the forced industrialisation taking place in the Soviet Union under Stalin’s rule. Emulating the Soviet model, China’s first 5-year plan, with extensive government involvement, produced a satisfactory increase in economic performance. Encouraged by the results, Mao launched the so-called Great Leap Forward in 1958, with even greater government direction of the economy.

Communist party officials attempted to direct every aspect of life in the country. Economic activity became increasingly disrupted as equity displaced economic growth as a party objective. Economic planners encountered numerous difficulties. As decisions of planners replaced consumer demand as determinants of production and supply, structural defects appeared including (1) surpluses of goods consumers did not want and shortages of those they did (2) no way of collecting information (3) the absence of labour markets (4) low incentives (5) lack of entrepreneurship (6) misallocation of resources, and (7) political interference in economic organisation.

The results of bureaucratic and political dominance of the economy were catastrophic. Grain output declined 20 per cent by 1960, which caused widespread famine and cost the lives of an estimated 30 million people between 1958 and 1962. The annual rate of improvement in industrial production fell from an average of 18 to 3.8 per cent during that time. From 1966 to 1976, prices and wages were frozen and policy veered from liberalisation to extreme centralised controls with the ultra-leftist radicals known as the Gang of Four (which included Mao’s wife, Jiang Qing) ending up in control at the time of Mao Zedong’s death in 1976. Mao’s death brought down the ultra-leftists and the imprisonment of the Gang of Four.

Deng Xiaoping’s became the new leader and under his direction, China, in 1978, announced its Four Modernisations campaign, which included a variety of liberal rural and industrial reforms. By that time Deng had consolidated political power and set in motion reforms that allowed market forces to operate and start to reduce the role of the state in China’s economy. In October 1984, the Central Committee released an official report on “Reform of the Economic Structure”. The report frequently used terms such as the individual economy, the market, competition, the rule of law, and enterprise economy. It also stated that some people must become rich before the lives of others will improve.

A report in the party’s official newspaper, People’s Daily, announced that orthodox Marxist theory was outdated and could not solve the problems faced by modern China and that policy no longer required slavish adherence to the ideas of Marx, Engels, Lenin, and Stalin. In a speech in 1985 Deng said, “I am afraid that some of our old colleagues have this fear; after a generation of socialism and Communism, it is unacceptable to spout some capitalism. It cannot harm us. It cannot harm us.”

China went on to create some of the freest economies in the world. Zones within its borders were fashioned on the example of Hong Kong, for many years the most economically free territory in the world. Hong Kong did not become free and prosperous by accident, nor did China’s special economic zones start showing spectacular growth without the adoption of deliberate policies designed to bring about wealth creation.

Hong Kong had traditionally followed a liberal economic and conservative fiscal policy. It adopted an even more liberal policy of “positive non-interventionism” under the guidance of Scottish economist John Cowperthwaite, who was appointed Financial Secretary of the colony by the British government in 1961. This policy of deliberate non-intervention in the economic lives of the people of Hong Kong led to remarkable economic growth. According to Rabushka, “The official view held that reliance on market forces brought the greatest measure of economic efficiency in the allocation of resources. Nor did the government try to dictate the structural development of the economy; in the sharpest possible contrast with the central planning in mainland China, the government let individuals freely direct their resources to those areas of economic activity that yielded the highest return. It made no effort to plan for or favour any particular type of development”.

Hong Kong’s real GDP grew at about 7 per cent per annum from 1948 to 1960, accelerating to an annual average of 9 per cent between 1961 and 1981. In a 1998 article, economist Milton Friedman reported that “in 1960 ... the average per capita income in Hong Kong was 28 per cent of that in Great Britain; by 1996, it had risen to 137 percent of that in Britain”.
A comparison between the per capita GDP growth rates of South Africa, Hong Kong and China for the 50 year period 1960 to 2010 is instructive. GDP per capita (constant 2000 US$) growth was, SA $2,204 to $3,748 = 1.01% p.a., HK $2,968 to $35,671 = 5.20% p.a., and China $105 p.a. to $2425 = 6.48% p.a. The significant differences in average growth rates achieved over the 50 years are directly related to the nature of the economic policies and direction of change followed in the three economies. Hong Kong and China have deliberately liberalised their economies and SA has not. The enduring economic freedom status or direction of change in an economy is paramount: Hong Kong remains 1st on the Economic Freedom of the World rankings, China at 92nd has remained steady and gradually improved over the past two decades and SA has slid from 42nd to 87th over the past decade.

If the SA government wishes to bring about economic growth, reduce unemployment and rapidly increase per capita incomes, the prescription is clear. Reverse the trend towards a less free economy. Follow the Hong Kong formula of positive non-intervention. Don’t limit it to special zones, as in China, but apply it to the whole country. Take credit for the spectacular growth that will follow.

* Eustace Davie is a director of the Free Market Foundation.

Source: www.freemarketfoundation.com