Illiberal Capitalism

In the past decade we have seen the emergence of the new global economic powerhouses- China, Brazil and Russia. The general consensus amongst political scientists is that these developing nations will gradually evolve into the Western model of a liberal capitalist economy. However, contrary to this belief, it seems that China, Brazil and Russia, to different extents, have adopted an economic model based on state, rather than liberal, capitalism. This new form of state capitalism has created vast state-owned enterprises which pose viable competition to private Western enterprises. This hybrid of state and private sector control is certainly an effective means for developing nations to play catch up with the West- but will this model provide the sustainable economic development that these countries ultimately need?

State capitalism refers broadly to an economic system based on capitalism where large corporations are either wholly or partly owned by the government. The model is not a new phenomenon- for the most part of the 20th century Western economies heavily employed state intervention, such as in Europe, which gave rise to the creation of welfare states. Since the 1970’s however, Western economies have become a lot more liberal- leaders such as Thatcher and Reagan introduced economic policies such as deregulation and privatisation which freed up the market. However, many view the 2007-2008 financial crisis, that engulfed most of the developed world, as the end of the reign of this ‘free-market triumphalism’.

Whilst turbulence amongst liberal economies continues, the GDP growth rates of the state capitalists Brazil, China and Russia have remained stable. A feature that makes this new form of state capitalism stand out is the management of state owned companies. Over the past 20 years, the state capitalist governments have pruned their portfolio of enterprises, but have held back a few businesses in which they wish to heavily invest, in order for them to become national champions on a global scale. The state capitalist governments believe that these SOE’s (state owned enterprises) combine the best features of the state and the market.  For example, the benefits of long term planning of the allocation of resources and an efficient relationship with the government are combined with the efficiencies of the market: being listed on the stock exchange and having professionally trained managers in charge. This is opposed to the pre-WW2 state capitalist model where companies were wholly nationalised and were run by inexperienced government bureaucrats.

Another advantage of this model is the fact that revenue is often reinvested into national infrastructure. In Western states however, private companies may not be incentivized to invest in infrastructure unless given government support. Whilst the UK is struggling to find funds for the new high speed railway HS2 to desperately enhance its dilapidating rail network, China has already built 8,123 miles worth of high-speed railway, which according to the BBC, is more than the rest of the world’s high speed rail track combined. This is achievable through the large revenues that the biggest SOE’s turnover.

One may think that these state run companies may suffer from monopolistic laziness, however these companies are far more dynamic than the old style ‘socialist mega-firms’. SOE’s tend to have both an outward vision to expand globally, as well as an inward, domestic vision. As opposed to previous forms of SOE’s which sought to protect themselves from the threat of globalisation, current SOE’s rather embrace globalisation in order to force themselves to continually innovate. Additionally, state capitalist countries have the benefits of being able to bunch their SOE’s horizontally in order to exploit each other’s resources and contacts as they are all ultimately owned by the same institution- the government.

On the other hand, state capitalism is a breeding ground for corruption and cronyism (partially to long-standing friends) which threatens its chances of success. The major countries that employ state capitalism are politically problematic- Russia is an astounding 143rd on the world’s corruption index, whilst China and Brazil are 75th and 73rd respectively. With power in so few hands, it is important that those who are in power are reliable politicians- this certainly cannot be said for Russia.

In addition, there is the question of fairness when it comes to state capitalism. It is a hard feat for any private company to become richer than the state as they will lack vast governmental support and subsidies from which SOE’s greatly benefit. This is likely to stifle lower level entrepreneurship. Xiaonian Xu, an economics professor at the China Europe International Business School comments that “nobody can get in”, when referring to the nature of the state dominated Chinese market. He also expressed further doubts about the economic model, explaining that returns of capital investment on SOE’s would be significantly lower if it weren’t for government subsidies- this suggests there are great inefficiencies within these enterprises. Moreover, due to the oligopolistic nature of the state capitalist market, there is a tendency for SOE’s to overcharge.

There is also the question of foreign investment. Foreign investors may fear that as the majority shareholders of the SOE’s are the government, SOE’s will try and fulfil social policies of the government rather than the business goals of the shareholders. Even more worryingly, there is the fear that government bureaucrats may instantly change policies in the business that could adversely affect them. There is certainly less predictability for third parties in this system as the companies are markedly less transparent than Western firms.

Western economists seem very sceptical about the success of state capitalism- economic historian Niall Ferguson says that: “State capitalism is not China’s solution to the problem; it is China’s problem. The future of the global balance between the West and the rest will depend on whether China solves that problem…” So far, state capitalist methods have been a success story for Brazil, China, Russia and the Arab world. This is evidently shown by four of the biggest global companies being state owned. Regarding long term economic development, there is no real evidence to suggest that this success won’t be sustainable. However, this is dependent on the fact that the governments maintain the right formula, constantly evolve to the global market and don’t become too overbearing upon their respective SOE’s.

Contributed by Kapil Vijh