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Back to the USSR? 2

Last week we've seen some new ideas on how to get us out of this economic crisis. Most prominently, Ilmars Rimšēvičs, the Central Bank governor, said that "Latvia must be run as a firm, [we] should be making decisions what to produce, where to invest…". I humbly disagree.

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At the moment, Latvian economy is not "run like a firm" and that, in my opinion, is a very good thing. However, some twenty years ago it was run like a firm. I am speaking about the time when it was Soviet Socialist Republic of Latvia (or something like that). The Soviet Union was a centrally-planned economy and Gosplan ran it as one would run a firm. That's what centrally-planning does: some central planning board makes decisions what to produce, where to invest, what are the "priority industries", etc. Apparently, I should explain why this is a bad idea.

First, there is a lot of theoretical arguments why central planning does not work well. Any economics textbooks would tell you that maximum economic efficiency is achieved decisions about "what to produce" are left to decentralized markets, and not to the government. Friedrich von Hayek, a famous economist, explained why decentralized markets would outperform centrally-planned economies in his classic article "The Use of Knowledge in Society". That article was written back in 1945. In about the same time Hayek has also published his book "The Road to Serdom", in which he rather accurately predicted the paths of socialism, Soviet Union, and Nazi Germany. I am not going to delve into the details of his arguments here, but Hayek earned a Nobel Prize in economics in 1974. That should speak for itself.

You don't believe economic theories? Then look at empirical evidence! Consider the example of Korea, which in 1950 was divided into a country with a Stalinist centrally-planned economy (North Korea) and a country with largely market-based economic institutions (South Korea). So we can look at the results of a half a century long experiment in central planning vs markets . See the table below (from Alex Tabarrok).

In Latvian here

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Komentāri (2) secība: augoša / dilstoša

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Yuri 03.02.2009 20:06
While I agree with most of your analysis, and I am not here to defend panned economy (or the North Korean political system) - it did prove to be a failure.

I would question your case studies though, particularly the North/South Korea example. In my opinion, the reservations required for that example are, as follows:
- The data for North Korea was for 1995-97 when the country was in the worst crisis since the Korean war, involving a collapse of agriculture and famine. Since then, life expectancy has gone up to 69 for males and 75 for females (CIA World Factbook, 2008 est.), while little has changed in the economic model.
- Second, the discrepancy in military headcount and spending is clearly not an implication of the economic model, but rather the foreign policy stance the country has chosen (which of course can arguably be linked to its economic policy)
- Total death and infant death rates are a result of a dysfunctional healthcare system, which is not necessary a result of the planned economy. There are multiple examples of countries in Africa and Asia with nothing to do with that economic model, but a much higher death rate.

On the China/Taiwan case study, I think one always needs to keep the sheer difference in the size and the structure of the economy at the back of his mind. The comparison is about the same as comparing Luxembourg and France, and claiming that France operates a fundamentally flawed economic model.

Again, this is not to suggest planned economy is a good idea, but that most of your other analysis was much more effective in proving that than the two case studies.

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Jusu vārds 28.01.2009 14:53
Very nice blog, its a pity that entries appear here so rarely :(

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