The importance of globalization and worldwide economic growth today is rooted in the end of the Cold War, which saw capitalism emerge as the prev-alent system of economic organization throughout most of the world. Rather than settling the question of how economies should be organized to maximize growth, the end of the Cold War shifted the question. Instead of asking whether capitalism was best, nations asked how to make capitalism function best in their own societies, with their own political systems. The result has been a patchwork of capitalist models at work in countries around the world.
In our recent book, Good Capitalism, Bad Capitalism, William Baumol, Robert Litan and I describe four main models of capitalism — oligarchic capitalism, state-directed capitalism, big-firm capitalism, and entrepreneurial capitalism
— and determine that some forms of capitalism are better than others at gen-erating economic growth, promoting freedom and individual rights, maintain-ing predictability and contributmaintain-ing to world stability.
Oligarchic capitalism is the system that reigns in Russia and many third-world economies today. This is the most negative form of capitalism in the sense that it depresses the probability of individual risk-taking. A system that channels wealth into the hands of a few disincentivizes the individual, stunt-ing further growth.
State-directed capitalism is the system in which we place modern China.
One of the things that China teaches is how liberalization and freer markets can help achieve what has been a long-time worldwide goal: the alleviation of poverty. In the last 25 years, figures indicate that global poverty has been reduced by at least 20%, and most of that reduction has been in China. Unfor-tunately, few economists cite China’s achievement as laudable. Instead, in foreign policy and academic circles the achievement is given polite nods with the presumption that economic growth and the reduction of poverty cannot happen.
Big-firm capitalism characterizes almost all of western Europe and also characterized the United States throughout much of the 20th century. Three major players emerge in a big-firm capitalist system: large companies, which are responsible for most of the economic activity and job creation in the econ-omy; government, which provides certain guarantees and protections that insulate the big firms from competition; and unions, which collaborate with the other two players to produce maximum job stability. The key flaw in this system is that by focusing on stability — the stability of the major companies on which the nation depends for jobs and income, the stability of the labour market — the system becomes bureaucratic and resistant to change, sacrific-ing growth in the process.
Entrepreneurial capitalism characterizes the US economy since roughly the mid-1980s and with its focus on risk-taking, lightly regulated markets (including the labour market), and encouragement of business formation and wealth creation, it seems best-suited to driving innovation, efficiency and pro-ductivity. These qualities have become increasingly important given the nature of global competition today.
The choice we made to look at capitalism was not a political choice, and it brought to light two overarching perspectives that help us consider the uni-versity’s role in the new global market ecosystem. The first is that wealth is achievable around the world. Today that sounds like a pedestrian observation.
But 25 years ago, the presumption was that growth was the province of the
west. In fact, it may have been a particularly western myopia, but it was pre-sumed that several countries that have since taught the rest of the world about growth could not in fact produce growth.
For example, the presumption in the early 1980s was that India’s contest over population was such that growth would never take central position. It was inconceivable to imagine India as a net food exporter, as it has been for a decade. Today, India continues to impress the world with its economic growth and its development as a global high-tech centre.
China also was considered a country with limited growth potential. The presumption in the west was that the existence of a Confucian culture that was antithetical to individual enterprise would prevent growth in China apart from the socialist system that prevailed. Today, rapid growth in China has lifted hundreds of millions in that country out of poverty.
The second overarching observation in Good Capitalism, Bad Capitalism is that the variants of capitalism we have identified do not represent the end of the story. Ours is not a taxonomy that is necessarily stable. In fact, we argue that it will be dynamic and it is likely to be dynamic at an increasing rate. Nor do we presume that the American system — even with its substantial benefits in an innovation-driven global economy — will somehow be triumphant.
Indeed, many of the lessons of this taxonomy suggest the fragility of the rela-tionship between US-style liberal democracy and capitalism.
But it is important to note that the US entrepreneurial system boasts the best record of producing wealth at a pace that yields tangible benefits on a glo-bal scale. The contributions the US economy has made to gloglo-bal growth and poverty-reduction are something of a surprise in the sense that the evolution of America’s entrepreneurial economy was quite accidental. Over 70 years ago, the US economy organized itself around Keynesian principles (associated with the big-firm capitalist model). Big government, big unions and big busi-ness co-managed an economy where interests were balanced and regulated in pursuit of equilibrium (avoidance of recession) and predictable growth. This system, described by economist Joseph Schumpeter and others as bureaucratic capitalism and celebrated by Harvard economist John Kenneth Galbraith in The New Industrial State, failed in the late 1970s and early 1980s. At that time, two phenomena emerged that had been thought to be antithetical — high unemployment and high inflation.
Several actions by the US Congress (including pension reform, deregula-tion of several industries as well as capital markets, and the privatizaderegula-tion of ownership of government-sponsored research), unexpectedly set in place an economic revolution. In the 1980s the flow of venture capital increased, labour mobility expanded rapidly, the cost of business risk assumed by individ-uals was attenuated, and the expense of converting technological innovation into commercial applications fell significantly.
The resulting explosion of entrepreneurial activity has transformed the US economy, and the fruits of this transformation extend beyond America’s bor-ders. The United States has set the pace for economic growth and productiv-ity increases. It is persuasively argued that China grows at 9% per year because the United States grows at 3%. Even areas that have experienced less growth than hoped for – Africa, for example – have begun to be transformed by tech-nology and stand poised, given the right conditions, to access the wealth of global markets. At the same time, the tremendous wealth produced by pri-vate-sector enterprises has made possible unprecedented commitments of aid to underdeveloped regions of the world.
Having witnessed the example of US economic growth, other nations — notably Ireland and Israel — have reshaped their economies to focus on entre-preneurial activity and have realized strong growth. Ireland has become Europe’s economic pacesetter; Israel has more companies listed on the NAS-DAQ than any country except the United States. And Nicolas Sarkozy was elected President of France in 2007 on a platform of introducing more flexi-bility and even unpredictaflexi-bility (key markers of entrepreneurial economies) into France’s static economy.