The third way

One thing is very clear. Free market economy has failed miserably. But this does not mean that state ownership is the answer. While the current state of economies of the US and Europe are the prime examples of the failure of the free-for-all market economy, the collapse of communist Soviet Union and the significant opening up of the socialist China make in abundantly clear that the opposite route also does not take you to a hassle-free economic future.
Now that Pakistan seems to have decided to say goodbye to the IMF it is time for our official economic managers as well as all our political and strategic stakeholders to prepare a bipartisan economic policy blueprint to make the most of indigenous comparative advantages for enabling the national economy to come out of its dependence on dole while at the same time the country needs to develop into an essential part of a growingly interdependent world in economic terms.
Today's global crisis is said to be both an indictment of the markets and a challenge to the role of government. The role of government was challenged seemingly successfully by the Prime Minister Margaret Thatcher in the UK and President Ronald Reagan in the US in the 1980s that had led to the revival of crass capitalism as witnessed before the World War II. And now the rich world is ruing the ravages of laissez-faire - an economic system in which transactions between private parties are free from government interference such as regulations, privileges, tariffs, and subsidies. The developing countries and the ones not-so-developed having followed the same principles of free market economy under the powerful influence of the World Bank, the International Monetary Fund (IMF) and the Asian Development Bank (ADB) too seem to be hurtling towards the same fate if their economies have not collapsed already.
According to Thomas Piketty (Capital in the Twenty-First Century - Pp 474-491), both the anti-market and anti state camps are partly correct; new instruments are needed to regain control over a financial capitalism that has run amok, and at the same time the tax and transfer systems that are the heart of the modern social state are in constant need of reform and modernisation, because they have achieved a level of complexity that makes them difficult to understand and threatens to undermine their social and economic efficacy.
Piketty argues that the development of a fiscal and social state is intimately related to the process of state-building as such, "Hence the history of economic development is also a matter of political and cultural development, and each country must find its distinctive path and cope with its own internal divisions." So, it is imperative that Pakistan should try to find its own distinctive path to progress. But no matter how distinctive the path is, unless both the national incomes and tax collections rise to a reasonable level, the economy of developing countries like Pakistan would either continue to remain dole-dependent or trapped into a stagnant mode going south.
Piketty's research has revealed that when the four rich countries of the world (Sweden, France, Britain and the US) collected less than 10 percent from the national income by way of taxes they could afford to fulfill only their central functions (police, courts, army, foreign affairs, general administration, etc) but not much more. This was the situation in these four countries during the 19th century up to the First World War. Between 1920 and 1980, the share of national income that the wealthy countries chose to devote to social spending increased considerably as in just half a century, the share of taxes in national income increased by a factor of at least three to four and in Nordic countries by more than five. The growing tax collection enabled the governments of these rich countries to take on ever broader social functions which now consume between a quarter and a third of national income of which one half goes to health and education, the other to replacement incomes (pensions) and transfer payments (social safety nets). All told, the total social spending, broadly speaking, amounts to 25-35 percent of national income. "In other words, the growth of the fiscal state over the last century basically reflects the constitution of a social state."
In sub-Sahara and South Asia the average tax bite was slightly below 15 percent in 1970 and early 1980 but fell to a little over 10 percent in 1990. Piketty partly blames rich countries and international organisations for this state of affairs in poor countries. "The initial situation was not very promising. The process of decolonization was marked by a number of chaotic episodes in the period 1950-70: wars of independence with the former colonial powers, somewhat arbitrary borders, military tensions linked to the Cold War, abortive experiments with socialism, and sometimes a little of all three. After 1980, moreover, the new ultraliberal wave emanating from the developed countries forced the poor countries to cut their public sectors and lower the priority of developing a tax system suitable to fostering economic development."
Recent research has shown that the decline in government receipts in the poorest countries in 1980-1990 was largely due to a decline in customs duties which had brought in revenues equivalent to about five percent of national income in 1970. Trade liberalisation is not necessarily a bad thing, but only if it is not peremptorily imposed, and only if lost revenue can gradually be replaced by a strong tax authority capable of collecting new taxes and other substitute sources of income. Today's developed countries reduced their tariffs over the course of the 19th and 20th centuries at a pace they judged to be reasonable and with clear alternatives in mind. This illustrates a more general phenomenon: the tendency of the rich countries to use the less developed world as a field of experimentation, without really seeking to capitalise on the lessons of their own historical experience.
One of Pakistan's renowned economists, Dr Nawab Haider Naqvi, once told me perhaps, in mid-1980s that capitalism, as we had understood it, had collapsed soon after the Second World War as socialism started vigorously knocking on the doors of Western Europe. It was about this time (mid-1980s) that the then US president Reagan and the then British prime minister Margaret Thatcher reintroduced laissez-faire market capitalism in their respective countries with a vengeance. However, it took me almost two decades to really fathom what Dr Naqvi had meant then and that, too, after having closely observed the pathetic failure of the Washington Consensus to help Pakistan's economy come out of the rut it had landed itself into by the mid-1960s.
As I tried to find out what exactly did Dr Naqvi mean when he said that the capitalism as we understood in the decades leading up to the Second World War had collapsed by 1947, I stumbled on what I would like to call the Adenauer way. The German chancellor named it the social market economy. His party, the Christian Democratic Union, introduced it in West Germany in 1949. The social market economy is a form of market capitalism combined with social policy.
It was designed to be a third way between what is being called a Washington Consensus economy and a planned social economy. The social market economy refrains from attempts to plan and guide production, the workforce, or sales, but it does support planned efforts to influence the economy through the organic means of a comprehensive economic policy coupled with flexible adaptation to the market. Effectively combining monetary, credit, trade, tax, customs, investment and social policies, as well as other measures, this type of economic policy is said to create an economy that serves the welfare and the needs of the entire population.