State versus Market: Forever a Struggle?

Few would disagree with the view that in Russia state power has been on the rise since the year 2000, reversing a trend during the 1990s towards a dominant market. Many signs point towards this: an expanding state budget, a growing number of government bureaucrats, increasing and now overwhelming state ownership of national oil and gas resources, growing engagement by government in the running of large private businesses, a stalling of reforms designed to reduce bureaucratic tape and inspections, and the control by the government over much of the television media and key newspapers. Was this reversal to be expected? Is it good or bad for Russia? Will it continue? It may help to take a look beyond Russia in trying to answer these questions.

Economic historians tell us that swings in dominance between state and market go back many centuries. Over the last 200 years these swings seem to have gathered in speed. The industrialization process of the West in the 19th century was characterized by a dominant market and a small government sector. After World War I the state took over, not only in the Soviet Union. Western governments also assume growing roles after the Great Depression and then during and after World War II, with the rise of socialist ideology, the economic theory of “market failure” and the belief in planning by government as a way to promote a stronger economy and a better life for its citizens.

By the late-1970s the socialist, central planning and statist models ran out of steam around the globe, as a backlash of neo-liberalism, based on the ideas of Milton Friedman and translated into the policies of Ronald Reagan and Margaret Thatcher, took hold in many parts of the world, including in Russia after 1990. “Government failure,” excessive size of government and too much state intervention were blamed for many of the world’s ills. Smaller government and a dominant market were seen as the solution.

Perhaps we should not have been surprised to see yet another backlash by the end of the 20th century as opposition to the neo-liberal “Washington Consensus” and to a market-driven globalization process became a slogan for Nobel-prize winning economists and street protestors alike. And so a reversal in Russia also was probably to be expected as President Putin took over from President Yeltsin.

But something else has happened in the last few decades besides the quickening swings in the state-market pendulum: On closer inspection it turns out that the apparently world-wide swings of opposing views and policies are actually dissolving into a multitude of swings in different directions in different countries. What is more, the neat dividing line between public state and private market seems to disappear as we look more closely. Let’s consider both these phenomena.

At the risk of over-simplification we can discern at least four competing models of economic organization in the world today: the market economic model of Hong Kong and the U.S.; the social market economic model of Continental Europe; the state capitalist model in today’s China and Russia; and the central planning model in North Korea and in very few other places. These models differ from each other in the way market or state dominates in the allocative (or productive) sphere and in the distributive (or social—education, health and social safety nets) sphere of economic life. Each of the models has its own strengths and stresses, and each faces its own dynamic pressures.

In market economies the market prevails in both the productive and the social spheres. The strength of this system lies in its flexibility, competitiveness and generally high rates of growth. But it suffers from high inequality, serious pockets of poverty, neglect of environmental problems and possible financial crises. Most market economies face pressures towards greater engagement by the state, especially in the social and environmental sphere.

Social market economies rely on the market for allocation of production and consumption, but involve the state actively in providing for the social welfare of the citizens (and often in protecting the environment). This provides for more equal societies, more social harmony and a better ability to cushion economic shocks. But the fiscal cost of these social programs is high, and the burden of high taxes produces inefficient labor markets and reduces business entrepreneurship, thus depressing economic growth. For this reason, social market economies generally face pressures to reduce the benefits and hence burden of the welfare state and to rely more on market forces in the social sphere.

State capitalism combines a passive role of government in the social and environmental spheres with a relatively heavy engagement of the government in the productive sphere, especially the “commanding heights” of the economy—the natural resource sectors (esp. energy), large-scale and technology intensive industries (including aerospace), military supply industries, and banking. State capitalism has shown that it can generate high and stable rates of economic growth for extended periods provided it covers a limited number of enterprises, is managed by an effective bureaucracy, and is directed towards clear national economic goals (rather than for the benefit of limited private interests). However, inequality, pockets of poverty and environmental problems tend to persist of grow. Also, there is always a risk of abuse by state actors of their powers, with a corrupt state serving special interests rather than the common good. Pressures for change in state capitalism can go either way—towards less engagement of the state in business affairs, or towards more intervention—depending on whether the leadership is accountable to the broader public or principally beholden to special interests. At this time China would appear to move in the former direction, but Russia in the latter.

Under central planning, the state plays a dominant role in both the productive and the social spheres. While this can help create a more egalitarian society, painful experience has also shown that the system over the longer term does not generate robust economic growth, even as it is well adapted to a war economy or to generate a “big push” for a limited time. Hence, the pressure generally has been to move away from central planning unless a repressive regime maintains the system in its rigid planning mode.

With this multiplicity of models—in fact, for each model, we could distinguish further special cases—the time has come to abandon the search for a single blueprint of state-market organization brings about the ideal outcome. Rather, the question for each country has become how to manage best the strengths and weakness of the system currently in place and how to best manage the pressures for change present in each system.

Moreover, we can observe that public and private actors increasingly partner with each other and thus blur the dividing line between the state and market approaches. One example is that big multinational companies have become increasingly engaged with social and environmental agendas. Many of them now work in partnerships with governmental and civil society organizations, in determining appropriate social and environmental standards, setting up peer review systems, and funding remedial action where needed. Another example involves civil society organizations such as Medcin Sans Frontieres, Oxfam, Greenpeace, the Gates Foundation and many faith-based groups, which have taken on humanitarian, social and environmental activities that traditionally have been the domain of national government or international organizations. Often these organizations work in partnership with public agencies and private business. Finally, increasingly one finds public-private partnerships also in project financing and management for infrastructure as well as for advanced technology industries (e.g., Airbus Industries).

If there are no blueprints for optimal state-market relations and if the dividing line between public and private sectors has become blurred through public-private partnerships, what is the right approach for Russia? Ultimately, only Russians can answer this question. But a few principles and lessons from elsewhere may be worth considering: First, going to extremes in either direction—state or market—will likely be a mistake. Second, the basic state functions are essential: secure property rights, a fair and efficient justice system, maintenance of law and order, a good physical infrastructure, and monetary stability. They require a small, but honest and effective civil service. Third, in dealing with market failures, government should focus primarily on the big ones (major social inequities and poverty problem, big environmental risks, etc.), not the many small imperfections which would require overload of bureaucratic intrusion; and all interventions should be designed in a way that minimizes any new economic distortions and imperfections. Fourth, public-private partnerships are often excellent responses to difficult economic and social challenges. But they also need careful and transparent handling to avoid conflict of interest, corruption and special favors being offered to a select few. Finally, and most importantly, there needs to be accountability for all—government leaders and civil servants, private enterprises, civil society organizations. This requires transparency of records, feedback from stakeholders, and competition.

Looking towards the future, where is Russia headed? Past trends point towards more state intervention in business, substantially beyond the areas of obvious market failures, even as major social problems are left unattended and serious weaknesses remain in the way basic state functions are carried out. Corruption appears to be getting worse. Accountability mechanisms are getting weaker. But none of these trends have yet damaged Russia’s resurgent economic performance nor, hopefully, are they irreversible. The challenge for Russia and the Russian leadership therefore in the coming years is two-fold: to fashion a state-market balance which is uniquely suited to Russia—and which may well differ from that of other successful countries-; but also to avoid the more extreme solutions, to improve the ways in which the Russian state functions, to find effective public-private partnerships and to make all public and private agents accountable for their actions in a transparent and fair manner.

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