Magazine | July 19, 2010, Issue

Perils of State Capitalism

The End of the Free Market: Who Wins the War Between States and Corporations? by Ian Bremmer (Portfolio, 240 pp., $26.95)

‘Now that the free market has failed, what do you think is the proper role for the state in the economy?” The question, from a high-ranking Chinese diplomat last year, poses a challenge of the first order to the Western democracies. State capitalism, defined by author Ian Bremmer as a system in which the state “acts as the dominant economic player and uses markets primarily for political gain,” is distorting the global economy and undermining its ability to create sustainable growth.

In this new book, Bremmer, president of the risk consultancy Eurasia Group, examines big trends — globalization, capitalism, authoritarianism, and democracy — and asks one of the most important questions of our times: Will state-controlled economic systems come to dominate the world?

State capitalism is not a new concept. Bremmer dates the first use of the term to August 1896, when Wilhelm Liebknecht used it as an epithet to deride the half-measures of fellow socialists. But there were state capitalists long before Liebknecht’s time. The merchants of the British East India Company and similar monopolies were the first. These tough men built great mercantilist empires.

Today, those empires are gone and, according to Bremmer, mercantilism is dead; but state capitalism continues to thrive. The fall of Communism did not result in the triumph of free-market capitalism, as Francis Fukuyama famously predicted. Instead, it gave rise to two decades of accelerated globalization in which state capitalists prospered. And they emerged even stronger from the recent economic downturn, the “world’s first truly global recession”: “In the first decade of this new century,” Bremmer writes, “public wealth, public investment, and public ownership have made a stunning comeback.”

Meanwhile, our system has, according to the author, been discredited due to economic failure, with the result that state capitalism has become even stronger. Its leading practitioners are the rulers of China, Russia, and the Arab monarchies of the Persian Gulf, but “imitators” around the globe have also adopted elements of the system. Bremmer helpfully profiles the rise of state capitalism in countries as diverse as Egypt, Algeria, Ukraine, India, South Africa, Nigeria, Mexico, Brazil, Vietnam, Venezuela, and Malaysia. “Today we’re living in a G20 world,” he writes, and state capitalists dominate that grouping. It’s no wonder the title of his book predicts that our economic system is doomed.

In fact, though, The End of the Free Market is misleadingly titled. The book’s text makes no such prediction, and Bremmer appreciates the reason for the market’s continuing resilience: “Free-market capitalism defeated fascism, shed colonialism, and outlasted Communism. It has also survived many crises of its own making . . . because virtually all people value an opportunity to create prosperity for themselves and their families and because free markets have proven again and again that they can empower virtually anyone.”

He also makes it clear that state capitalism has its own vulnerabilities, which are essentially the same as those of authoritarianism. It is no coincidence that the two often go hand in hand. Despots and dictators like centrally directed markets, because they can use the productive power of these markets for political gain. They can, for instance, buy off elites by granting them monopolies and placate populations with the prosperity this system can generate. By bending markets, however, rulers ultimately make them less efficient. Over time, state-capitalist systems erode. On page after page, Bremmer makes the case that state capitalists tend to mismanage their economies.

Yet at this moment, their demise is by no means a foregone conclusion. Bremmer suggests there might be a worldwide competition: “Are we on the verge of a new global struggle — one that pits free-market capitalists and state capitalists in a battle to win over countries that might still tip either way?”

His answer, ultimately, is no — because he thinks state capitalism is less a “coherent political ideology” than “a set of management techniques,” and therefore lacks the wide appeal that Communism had, with its rhetoric about social and economic justice. Moreover, state capitalists are not bent on global domination, at least according to Bremmer; they are much more interested in keeping themselves in power in their own countries. In any event, he considers the triumph or defeat of state capitalism as chiefly an issue concerning China: “China has become the symbol of state capitalism’s power, and it is China that will determine how long this trend survives.”

#page#He ends the book with recommendations for policymakers in the free-market democracies, especially the United States. He believes free-market nations should not close the door on trade, foreign investment, or immigrants. American officials “should pick their fights with care,” which is undoubtedly good advice; so is his admonition to keep investing in “hard power.” All of these recommendations, though conventional, are sound.

Furthermore, Bremmer, to his credit, expresses a sentiment heard all too infrequently these days: “Speak up for free markets.” But, not long after making this irreproachable suggestion, Bremmer trips over himself by saying the recent recession “began in the United States and was triggered by a failure of free-market capitalism.” Really? It’s true the downturn was first evident in America, and regulation in the U.S. certainly failed; but it is highly misleading to say that the breakdown was triggered by American-style capitalism. Regulation failed in the U.S., a nation known for strong regulatory oversight, largely because it was overwhelmed by a tide of foreign capital, and, as history shows, regulatory mechanisms always break down when there is too much money sloshing around financial systems.

And why was there too much money here? The best explanation — and one especially relevant to this book — is that state capitalists in other parts of the world built up large current-account surpluses and had to recycle their funds elsewhere. Free-market economies had long ago learned how to absorb the oil revenues of the Arab petrostates, but the trade surpluses of China, a new phenomenon, grew too fast for global markets to handle. Bremmer, unfortunately, simply ignores an issue that is central to the subject of his study.

He closes his work with a last, enigmatic recommendation. Referring to the interdependence of the American and Chinese economies, he argues that Washington policymakers cannot afford to ignore “the mutually assured economic destruction that now threatens them” (his italics). Unfortunately, Bremmer ends the book without explaining what he really means by these words. Did he intend to suggest that the U.S. should work to lessen its dependence on the state capitalists? That would, at first glance, seem to be his message. After all, he said in earlier pages that free-market economies face a serious threat owing to their growing dependence on state capitalism. “The risk for the United States — and for free-market democracies generally — is that distortions created by state capitalism will ensure that the pie isn’t expanding quickly enough to accommodate all the new mouths it will soon be expected to feed,” Bremmer tells us. “That will threaten not just standards of living, but eventually perhaps the security of the world’s free-market democracies.”

But Bremmer probably had something quite different in mind. In March, he was much less coy, writing in the British magazine Prospect that “U.S. officials should do their best to ensure that this ‘mutually assured economic destruction’ continues.” His point in that article was, essentially, that — by strengthening economic links with Beijing — a declining America can remain “indispensable” (Bremmer’s word) to a rising China.

The thesis that the U.S. should try to remain dependent on China is, to say the least, questionable. After all, America today is far more powerful than China by almost any metric, and Washington has substantially more leverage over Beijing than the other way around. And one would naturally think that American leaders would want to ensure that the U.S. does not become more beholden to an authoritarian state that harbors open ambitions to expand its borders in almost all directions, to replace American influence with its own, and to undermine the liberal international system led by Washington.

Yet, whatever one thinks of this especially provocative point, it is telling that the author explains himself much more clearly — and provides far more penetrating analysis — in a 3,460-word article than in a 240-page book.

Mr. Chang, the author of The Coming Collapse of China, writes a weekly column at Forbes.com.

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