Nobel Prize winner Edmund S. Phelps wrote a very interesting article for the Wall Street Journal. In it he deals with the differences between the economical system in, for instance, the US on the one hand and the one in West Europe on the other. He explains:
There are two economic systems in the West. Several nations–including the U.S., Canada and the U.K.–have a private-ownership system marked by great openness to the implementation of new commercial ideas coming from entrepreneurs, and by a pluralism of views among the financiers who select the ideas to nurture by providing the capital and incentives necessary for their development. Although much innovation comes from established companies, as in pharmaceuticals, much comes from start-ups, particularly the most novel innovations. This is free enterprise, a k a capitalism.
The other system–in Western Continental Europe–though also based on private ownership, has been modified by the introduction of institutions aimed at protecting the interests of “stakeholders” and “social partners.” The system’s institutions include big employer confederations, big unions and monopolistic banks. Since World War II, a great deal of liberalization has taken place. But new corporatist institutions have sprung up: Co-determination (cogestion, or Mitbestimmung) has brought “worker councils” (Betriebsrat); and in Germany, a union representative sits on the investment committee of corporations. The system operates to discourage changes such as relocations and the entry of new firms, and its performance depends on established companies in cooperation with local and national banks. What it lacks in flexibility it tries to compensate for with technological sophistication. So different is this system that it has its own name: the “social market economy” in Germany, “social democracy” in France and “concertazione” in Italy.
The American and Continental systems are not operationally equivalent, contrary to some neoclassical views. Let me use the word “dynamism” to mean the fertility of the economy in coming up with innovative ideas believed to be technologically feasible and profitable–in short, the economy’s talent at commercially successful innovating. In this terminology, the free enterprise system is structured in such a way that it facilitates and stimulates dynamism while the Continental system impedes and discourages it.
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Friedrich Hayek, in the late 1930s and early ’40s, began the modern theory of how a capitalist system, if pure enough, would possess the greatest dynamism–not socialism and not corporatism. First, virtually everyone right down to the humblest employees has “know-how,” some of what Michael Polanyi called “personal knowledge” and some merely private knowledge, and out of that an idea may come that few others would have. In its openness to the ideas of all or most participants, the capitalist economy tends to generate a plethora of new ideas.Second, the pluralism of experience that the financiers bring to bear in their decisions gives a wide range of entrepreneurial ideas a chance of insightful evaluation. And, importantly, the financier and the entrepreneur do not need the approval of the state or of social partners. Nor are they accountable later on to such social bodies if the project goes badly, not even to the financier’s investors. So projects can be undertaken that would be too opaque and uncertain for the state or social partners to endorse. Lastly, the pluralism of knowledge and experience that managers and consumers bring to bear in deciding which innovations to try, and which to adopt, is crucial in giving a good chance to the most promising innovations launched. Where the Continental system convenes experts to set a product standard before any version is launched, capitalism gives market access to all versions.
It provides for a very interesting read, although I tend to agree with Dean Esmay when he points out that the American system is not a ‘genuine “free market”‘. It is close to it, there is not a single economy in the world which comes closer I believe, but it is not completely ‘free’.
Phelps goes on to explain that the economy of the US is, due to its system, responsible for much more innovations than European economies. In fact, Phelps explains, many European countries seem to be quite happy “to sail in the slipstream of a handful of economies that do the preponderance of the world’s innovating.”
Dynamism is one of the main strengths of the US economy. Although Phelps quotes one economist who states that we (Europeans) are ‘smart’ for sailing in the slipstream of economies like the US, I believe that this is a – potentially – grave mistake. Firstly it makes us dependent on, for instance, the US. Secondly, if Europe will focus more on dynamism and thus on innovation, we might come up with ideas / innovations, other non-European countries did not come up with. So, in a way, we might improve our own economies ánd other economies.
Just some thoughts about his article. I found it to be a very interesting read and am wondering what you all think about it. For instance, what do you all think of his, perhaps romantic, view that the best way of achieving personal growth is by having a successful, innovative career? Or just about his, what some might consider, “idealized portrait of capitalism” in general?
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