23 Things They Don't Tell You About Capitalism

systems has not fallen very much, once we take into account the relative price effects. But even if de- industrialization is not necessarily a symptom of industrial decline (although it often is), it has negative effects for long-term productivity growth and the balance of payments, both of which need reckoning. The myth that we now live in a post-industrial age has made many governments ignore the negative consequences of de- industrialization.

As for the developing countries, it is a fantasy to think that they can skip industrialization and build prosperity on the basis of service industries. Most services have slow productivity growth and most of those services that have high productivity growth are services that cannot be developed without a strong manufacturing sector. Low tradability of services means that a developing country specializing in services will face a bigger balance of payments problem, which for a developing country means a reduction in its ability to upgrade its economy. Post- industrial fantasies are bad enough for the rich countries, but they are positively dangerous for developing countries.

Thing 10 The US does not have the highest living standard in the world

What they tell you

Despite its recent economic problems, the US still enjoys the highest standard of living in the world. At market exchange rates, there are several countries that have a higher per capita income than the US. However, if we consider the fact that the same dollar (or whatever common currency we choose) can buy more goods and services in the US than in other rich countries, the US turns out to have the highest living standard in the world, barring the mini-city-state of Luxemburg. This is why other countries seek to emulate the US, illustrating the superiority of the free-market system, which the US most closely (if not perfectly) represents.

What they don’t tell you

The average US citizen does have greater command over goods and services than his counterpart in any other country in the world except Luxemburg. However, given the country’s high inequality, this average is less accurate in representing how people live than the averages for other countries with a more equal income distribution. Higher inequality is also behind the poorer health indicators and worse crime statistics of the US. Moreover, the same dollar buys more things in the US than in most other rich countries mainly because it has cheaper services than in other comparable countries, thanks to higher immigration and poorer employment conditions. Furthermore, Americans work considerably longer than Europeans. Per hour worked, their command over goods and services is smaller than that of several European countries. While we can debate which is a better lifestyle – more material goods with less leisure time (as in the US) or fewer material goods with more leisure time (as in Europe) – this suggests that the US does not have an unambiguously higher living standard than comparable countries.

The roads are not paved with gold

Between 1880 and 1914, nearly 3 million Italians migrated to the US. When they arrived, many of them were bitterly disappointed. Their new home was not the paradise they had thought it would be. It is said that many of them wrote back home, saying ‘not only are the roads not paved with gold, they are not paved at all; in fact, we are the ones who are supposed to pave them’.

Those Italian immigrants were not alone in thinking that the US is where dreams come true. The US became the richest country in the world only around 1900, but even in the early days of its existence, it had a strong hold on the imagination of poor people elsewhere. In the early nineteenth century, US per capita income was still only around the European average and something like 50 per cent lower than that of Britain and the Netherlands. But poor Europeans still wanted to move there because the country had an almost unlimited supply of land (well, if you were willing to push out a few native Americans) and an acute labour shortage, which meant wages three or four times higher than those in Europe (see Thing 7). Most importantly, the lack of feudal legacy meant that the country had much higher social mobility than the Old World countries, as celebrated in the idea of the American dream.

It is not just prospective immigrants who are attracted to the US. Especially in the last few decades, businessmen and policy-makers around the world have wanted, and often tried, to emulate the US economic model. Its free enterprise system, according to admirers of the US model, lets people compete without limits and rewards the winners without restrictions imposed by the government or by misguided egalitarian culture. The system therefore creates exceptionally strong incentives for entrepreneurship and innovation. Its free labour market, with easy hiring and firing, allows its enterprises to be agile and thus more competitive, as they can redeploy their workers more quickly than their competitors, in response to changing market conditions. With entrepreneurs richly rewarded and workers having to adapt quickly, the system does create high inequality. However, its proponents argue, even the ‘losers’ in this game willingly accept such outcomes because, given the country’s high social mobility, their own children could be the next Thomas Edison, J. P. Morgan or Bill Gates. With such incentives to work hard and exercise ingenuity, no wonder the country has been the richest in the world for the last century.

Americans just live better…

Actually, this is not quite true. The US is not the richest country in the world any more. Now several European countries have higher per capita incomes. The World Bank data tell us that the per capita income of the US in 2007 was $46,040. There were seven countries with higher per capita income in US dollar terms – starting with Norway ($76,450) at the top, through Luxemburg, Switzerland, Denmark, Iceland, Ireland and ending with Sweden ($46,060). Discounting the two mini-states of Iceland (311,000 people) and Luxemburg (480,000 people), this makes the US only the sixth richest country in the world.

But, some of you may say, that cannot be right. When you go to the US, you just see that people there live better than the Norwegians or the Swiss do.

One reason why we get that impression is that the US is much more unequal than the European countries and therefore looks more prosperous to foreign visitors than it really is – foreign visitors to any country rarely get to see the deprived parts, of which the US has many more than Europe. But even ignoring this inequality factor, there is a good reason why most people think that the US has a higher living standard than European countries.

You may have paid 35 Swiss francs, or $35, for a 5-mile (or 8-km) taxi ride in Geneva, when a similar ride in Boston would have cost you around $15. In Oslo, you may have paid 550 kroner, or $100, for a dinner that could not possibly have been more than $50, or 275 kroner, in St Louis. The reverse would have been the case if you had changed your dollars into Thai baht or Mexican pesos on your holidays. Having your sixth back massage of the week or ordering the third margarita before dinner, you would have felt as if your $100 had been stretched into $200, or even $300 (or was that the alcohol?). If market exchange rates accurately reflected differences in living standards between countries, these kinds of things should not happen.

Why are there such huge differences between the things that you can buy in different countries with what should be the same sums of money? Such differences exist basically because market exchange rates are largely determined by the supply and demand for internationally traded goods and services (although in the short run currency speculation can influence market exchange rates), while what a sum of money can buy in a particular country is determined by the prices of all goods and services, and not just those that are internationally traded.

The most important among the non-traded things are person-to-person labour services, such as driving taxis and serving meals in restaurants. Trade in such services requires international migration, but that is severely limited by immigration control, so the prices of such labour services end up being hugely different across countries (see Things 3 and 9). In other words, things such as taxi rides and meals are expensive in countries such as Switzerland and Norway because they have expensive workers. They are cheap in countries with cheap workers, such as Mexico and Thailand. When it comes to internationally traded things such as TVs or mobile phones, their prices are basically the same in all countries, rich and poor.

In order to take into account the differential prices of non-traded goods and services across countries, economists have come up with the idea of an ‘international dollar’. Based on the notion of purchasing power parity (PPP) – that is, measuring the value of a currency according to how much of a common consumption basket it can