23 Things They Don't Tell You About Capitalism

others help business by making firms do things that raise their collective productivity in the long run. Only when we recognize this will we be able to see that what matters is not the absolute amount of regulation, but the aims and contents of those regulations.

Thing 19 Despite the fall of communism, we are still living in planned economies

What they tell you

The limits of economic planning have been resoundingly demonstrated by the fall of communism. In complex modern economies, planning is neither possible nor desirable. Only decentralized decisions through the market mechanism, based on individuals and firms being always on the lookout for a profitable opportunity, are capable of sustaining a complex modern economy. We should do away with the delusion that we can plan anything in this complex and ever-changing world. The less planning there is, the better.

What they don’t tell you

Capitalist economies are in large part planned. Governments in capitalist economies practise planning too, albeit on a more limited basis than under communist central planning. All of them finance a significant share of investment in R&D and infrastructure. Most of them plan a significant chunk of the economy through the planning of the activities of state-owned enterprises. Many capitalist governments plan the future shape of individual industrial sectors through sectoral industrial policy or even that of the national economy through indicative planning. More importantly, modern capitalist economies are made up of large, hierarchical corporations that plan their activities in great detail, even across national borders. Therefore, the question is not whether you plan or not. It is about planning the right things at the right levels.

Upper Volta with rockets

In the 1970s, many Western diplomats called the Soviet Union ‘Upper Volta with rockets’. What an insult – that is, to Upper Volta (renamed Burkina Faso in 1984), which was being branded the quintessential poor country, when it wasn’t even near the bottom of the world poverty league. The nickname, however, succinctly summarized what was wrong with the Soviet economy.

Here was a country that could send men into space but had people queuing up for basic foodstuffs such as bread and sugar. The country had no problem churning out intercontinental ballistic missiles and nuclear submarines, but could not manufacture a decent TV. It is reported that in the 1980s the second-biggest cause of fires in Moscow was – believe it or not – exploding TVs. The top Russian scientists were as inventive as their counterparts in capitalist countries, but the rest of the country did not seem able to live up to the same standard. What was going on?

In pursuit of the communist vision of a classless society based on collective ownership of the ‘means of production’ (e.g., machines, factory buildings, roads), the Soviet Union and its communist allies aimed for full employment and a high degree of equality. Since no one was allowed to own any means of production, virtually all enterprises were run by professional managers (with minor exceptions such as small restaurants and hairdressers), preventing the emergence of visionary entrepreneurs, like Henry Ford or Bill Gates. Given the political commitment to high equality, there was a clear cap on how much a business manager, however successful, could get. This meant that there was only a limited incentive for business managers to turn the advanced technologies that the system was clearly capable of producing into products that consumers actually wanted. The policy of full employment at all costs meant that managers could not use the ultimate threat – that of sacking – to discipline workers. This contributed to sloppy work and absenteeism; when he was trying to reform the Soviet economy, Gorbachev frequently spoke of the problem of labour discipline.

Of course, all this did not mean that no one in communist countries was motivated to work hard or to run a good business. Even in capitalist economies, we don’t do things just for the money (see Thing 5), but communist countries relied, with some success, much more on the less selfish sides of human nature. Especially in the early days of communism, there was a lot of idealism about building a new society. In the Soviet Union, there was also a huge surge of patriotism during and shortly after the Second World War. In all communist countries there were many dedicated managers and workers who did things well out of professionalism and self-respect. Moreover, by the 1960s, the ideal egalitarianism of early communism had given way to realism and performance-related pay had become the norm, mitigating (although by no means eliminating) the incentive problem.

Despite this, the system still failed to function well because of the inefficiency of the communist central planning system, which was supposed to be a more efficient alternative to the market system.

The communist justification of central planning was based on some quite sound logic. Karl Marx and his followers argued that the fundamental problem with capitalism was the contradiction between the social nature of the production process and the private nature of ownership of the means of production. With economic development – or the development of productive forces, in Marxist jargon – the division of labour between firms develops further and as a result the firms become increasingly more dependent on each other – or the social nature of the production process is intensified. However, despite the growing interdependence among firms, the Marxists argued, ownership of the firms firmly remains in separate private hands, making it impossible to coordinate the actions of those interdependent firms. Of course, price changes ensure that there is some ex postcoordination of firm decisions, but its extent is limited and the imbalance between demand and supply, created by such (in non-Marxist terms) ‘coordination failures’, accumulates into periodic economic crises. During an economic crisis, the argument went, a lot of valuable resources are wasted. Many unsold products are thrown away, machines that used to produce now-unwanted things are scrapped, and workers who are capable and willing to work are laid off due to the lack of demand. With the development of capitalism, the Marxists predicted, this systemic contradiction would become larger and consequently economic crises would become more and more violent, finally bringing the whole system down.

In contrast, under central planning, the Marxist argued, all means of production are owned by the whole of society and as a result the activities of interdependent production units can be coordinated ex antethrough a unified plan. As any potential coordination failure is resolved before it happens, the economy does not have to go through those periodic crises in order to balance supply and demand. Under central planning, the economy will produce only exactly what is needed. No resource will lie idle at any time, since there will be no economic crisis. Therefore, the central planning system, it was argued, will manage the economy much more efficiently than the market system.

That, at least, was the theory. Unfortunately, central planning did not work very well in practice. The main problem was that of complexity. The Marxists may have been right in thinking that the development in productive forces, by increasing interdependence among different segments of capital, makes it more necessaryto plan centrally. However, they failed to recognize that it also makes the economy more complex, making it more difficultto plan centrally.

Central planning worked well when the targets were relatively simple and clear, as seen in the success of early Soviet industrialization, where the main task was to produce a relatively small number of key products in large quantities (steel, tractors, wheat, potatoes, etc.). However, as the economy developed, central planning became increasingly difficult, with a growing number of (actual and potential) diverse products. Of course, with economic development, the ability to plan also increased thanks to improvements in managerial skills, mathematical techniques of planning and computers. However, the increase in the ability to plan was not sufficient to deal with the increase in the complexity of the economy.

One obvious solution was to limit the variety of products, but that created huge consumer dissatisfaction. Moreover, even with reduced varieties, the economy was still too complex to plan. Many unwanted things were produced and remained unsold, while there were shortages of other things, resulting in the ubiquitous queues. By the time communism started unravelling in the 1980s, there was so much cynicism about the system that was increasingly incapable of delivering its promises that the joke was that in the communist countries, ‘we pretend to work and they pretend to pay us’.

No wonder central planning was abandoned across the board when the ruling communist parties were