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Free Markets Work Best But They Need A Little Tweaking


Economic Viewpoint

FREE MARKETS WORK BEST--BUT THEY NEED A LITTLE TWEAKING

In the broad swing of the ideological pendulum, free-market economics has become the antidote to a half-century of failed statism. It's become clear that competition, self-reliance, and profits are the driving engines of prosperity. There is no choice. Moreover, the uncovering of vast corruption in statist economies--France, Italy, Japan--makes the case stronger. Wherever government gets a say in the market, officials can routinely expect big-time payoffs.

Still, many doubt the promise of free markets. Transition, restructuring, and reform all too often seem to create inequality, wipe out an established middle class, or produce windfall fortunes. In Russia, antimarket forces stand a good chance in the upcoming elections; in Eastern Europe, retreaded communists win at the polls; in Latin America, skeptics of the neoliberal experiment command a growing audience. In Western Europe, there is much talk of free markets but not "the American way"--i.e., all-out competition, let the chips fall where they may.

But at this critical juncture, there is no third way. Statism has had its time on the stage. Pervasive regulation, public-sector enterprises, a bloated welfare state with crushing tax burdens for those who work--and absurd levels of subsidies for those who don't--have failed as effective alternatives to decentralized decision-making and the hard edge of incentives, private choices, and their consequences.

NO SPECIAL FAVORS. The transition to free markets is controversial because the broad spread of prosperity often takes a long time to come about. In the meantime, the redistribution of opportunities, income, and wealth is the most visible result. Statist economies focus on creating jobs for everybody. As a result, employment is high, and productivity is low. Shifting to free markets involves job losses and wage cuts for many. True, new opportunities open up, but for every winner there are plenty of losers.

Moreover, the move to free markets wipes out the privileged position of businesses, workers, and politicians who benefited from government intervention in the economy. In the great reshuffling, those who relied on protection and favors from the government are out in the cold, while innovators who spot new opportunities walk away with huge returns. The public sees the windfall gains but doesn't see the risk-taking--and certainly doesn't appreciate the proposition that without rewards, progress will stall. Of course, the redistribution of wealth is often only from one pocket to another: Ukraine's communist bosses got rich in capturing the meatiest assets in a self-administered privatization.

"I am from the government, I am here to help you" rings hollow today. Economics leaves no doubt on the basic proposition: Private initiative with a minimum of government interference is the surest way to create the biggest pie. There is no reason to wait, go slow, or be selective.

SOCIAL COHESION. The wholehearted adoption of the free market will leave many with mixed feelings. How to make a rough transition come about more easily? You don't have to feel good about the market--just recognize the bankruptcy of all forms of statism. Next, avoid making a difficult step even worse: Successful reform needs an environment of prosperity and opportunity. Labor markets must be flexible; otherwise, restructuring just translates into mass unemployment.

At the same time, free markets must be judiciously supplemented. There is a need to regulate so as to avoid market failures, from finance to anticompetitive practices. Moreover, the market-determined distribution of income and wealth may pull society apart. Creating opportunities by education and by removing obstacles to competition imposed by governments or unions is important, as is some fiscal redistribution that stops short of being a disincentive. The aspiration of striking a balance between market forces and social cohesion seems a good idea even if in practice it has culminated in too much "social" and too little "market." In the U.S., the rush to abolish welfare should also include jobs, child-care, and education vouchers to help rebuild the social cohesion essential for a functioning market economy.

Finally, the worst enemy of the transition to a free market is a central bank staging fights against inflation or unduly concerned with maintaining a hard currency. Stable and moderate inflation is important for economic performance, but there is a time and place for everything. In Europe today, overdoing inflation fighting and playing desperate currency games do more to harm the cause of free-market reform than all the ideological debate put together.BY RUDI DORNBUSCH


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