How China escaped shock therapy

Lincoln Seligman, Wrapped Wine Bottles, 2012.
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By FERNANDO NOGUEIRA DA COSTA*

Considerations about the book by Isabella M. Weber

How China Escaped Shock Therapy: The Market Reform Debate, a book authored by Isabella M. Weber, is a very timely read to understand how China became rich. Contemporary China is the largest exporter ($3,714 trillion in 2022) in globalized capitalism, well ahead of Germany ($2,078 trillion) and the United States ($2,064 trillion).

China's growth above other countries occurred because it avoided institutional convergence with neoliberalism. It escaped the universalization of the “Western” economic model. Gradual marketization facilitated China's economic rise without leading to widespread assimilation.

Guided by the Chinese State, it was not a “natural” choice, predetermined by China’s exceptional history. In the first decade of “reform and opening up” under Deng Xiaoping (1978-1988), China’s trade openness was forged in a fierce debate between economists advocating shock therapy-style liberalization and promoters of gradual marketization.

The contrast between the rise of China and the economic collapse of Russia is illustrated by the shock therapy – an essentially neoliberal economic policy prescription – applied to the Russian economy, once the largest under state socialism. The positions of Russia and China in the world economy have been reversed since they implemented different modes of commodification.

Russia suffered deindustrialization, becoming only an energy exporter, while China became the industrial workshop of world capitalism. Given China's low level of development compared to Russia at the beginning of the reform, shock therapy would likely have caused human suffering on an even more extraordinary scale compared to what occurred in Russia. It would have undermined, if not destroyed, the foundations of China's economic rise.

Isabella Weber highlights the fundamental role played by the economic debate in China's market reforms is largely ignored. She wonders for what intellectual reasons China escaped shock therapy.

China's deviation from the neoliberal ideal did not occur because of the size of the Chinese state, but rather due to the nature of its economic governance. A neoliberal State is neither small nor weak, but strong in that its objective is to strengthen the market.

In the most basic terms, this means the protection of free prices as a central economic mechanism for establishing “relative price equilibrium”. In contrast, the Chinese state uses the market as a tool in achieving its broader development objectives.

It preserves a degree of economic sovereignty protective of China's economy against the global market, as the 1997 Asian and 2008 global financial crises demonstrated. The abolition of “economic isolation” was the neoliberal objective and therefore current global governance was designed to put an end to any national market protectionism against the global market.

China's refusal to embrace shock therapy meant its state retained the ability to isolate the command posts of the economy – the sectors most essential to economic stability and growth – while integrating itself into global capitalism. Isabella Weber briefly recaps the logic of shock therapy.

It was a comprehensive package of policies to be implemented at once to suddenly transform planned economies into market economies. The package consisted of (i) liberalization of all prices in one big bang, (ii) privatization, (iii) trade liberalization and (iv) stabilization, in the form of restrictive monetary and fiscal policies. To this day, there is price liberalization complemented by fiscal austerity.

Shock therapists preached full liberalization of domestic prices as a precondition. Above all, they placed the determination of prices by the free market.

The deeper reason for the trend towards price liberalization lay in the neoclassical concept of the market as merely a price mechanism, abstracting from institutional realities. From this perspective, the market is the only way to rationally organize the economy and its functioning depends on free prices. Only.

Liberalizing all prices at once would correct the distortion of relative prices – a Stalinist legacy in Russia – too low for the heavy industry of capital goods and too high for the light industry of consumer goods and services. A successful transition to a market economy would require the release of prices to guide resource allocation.

This liberalization of wholesale (producer) prices would have to be combined with a stabilization policy to control the general level of retail (consumer) prices. According to neoliberals, the real causes of persistent inflation in state socialist economies were excess demand, due to large budget deficits with “soft fiscal restrictions”, monetary policies with “abundant and cheap money”, and wage increases resulting from the policy of zero unemployment.

In the opinion of shock therapists, these problems could be alleviated by a “heavy dose of macroeconomic austerity”. They were only monetary – not structural.

An increase in the global price level would devalue savings and thus reduce the chronic excess of aggregate demand experienced in socialist economies. The cost of depriving citizens of modest wealth at the hard expense accumulated under state socialism was considered a necessary pain. In fact, it represented a regressive redistribution beneficial to the elites of the nomenclature who held non-monetary assets.

As can be seen today in Javier Milei's Argentina, forcing market relations in society suddenly depends on imposing even greater inequality. Bottom-up redistribution is part of shock therapy.

The destruction of the command economy was expected to automatically give rise to a market economy. It was a recipe for destruction, not construction. After the planned economy had been “shocked to death”, the “invisible hand” was expected to operate and, miraculously, allow the emergence of a market economy.

The neoliberal ideological doctrine comes from a neoclassical reading of Adam Smith's work. According to her, the “human propensity to transport and exchange one thing for another” would be natural as the “principle of division of labor”, capable of increasing productivity. The market developed slowly as institutions facilitating market exchange were built.

In this slow and gradual path, the “invisible hand” and, with it, the free price mechanism would take time to work. On the other hand, the logic of shock therapy states that a backward country is capable of “jumping into the market economy”.

It would easily be the precondition of a “revolutionary change in institutions”. For example, it took the collapse of the Soviet state and the one-party communist regime in December 1991 before a big bang be implemented with the elimination of almost all price controls, although social unrest was feared.

With the promise of long-term gains, the big bang prescribed short-term suffering. They immediately affected the interests of workers and companies, as well as government technocrats, except the opportunists associated with the beneficiaries of privatization. Radical price liberalization only became politically viable after the dissolution of the Soviet state.

Instead of the predicted one-time rise in the price level, Russia entered a prolonged period of very high inflation, combined with a fall in production, followed by low rates of income and employment growth. Almost every post-socialist (and Latin American) country applying some version of shock therapy has experienced a deep and prolonged recession. Worse, most measures of human well-being, such as access to education and public health, the absence of poverty, and lower social inequality, have collapsed.

The macroeconomic outcome of China's market reform policies was the opposite of Russia's: inflation was low or moderate, but output growth was extremely rapid. China followed an experimentalist approach, using given institutional realities, to build a new economic system.

The State gradually recreated markets outside the old system. Isabella Weber shows that China's reforms were gradual – not only in terms of pace, but also in moving from the margins of the old industrial system to its core. Gradual commodification ended up transforming the entire political economy, while the State maintained control over the command posts of the market economy.

*Fernando Nogueira da Costa He is a full professor at the Institute of Economics at Unicamp. Author, among other books, of Brazil of banks (EDUSP). [https://amzn.to/3r9xVNh]

Reference


Isabella M. Weber. How China escaped shock therapy. Translation: Diogo Fernandes. Technical review: Elias Jabbour. São Paulo, Boitempo, 2023, 476 pages. (https://amzn.to/447aDoD).


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