Good Capitalism or Good Government? A Review of Good Capitalism, Bad Capitalism
by William J. Baumol, Robert E. Litan, and Carl J. Schramm (Yale University Press,
2007).
When I picked up this book I feared I was in for a lecture about “corporate responsibility”
and the mandate for capitalistic firms to pay attention to the “needs of the poor”. Warren
Buffet and Bill Gates have been pushing such a line for several years and I assumed that
Baumol, Litan, and Schramm (BLS) would join the chorus. Happily, I was wrong. This
book is not a scolding of capitalist firms with silly notions such as “the financial
incentives [of such firms] to serve the poor is zero” (an actual Bill Gates quote). Rather, it
is carefully argued case for adopting government policies that encourage entrepreneurial
capitalism (“good capitalism”) with the goal of achieving sustained economic growth that
will benefit even the world’s poorest countries. Overall, I believe the authors make a
persuasive case, though I wish they had pushed the logical consequences of their
arguments further.
Before getting to the heart of what I believe is the largely correct BLS argument, I should
mention two major shortcomings of the book from my perspective: the book is woefully
short on both economic theory and econometric evidence. With regard to theory, I would
have expected a book focused on entrepreneurial activity to have more than a few passing
references to the patron saint of the economics of entrepreneurship, Joseph Schumpeter.
As the recent excellent biography of the Austrian economist by Thomas McCraw makes
clear, during the 1920’s and 30’s Schumpeter developed a wide-ranging economic model
of the centrality of entrepreneurial activity in capitalist economies. He had the bad luck of
writing during the depression and his ideas were largely overshadowed by those of John
Maynard Keynes. But recent macroeconomic theory has moved away a bit from the
“Keynesian consensus” and Schumpeterian ideas are starting to make some headway. It
would have been nice to see some of this in the BLS book.
With regard to econometric evidence, BLS provide a brief quantitative appendix largely
devoted to the topic of why they cannot provide such evidence. Given the vast literature
on “growth rate regressions”, their reticence to join the fray seems odd. But perhaps the
general reader has no interest in econometrics anyway.
Now to what BLS actually do say. In some respects their title is misleading. Their book
is not so much a critique of capitalist economies per se as it is a critique of governmental
policies toward capitalism. The authors identify four types of capitalism:
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State guided capitalism;
Oligarchic capitalism;
Big-firm capitalism; and
Entrepreneurial capitalism.
Of course, they recognize that any actual economy will represent a mixture of these
various types, but they show how various countries have been, at certain points in their
histories, predominately one of these types. I have no objection to this general scheme,
but I believe their discussion might have been more transparent had they focused on
explicit governmental policies rather than on these broad stereotypes. Here is my listing
of the types of policies that might align with each of the BLS prototypes:
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State-guided: Explicit industrial policy including subsidies, relatively
weak property rights, tightly controlled financial system, trade barriers for
favored industries;
Oligarchic: Non-transparent political processes, many opportunities for
rent-seeking behavior, state intervention in capital markets, trade
preference systems;
Big-firm: weak enforcement of antitrust laws, legal restrictions on entry,
protective trade barriers, restrictive labor market policies;
Entrepreneurial: Low entry barriers, free trade, weakly regulated
financial markets, efficient, outcomes-based antitrust policy.
The authors certainly mention all of these policy issues in passing, but I believe the
arguments of the book would have been more effective, though perhaps less glitzy, if
they had been focused around these various areas of policy. That would have made the
point, I believe, that a country’s location on the capitalism spectrum is not a fact of nature,
but rather arises from an explicit set of constitutional and policy choices actually made
through the political process. A political consensus that entrepreneurial capitalism is the
best from a social welfare perspective is necessary if policies consistent with this choice
are to be enacted.
The final chapter in BLS focuses explicitly on such policies, though it does not address
the thorny question of how to get these enacted. Overall, their policy list seems
eminently reasonable:
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Remove impediments to entry;
Adopt broad-based taxes with low marginal rates;
Foster adequate financial reporting;
Protect intellectual and other property;
Discourage rent-seeking;
Avoid misuse of antitrust and liability laws;
Adopt efficient (outcome-based) antitrust rules;
Use free trade to enhance competition;
Encourage innovation through the tax system;
Encourage a well-trained workforce.
It would be hard for any “free market” economist to argue with any of these, so I
certainly will not do so. But I do wish that the authors had pushed their line of argument
further into the realm of other government policies. For example, in several places they
mention how entitlement pressures in the government budget for old age benefits and
health care spending can limit what is possible in reforming complex tax systems. But
they treat these pressures as being completely orthogonal to their main argument. Surely
fostering entrepreneurial activity has some relevance to old age policy (private accounts)
and to health care reform (health savings accounts, refocusing health insurance toward
catastrophic coverage). Similarly, the authors mention education vouchers only in a very
brief and almost grudging paragraph. Again, there is probably no sector of the US
economy more in need of the kind of competitive pressures that new entry would yield
than education. Finally, the authors say practically nothing about environmental policy.
This is an area that seems especially promising for entrepreneurial activity. But it is also
an area where all of the policy impediments catalogued by BLS can easily arise. One
need look no further than current ethanol subsidies or litigation over “endangered”
species to see the kinds of distortions that can occur when special interests control
governmental policy. Whether we adopt sensible entitlement, education, or
environmental policies in the future will go a long way in determining whether the
economic growth favored by BLS actually occurs.
Walter Nicholson
March, 2008