On the Future of Capitalism: The State as Shareholder?

In a recent article, Return on Investment and Competition: Outmoded Economic Incentives?, we reported on an article by Christopher Meyer and Julia Kirby, Runaway Capitalism, that appeared in the Harvard Business Review. Those authors presented a view of classical capitalism and its traditional incentives as being overcome by events. They argued that capitalism, if it were to survive and flourish, must become motivated by broader societal goals rather than just the profit of any individual enterprise. They also argued that the model for the capitalism of the future would emerge from the developing countries that are growing rapidly and have the need and opportunity to experiment with economic approaches. As if in reply to that suggestion, The Economist produced an extended report on what it referred to as "state capitalism:" The Visible Hand. The report focuses on the developing countries of China, Russia, and Brazil which have all developed forms of state capitalism.

The report will eventually take the traditional stance that private companies will always perform better than firms with a degree of state control, but it does issue this statement:

"But the report will also argue that state capitalism is the most formidable foe that liberal capitalism has faced so far."

The state-run enterprises of today have little resemblance to those of earlier periods.

"The crisis of liberal capitalism has been rendered more serious by the rise of a potent alternative: state capitalism, which tries to meld the powers of the state with the powers of capitalism. It depends on government to pick winners and promote economic growth. But it also uses capitalist tools such as listing state-owned companies on the stockmarket and embracing globalisation. Elements of state capitalism have been seen in the past, for example in the rise of Japan in the 1950s and even of Germany in the 1870s, but never before has it operated on such a scale and with such sophisticated tools."

This chart provides an illustration of the strength of the state-assisted corporations.

"State capitalism is on the march, overflowing with cash and emboldened by the crisis in the West. State companies make up 80% of the value of the stockmarket in China, 62% in Russia and 38% in Brazil..... They accounted for one-third of the emerging world’s foreign direct investment between 2003 and 2010 and an even higher proportion of its most spectacular acquisitions, as well as a growing proportion of the very largest firms: three Chinese state-owned companies rank among the world’s ten biggest companies by revenue, against only two European ones.... Add the exploits of sovereign-wealth funds to the ledger, and it begins to look as if liberal capitalism is in wholesale retreat...."

Governments have demonstrated increasing sophistication in their interactions with industry. They have learned to back off trying to manage the smaller sectors of their economies and focus on large, strategically important areas and corporations. In most instances they have been content to become minor shareholders. This allows them to have influence, but to share influence with private investors. It places business in the hands of a cadre of professional managers who are both financially and politically adept. A corporation with its state as an investor has numerous advantages in terms of raising capital, tuning regulations, and interacting with the international community. This model, at present at least, has momentum, and has the aura of sustainability.

"This "axis of state capitalism" is gaining an ideological edge as the emerging world goes from strength to strength, America pulls in its horns, Europe implodes and the G20 takes over from the G7. Politicians across the region feel sure they have a formula that can combine economic dynamism with order, taking in the best of capitalism (those sleek modern corporations and clever wealth funds) without unleashing the havoc that devastated Russia in the 1990s and threatened to consume America in 2007-08. Proponents of this ideology revere Lee Kuan Yew as a founding father, see America as a wounded giant and dismiss Europe as self-indulgent and lazy. But they also admire Silicon Valley and Google, MIT and General Electric, Harvard Business School and McKinsey."

The authors of this article fear that this state-supported and state-directed model will provide incentives that will ultimately be detrimental to the international economy and to the states themselves. They provide some obvious criticisms:

"But state capitalism nevertheless suffers from deep flaws. How can the state regulate the companies that it also runs? How can it stop itself from throwing good money after bad? How can it remain innovative when innovation requires the freedom to experiment?’

The article concludes with this curious remark.

"But state capitalism’s biggest failure is to do with liberty. By turning companies into organs of the government, state capitalism simultaneously concentrates power and corrupts it. It introduces commercial criteria into political decisions and political decisions into commercial ones. And it removes an essential layer of scrutiny from central government. Robert Lowe, one of the great Victorian architects of the modern business corporation, described businesses as ‘little republics’ that operate as checks and balances on the power of the big republic of government. When the little republics and the big republic are one and the same, liberty is fatally weakened."

Those of you who had been worrying that government has not been doing enough to protect citizens from the predations of corporations will no doubt be surprised to learn that it is corporations—and the bigger the better—who are tasked with protecting us from the predations of government. All of those lobbyists are really patriots doing their duty as super-citizens.

The arguments presented against state capitalism seem tinged with quite a bit of wishful thinking. They really consist of two themes. Firstly, if it didn’t work before, then it won’t work now. Secondly, I don’t like it; that is not the way we do things; let’s hope it fails.

Traditional capitalists should be concerned. A subtle and efficient melding of economic and political interests can be a powerful mechanism for acquiring whatever it is that a country desires. While it can be misused, it is not clear that state capitalism is any more threatening than any of the other –isms we have endured throughout recent history. There is also no reason why the construct cannot produce efficient, powerful, and sustainable economic enterprises. And there is a bit of irony in seeing our proud captains of industry whining because others are not "playing fair."

Let us return to the starting point with the complaint by Meyer and Kirby that capitalism was in a runaway condition because of a failure to follow metrics that included the broader good of society. Having corporations led by individuals who have dual allegiances—to the good of the corporation and to the good of the state—seems a very interesting experiment.

Stay tuned: "the times they are a changin’"