Neo-liberal impasse for emerging economies

Neo-liberal doctrines have been dominant in the Eastern and Central European countries – but Aldis Austers argues that this has been to the detriment of economic development. He offers some compelling data analysis and solutions for overcoming the problem at hand.

According to the dominant neo-liberal economic doctrine, emerging economies, willing to achieve long-term economic growth, should keep their public finances in check, inflation low, current account in surplus, and taxes low. Phenomena such as high unemployment rates and growing income inequality, observed in emerging economies, are regarded as unavoidable collateral damage before adequate “structural conditions” are put in place – namely, high international competitiveness achieved with a a high amount of foreign direct investments.

My argument is that such an approach may work only in countries where labor is abundant and where people are desperate enough to agree to any job contract. Yet, even in these countries the economic development will last only up to a certain point falling short of individual welfare enjoyed by the most developed nations. Many emerging Eastern and Central European (ECE) economies suffer from demographic decline and emigration. The continuation of the neo-liberal approach can have devastating effects subjecting those countries to a permanent state of backwardness.

In fact, neo-liberal ideology is primarily a product of Western economic thought, invoked to refurbish the ailing Western economies in late 1970’s. Neo-liberalism was free-marketers’ answer to allegedly excessive unionization and welfarism in certain Western countries, most notably in the United Kingdom. The so called “embedded liberalism” of the post-war era was ditched as incompatible with the trends of the contemporary globalization.

The problem with neo-liberalism is that it treats people as objects, like bricks, which, if abundant, can be put aside until they are of use again. But people live today and deserve their needs to be served and expectations of improving welfare to be met. People’s frustration takes away their creative potential and leads to underperformance which ultimately kills economic development. The comparisons between statistics on economic development, public expenditure on welfare, cost of living, inequality and living conditions among a number of European countries provides empirical proof of the foolishness of neo-liberal doctrine and the impasse it leads to.

First, let’s look at the correlation between welfare measured by GDP per capita in purchasing-power standard and the level of public expenditure (in % of GDP) in different European countries. Figure 1 shows that the richest European countries tend to spend proportionally more on public needs, inter alia for welfare programs, than their less affluent peer countries. Low taxes in emerging European countries limit their governments’ capacity to provide decent public services (e.g. in health, education and science) and competitive remuneration in the public sector.

Click to enlarge
Figure 1. Correlation between economic performance and the level of public expenditure, 30 countries, 2012

chart 1

Red lines denote the average level in the group of EU-28 countries while the black line shows the trend.
Source: Eurostat: GDP and main components – Current prices [nama_gdp_c]. Government revenue, expenditure and main aggregates [gov_a_main]

Second, let’s compare the cost of living measured in different countries and indicators of inequality (measured as distance between the wealthiest and poorest quintile of population (S80/S20 measure). Figure 2 reveals a clear trend pointing to the fact that the countries with the highest cost of living have more income equality between different groups of people. Inflation, in fact, is indispensable for the equalization of income levels in quickly growing economies. Restricting inflation works against the ideal of a just society in those economies.

Click to enlarge
Figure 2. Correlation between price level indices and the level of inequality of income, 30 countries, 2012

chart 2

Red lines denote the average level in the group of EU-28 countries while the black line shows the trend.
Source: Eurostat: Purchasing power parities (PPPs), price level indices and real expenditures for ESA95 aggregates [prc_ppp_ind]. Inequality of income distribution S80/S20 income quintile share ratio (source: SILC) [ilc_pns4]

The neoliberal doctrine has been detected as an impasse for the economic development of emerging ECE-countries. But what actions must be taken to improve and foster the ECE-countries economies? Here are some suggestions:

1. Increase public spending, especially in terms of the public welfare system; taxes must be raised to ensure sufficient funding to run decent public services.

2. As the figures suggest, an increase in the general level of prices simultaneously causes inequality to shrink. Therefore, increased inflation rate of ECE-countries must be tolerated to foster equal living and income conditions (of course, not forgetting to index income of public servants and beneficiaries of social payments).

Fotocredits: via flickr



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