THE GOLDEN YEARS OF THE MIXED ECONOMY 1949 TO 1971

BACKGROUND

SPEED, STRENGTH OF (FIRST WORLD) ECONOMIC RECOVERY POST WW 11, AND ITS SUSTAINED MOMENTUM TILL 1970s, BASED ON THREE PILLARS:

Three Pillars
1. US role as Superpower: assumes responsibility for global balance of power, and economic and military support of allies (Europe, Japan/SK/T, TIP); 2. Institutional arrangements to underpin economic management: Financial Institutions (BWI) with designated responsibilities, common framework of economic policies, and strong international co-operation all as outcome of lessons learnt from the Great Depression; 3. The rise of Social Market economies the Mixed Economyvalidated Keynesian economic thesis: high investment and high production with low inflation and low unemployment possible when State (fiscal) intervention balances market forces.

 STAGFLATION IN THE LATE 70s UPSET THE KEYNESIAN CONSENCUS: THEREAFTER, THE WASHINGTON CONCENSUS EMERGED, BASED ON MONETARISM WITH DIMINISHED ROLE FOR STATE

SIGNIFICANCE OF US ROLE AS SUPERPOWER

Balance against Soviet Russia: WWII left Soviet Russia as leading European military power. Russia needed Eastern European land buffer; Western Europe security needed US military integration. US wary of Russia post Korean war, rise of Communist China. United Nations Headquartered in NY: US had not been member of predecessor League of Nations; US made aggressive use of its role as Permanent Security Council member; Initiated BWIs; European reconstruction/refugee rehabilitation; Marshall Plan and NATO: Contributed to European economic recovery, and to European security; reduced level of Euro Defence expenditure; Economic hegemon: at end of WWII, US generated 60% of global industrial production; huge lead in science and technology, developed during military research, poured into civilian industry. But self-interest played a great role in how US assistance was structured: Marshall Plan spurred by strength of Communist parties in France, Italy, and Greece; tied to purchases from the US and Canada; free Trade suited US most, as possessed largest export capacity.

2. INSTITUTIONAL ARRANGEMENTS FOR GLOBAL ECONOMIC MANAGEMENT AND EUROPEAN RECOVERY:

BACKGROUND POST WWII POLICY MAKERS SOUGHT TO AVOID RECURRENCE OF ECONOMIC POLICIES THAT LED TO THE GREAT DEPRESSION -- THROUGH SETTING UP INSTITUTIONAL ARRANGEMENTS, UNDER AEGIS OF THE UNITED NATIONS, ENSURING INTERNATIONAL ECONOMIC COOPERATION TO ENCOURAGE INTERNATIONAL TRADE; INTEGRATE MONETARY POLICY PRINCIPLES; AND STABILISE EXCHANGE RATES.

Economic Management
TWO ASSOCIATED ARRANGEMENTS WERE: GATT (LATER WTO): PROCESS OF SUCCESSIVE MEETINGS ( ROUNDS) TO PROGRESSIVELY RUN DOWN TARRIF AND PREFEFERENCE RELATED TRADE BARRIERS BETWEEN COUNTRIES:HAS BEEN SUCCESFUL IN SUBSTANTIALLY REDUCING TRADE BARRIERS AND IMPROVING MARKET ACCESS, BUT STILL POLITICAL IN ITS WORKINGS; GOLD STANDARD REPLACED WITH EXCHANGE RATES TIED TO US$, WHICH CONVERTIBLE INTO GOLD AT $35 PER OZ; SCRAPPED IN 1971, WHEN OVERSEAS $ LIABILITESOF US AMOUNTED TO 5 TIMES US GOLD STOCK (VS GOLD STOCK 7 TIMES GREATER AT INCEPTION IN 1949).

The Bretton Wood Institutions

I

IMF: to ensure stability in international exchange rates through harmony in monetary policies of IMF members; to provide funds for short-term Balance of Payments deficits, under Structural Adjustment Programmes(SAFs, imposed various conditions); IMF originally envisaged as global Central Bank, creating global currency (Bancors), but US objected and US $ hegemony prevailed Lesson from Great Depression: to prevent deflationary adjustment to BOP deficits, as required under strict Gold standard. NOTE: US held 33% of IMF quota, so could prevent any change to rules.

Bretton Woods Institutions.

IBRD: to provide finance post-war reconstruction and infrastructural projects Lesson from Great Depression: to increase access to capital for important national projects with long-term payback. Subsequently, BWIs were enlarged to include International Finance Corporation (IFC) and International Development agency (IDA). IFC finances private sector projects: IDA finances the lowest-income countries.

Other Post WWII arrangements for economic revival; Marshall Plan

$ 13 bn made available, by US, to Europe for reconstruction; largest recipient UK, then France and Italy. While most of funds were in grant form (80%), local currency counterpart funds existed till 1971. MP disbursements were conditional on countries making currency convertible; opening to free trade; and maintaining fiscal balance these factors were also beneficial to US businesses. US aim was to ensure European economies tied into private sector led growth, with Government intervention largely as development agent and as provider of Social Safety net.

NATO
Post Korean War, Communist victory in China, and Russian domination of Communist states in eastern Europe, US formed NATO along with Western European partners. Purely in economic terms, NATO beneficial to Western Europe in 50s and 60s; amount equal to 1% of GDP spent on NATO within Europe, benefitting local economies; further European countries reduced their own defence expenditures.

THE GOLDEN YEARS OF THE MIXED ECONOMY STATE

BETWEEN 1949 AND 1960, EUROPE SAW THE FASTEST ECONOMIC GROWTH IN ITS HISTORY. USING 1914 AS A BASE, GERMANY GDP WAS 40% HIGHER; FRANCE 70%; ITALY 100%...THAN IF GDP HAD GROWN AT THE PRE-1914 TREND, I.E. EUROPE MOVED ON TO A QUANTULY HIGHER GROWTH PATH IN SPITE OF TWO WORLD WARS. WHAT WERE THE PRINCIPAL FORCES BEHIND THIS ESCALATION IN GROWTH; WHAT SUSTAINED THE YEARS OF HIGH GROWTH, HIGH EMPLOYMENT, HIGH DEMAND WITHOUT OVERHEATING; AND WHAT WERE THE FACTORS RESPONSIBLE FOR THE DECLINE OF KEYNESIAN ECONOMIC PRINCIPLES, AS STAGFLATION TOOK HOLD IN THE 1907S?

ACCELERATION OF EUROPEAN GROWTH

Three factors primarily responsible for accelerating growth: Free trade: Political principle: integrate Europe through trade, to avoid future wars. European openness to trade i.e. X+I/GDP rose on average from 20% to 55% by 1960. Improved technology; Partly from knowledge developed from Military production; partly catching up with US technology that had continued to grow; establishment of European J/Vs, collaborative research and development; Capacity to run Budget and Current Account deficits: Marshall Aid helped Capital inflows; moderate inflation but low interest rates exchange rate stable to strengthening, because of rapid increase in export volumes and capabilities.

 Europe was successful mixed economy. High welfare expenditure, and Govt ownership of utilities/some heavy industry (Aeronautical; specialized steel and chemicals; Mining), with encouragement of private sector across all other sectors. Resource allocation left to market at market prices (i.e. no Licensing/FX allocations/permits). Highly trained and productive labour force; immigration encouraged, stopped excessive wage increases; Voluntary restraint on timing of wage increases (adjusted against past inflation; manufacturers kept profit margins moderate; Income distribution favoured rapid growth of sizeable middle class, with rising appetite for consumption;

What sustained high growth/ high employment/high demand without overheating?

High growth.
High levels of investment in the economy, rising from around 20% to 35% of GDP; domestic savings supplemented by FDI. Internal reconstruction demand helped rapid expansion of steel, engineering and construction companies, in early phases.

WHAT BROUGHT AN END TO KEYNESIAN MODEL

Smithsonian agreement (1973) ended $ convertibility into Gold: henceforth floating exchange rates. $/Gold convertibility had kept countries keen to maintain fixed exchange rate against $, period of stable exchange rates ended. Oil price hikes in 1973, again in 1979, accelerated inflation, running between 12% and 20% mid to late 70s. Huge currency fluctuations, instability; Labour broke tradition of ex-poste wage increases, now sought to be preemptively indexed against inflation: manufacturing costs rose, demand fell, and unemployment increased. Several rounds of Income and Wages policies failed.

End to Keynesian model..

Keynesian expectation that you could not have high inflation and high unemployment, collapsed: Stagflation took hold, rising prices with falling employment. Enter the Monetarists; Milton Friedman had argued that controlling money supply would choke off inflation, at NAIRU. Central Banks given job of managing money supply via interest rates; $ rates went up to 20%, to recue demand. Reagan/Thatcher supply-side revolution commenced; Globalisation accelerateda new world order for economic Policy Management.