Neoliberalism’s three blind spots and how we move on

In my last proper post I examined the idea of neoliberalism, a set of ideas that is at the heart of modern economic policy. I concluded by saying that most people think it has failed. But how can we move on?

The first point to make is that the two central insights of neoliberalism seem as valid as ever. The first is that markets provide the best way of processing information on complex human needs and how to meet them – and they do this far better than bureaucracy. The second is that governments and regulators are beset by dysfunctional incentives – and tend to serve the interests of elites and client groups, rather than the people as a whole.

This is the starting point for those that continue to defend the philosophy, though rarely by that name. They suggest that the problems that have arisen since the 1990s have much more to do with the advance of technology and globalisation than anything else. This is a rather pessimistic view. It suggests that society in the 1990s was faced with the choice of embracing technological change, with the benefits to health and wellbeing that resulted, or a futile attempt to keep change at bay for the sake of social stability. It is hard to think of any society that has successfully followed the latter path. The collapse of blue-collar and white-collar middle-income jobs was pretty much inevitable. And countries that seem to be more successful in embracing this change, like Germany, have done so by adopting policies that have undermined their global neighbours’ attempts to do the same thing. Germany preserves swathes of middle-ranking jobs only by exporting large quantities of manufactured goods to other countries compared to what it imports. By this pessimistic view, the world is being swept forward by technological change and governing elites are powerless to stop it. We may be alarmed at the political backlash, but any new leadership that this sweeps into power will most likely make things worse than better.

There is doubtless some truth to this. It is very striking how the political backlash seems bereft of new economic thinking. The right wants to create higher national boundaries and limit free trade between countries. This thinking recalls policies that deepened and prolonged the Great Depression in the 1930s. The left wants to expand state control. The Labour manifesto in Britain in the recent general election recalls to me the failed development policies in places like India in the 1950s and 1960s before a turn to neoliberalism unleashed massive growth. That isn’t entirely fair, of course, as both left and right also indulge in some new thinking. But it is really quite worrying that the only new idea on the left that has any currency is universal basic income – an idea that has no chance of meeting the huge expectations being placed on it.

But there are clear problems with neoliberal thinking. I think the three key blindspots are capital markets, Baumol’s disease and human organisational capacity. Add these together and you get pointers to what a post-neoliberal economic philosophy might look like.

First: capital markets. Hayek’s insights on the efficiency of markets does not to apply to assets, as distinct from goods and services. The market value of assets does not reflect their future economic worth. Bubbles build and burst, creating ruin in their wake. The problem is as old as the capital markets themselves – but that does not stop these markets from causing society’s resources from being allocated inefficiently. Another problem is that asset price inflation reinforces a gap between the haves and have-nots, and, in Britain, between the young and the old. Neoliberals (like the Economist newspaper) often say that the sky-high prices of land in popular cities simply reflect the laws of supply and demand, and that we should build more homes where people want to live. Whatever the truth of this, it is surely clear that excessive levels of personal debt are a large part of the problem – as well as the issue of human organisational capacity that I will come to. This causes the prices at which supply and demand balance to be much higher than they would be otherwise.

To cut a long story short, modern developed economies (especially the Anglo-Saxon ones) place far too much reliance on private debt, and this leads to instability and inequality. The risks associated with state debt, by comparison, look easier to manage. One leg of the neoliberal system of economic management, monetary policy, is broken.

The second issue is what economists call Baumol’s disease. This idea has been in circulation for decades, and is taught to economics undergraduates. It is amazing how little its implications seem to be understood. Baumol pointed out that as productive sectors of the economy develop in efficiency, the less productive sectors bulk up in proportion. Agriculture used to account for the bulk of the British economy; but as it became more efficient it eventually sunk to a small fraction of it. The same is now happening to manufacturing. As we become more efficient the bulk of jobs will be in sectors where high productivity is impossible or undesirable. And in the current situation they will increasingly be in sectors where market solutions have been found wanting. These include healthcare, education and law enforcement. These sectors are dominated by government and the public sector. We must expect the public sector to grow, and we must learn how to manage this, rather than trying to push the boundaries of the state back.

My third issue is what I have rather clumsily called human organisational capacity. The human brain can only handle a limited number of connections efficiently. And humans are at the centre of human organisations. Artificial intelligence won’t change that; it will simple extend the reach of what individual humans can do. This human capacity sets limits to the size and scope of human organisations. Organisations that grow eventually face a stark choice. They either become staggeringly inefficient, or their operating systems have to be very lean, requiring few people to operate them. Commercial organisations are forced into the latter category by competition. Dealing with a large corporation now, like Google, Amazon or PayPal is extremely frustrating for ordinary human beings, unless you manage to stick to the automated procedures that they prescribe – which are unable to handle any degree of complexity. Modern technology is allowing these commercial organisations to extend their reach by cherry-picking things that are simple to deal with, and leaving behind the difficult ones. This is creating a hollowing-out effect that is one of the big drivers of inequality.

Governments, meanwhile, are left to pick up the pieces. But they are subject to similar limitations. They have to choose between monstrous inefficiency or simplification. As tight finances force them into the latter course, power accretes to an elite in geographically concentrated centres of power. Neoliberals tend to shrug at this, and simply say that this is price we pay for a more efficient society. But I think it points in a different direction: to towards the decentralisation of political power, and the development of local democracy. One country has taken this idea further than any other: Switzerland. But if you go there you do not find grinding poverty as people are forced to choose between local control and drawing the benefits of modern society. You find one of the most prosperous societies in the world, with economic activity geographically spread out. One key thing to note: the Swiss have not just found ways to devolve political power to relatively small units, but they have also found ways to involve their citizens in taking responsibility for the society that they live in.

All this raises many, many questions. But the overall direction of travel is clear. We need to expand the scope of the public sphere (I am being careful not to use the word “state”), but also to shrink it geographically and allow people to take more ownership of it. Markets are useful, but we need democracy too.

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7 thoughts on “Neoliberalism’s three blind spots and how we move on”

  1. I’m not sure I agree with the assumptions here. We had markets before we had neoliberalism. Governments and their imposed regulations may not be perfect but in a democratic society they are the best we’ve got. The idea that markets and economies are self correcting and self-righting organisms which don’t need any management at all has been responsible for most of our recent economic troubles. This is what neoliberalism really means.

    In the fact the whole of the eurozone has been created on the assumption that all it needs is a central bank. The resultant mess shows the failure of neoliberalism. Although the EU is largely a mixture of ordoliberalism and neoliberalism. From what I know of the ordoliberals I’m surprised they agreed to it all.

    Markets are fine provided they are well regulated. There may be a question mark over the use of the word ‘free’ in connection with markets , but I’d argue that even under neoliberalism that word is somewhat misleading.

    1. It’s splitting hairs, but I would say that belief in markets to be fully self-righting is classical (from 19th century on) and neoclassical. Neoliberals subscribe to markets not because they think they self correct, but because they believe that they are the most effective method of communicating information on supply and demand available. They believe that central bank interventions are required to regulate business cycles, for example. If you really believed in self-correcting markets you would not accept that central banks should set interest rates – they should let supply and demand for capital do that with as little intervention as possible. But for your purposes it probably boils down to the same thing – a blind spot to the weaknesses of unregulated markets.

  2. “But it is really quite worrying that the only new idea on the left that has any currency is universal basic income – an idea that has no chance of meeting the huge expectations being placed on it.”

    I’m not sure why this has gained the attention it has. Another suggestion is the Job Guarantee which doesn’t seem to have been picked up much at all. I’d suggest that it’s fair enough to guarantee a basic income for everyone but on the other hand if those receiving it are capable of making some contribution to society then they should be required to do so.

    It would break the cycle of long term unemployment leading to more unemployment and eventually unemployabilty. It would set a minimum wage and minimum acceptable conditions. It could be tied in with support for those in education and apprenticeships. We just need a little imagination and at least willingness to try out some pilot schemes in areas of high unemployment.

    1. I think the idea of a Job Guarantee is a much more promising one than a basic income, and I would be very happy if more work was done to flesh it out. It fits my idea that the public sphere has to expand, and at heart there is a contract of sorts between the individual and the state, which gives the opportunity to humanise it – e.g. by tailoring the job to the individual’s circumstances. Basic income strikes me as fundamentally alienating, it is the state saying: “Here’s the money, now go away and don’t bother me again.”

      1. Having made a brief case for a Job Guarantee I should say I’m not totally sold on the idea. There’s the problem of how workers on a JG should be treated. Can they join a union and can the union negotiate a pay rise for them? The devil is, as always, in the detail.

        Bill Mitchell is keen on the idea though. Sometimes he brings bales of wool into the argument. Saying that if the Aussie Govt can buy up surplus bales of wool then it can buy up surplus labour. I’m not comfortable with that comparison. The equivalent in the EU would be apples and butter I suppose.

        Incidentally I’m involved in inviting him to a fringe meeting at the Labour conference in Brighton!

        http://bilbo.economicoutlook.net/blog/?p=23719

  3. “You find one of the most prosperous societies in the world, with economic activity geographically spread out. One key thing to note: the Swiss have not just found ways to devolve political power to relatively small units, but they have also found ways to involve their citizens in taking responsibility for the society that they live in.”

    The Swiss regions, devolved councils etc, don’t need money from central government in the way their counterparts do in the UK. The Swiss economy is a net exporter. So depending on the level of saving by the private sector Govt’s role is to run at least a balanced budget or even take money out of the economy by running a surplus.

    In the UK the direction of money flow has to be in the opposite direction to replenish money lost to pay the net import bill. Devolution can still work. But devolution on the basis that the devolved bodies have to balance their budgets is just going to lead to higher levels of recession and even depression, especially in the less prosperous regions.

    1. I agree. I would suggest that the Swiss are net exporters (or more self-sufficient) partly because they have well-developed devolution – but, as you often point out, that is not a strategy everybody can use. And we have to start with our economy as we find it, and that means that devolved bodies must be able to run deficits. If only the central state can run a deficit, it isn’t really devolving power.

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