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Central Planning versus Free Markets

by Roger Bourke White Jr., copyright March 2015

Introduction

One of the chronic questions of real world national economics in the 20th and 21st centuries is which works better: Central Planning or Free Markets?

Places such as the United States and post-Thatcher Britain have chosen free markets most often, and places as diverse as China, Cuba and Soviet Russia have chosen central planning most often. Keep in mind that this is not a black-and-white issue -- most nations are in the shades of gray area.

Another tough choice is: Spend on something that rewards quickly but not much, or spend on something that rewards slowly but over time returns a whole lot? This is covered in the Progress versus Fairness section.

What this essay is about is which environments are best suited to each of these styles.

The Big Question: What to invest in?

The constant question facing industrialized and industrializing nations is what to invest in? The one constant is that there are always many, many more opportunities to invest in than there are funds and other resources (such as skilled people) available to spend. Hard choices must be made.

There are many choices in what to invest in, many choices in how to acquire the funds that will be invested, and many choices in how to allocate the investment, as in, what should actually get built? Adding to the swirling nature of this mix is the question of what return is expected from the investment, as in, who is going to benefit?

Here is an example:

It is decided, by someone who can make the decision, that a road should be built from Town A to Town B. Here are some of the choices that ensue from this simple decision:

o What kind of road should it be? Some possibilities: simple two-lane, four-lane expressway or railroad.

o What route should it take? Which land is going to have to be bought or appropriated?

o How will it be financed? Where is the hard cash coming from? How is that hard cash getting paid back?

o Who is going to build it: What companies or governmental organizations are going to be doing the actual "heavy lifting"?

o Who should benefit from this? This is an arm-long list of choices, which includes who gets the fruits of any corruption.

o What is not getting built because the resources are being used for this road? Is this putting these other projects off a good choice?

 

In sum, this may be a simple project to describe and envision, but executing it is not a simple choice or a simple task. So, when does free market handle a task such as this better, and when does central planning do so?

Central Planning Shines

Central planning shines when a project is big, well understood, and doesn't change much with time. When constructing steel mills became well understood in the mid-20th century, the USSR's central planning could build them as effectively as the free market steel companies in the US could. Likewise, well after it was built and running smoothly, the Egyptian government could run the Suez Canal as well as British or French-based free market companies could.

Mature heavy industry, road and railroad building are examples of these kinds of big, stable and well understood projects, and this is why governments have taken over many of these projects.

Another area where central planning shines is when fairness in handling a project is considered more important than rapid progress. Central planners are good at coming up with schemes, such as subsidizes, which distribute wealth in what the community considers a fair way.

Free Market Shines

The free market system is at its strongest when there is a lot of uncertainty, complexity and change involved in the project. When the goal of investing is uncertain, or a moving target, free markets work better.

The virtue of the free market in these circumstances is fast adaptability -- if Plan A doesn't work out, try, try again, and quickly. If Plan C changes what is the best way to solve Plan A, the free market discovers this quickly and adapts to it quickly.

The "bottom line" mentality of the free market system is often criticized as being something narrow-minded and misguiding. But, in fact, it is a powerful virtue. Having the bottom line mentality means that results are constantly being monitored, and monitored in a forceful way. If things aren't working well this is discovered quickly because the bottom line suffers. And when the bottom line is suffering there is powerful incentive all through the organization to fix the problems. Designing an incentive system to monitor results that is as effective as bottom-line mentality is always a big challenge for central planning systems.

The level playing field

One key element to making free markets work well is "the level playing field". This means things such as fair laws and lots of transparency. Free marketers observe the system they are working in actively and carefully, and respond to it quickly and flexibly. The more there are "you can't do that" barriers or murky backroom dealings going on, the less well the free market works.

The transparency part is also critical for good functioning in central planning systems -- good choices can only be made when lots of good information is available.

A second benefit is that transparency allows corruption to be spotted more easily.

Progress versus Fairness

As I cover in my book Goat Sacrificing in the 21st Century there is often a lot of arguing over which is more important: progress or fairness. The spending on things which return quickly, but not much, are usually favored by fairness advocates. Conversely, those who are willing to sacrifice now for big returns in the future are progress advocates.

"The rising tide lifts all boats." is a truism which values progress over fairness, and "The rich get richer while the poor get poorer." is a truism which values fairness over progress.

The "occupational hazard" of investing too much in progress is not spreading enough of the wealth gained around to alleviate the suffering of poor people. The occupational hazard of investing too much in fairness is in borrowing money to do so which can not then be paid back. The suffering is alleviated only temporarily and is then followed with an austerity crash, or repression, or both.

The pendulum swings back and forth on this issue, and at both extremes there is a lot of suffering. When it swings towards the progress side there is a lot of suffering of the sort described in Charles Dickens stories. When it swings toward fairness side the leaders riding this swing often borrow lots of money to make their dreams come true, but borrow too much. Then comes a crash, and there has been no progress at all -- the poor are suffering as much or more as they did before the fairness leader began his or her programs.

--The End--

 

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