As the world sinks into the worst recession since the 1930s, leaders of the top 20 countries are meeting in Britain to discuss major reforms of the world economic system. There is a consensus that the existing system has failed massively, especially in the US.
The five biggest investment banks in the world (Lehman Brothers et al) have vanished in the financial carnage. The two biggest mortgage companies in the world, Freddie Mac and Fannie Mae, are under government overlordship. The biggest insurance company in the world, AIG, is on government life support. The biggest bank in the world, Citibank, has survived only with massive government help. General Motors, the biggest auto company in the world, is also on life support. The greatest icons of US capitalism are on crutches.
But hold the dirges. The most vocal critics of US capitalism are sinking too. Look at Latin American socialist regimes (Venezuela, Bolivia, Ecuador), Russia and Iran. For all their socialist rhetoric—President Chavez of Venezuela has long sworn to spearhead a socialist Bolivarian revolution in Latin America—their rival economic models look bankrupt too.
The IMF estimates that Venezuela and Iran needed an oil price of $ 90-95/barrel to balance their budgets. When the price rose to a peak of $ 147/barrel, these countries were awash in petrodollars, and made grandiose plans. Chavez offered half his oil to Latin American friends at concessional rates. But now he in running down his forex reserves to survive.
President Ahmedinajad in Iran planned fancy welfare plans with oil revenue, and switched Iran’s foreign reserves from dollars to euros to teach the Yankees a lesson. His spending plans have come unstuck after oil revenue plunged by two-thirds. Inflation is running at 26%. Ahmedinajad now looks like losing the coming Iranian election to his moderate rival Khatami.
The Russian economy soared along with oil prices, is now crashing in tandem. In the Russian model Putin and his friends own large chunks of natural-resource companies, some of which are nominally state controlled. They allow other oligarchs to flourish on condition that they toe the party line. The Russian stock market has fallen more than any other (almost 80%). Russia has spent one-third of its forex reserves to defend the ruble, which is nevertheless down from 25 to 35 to the dollar.
It is no accident that so many critics of western capitalism are petro-states. A market economy succeeds by providing incentives for raising productivity and incomes. A state-controlled system is lousy at providing the right incentives, and so is bad for productivity. But a petro-state thrives simply on the geographical accident of mineral wealth, not great enterprise or efficiency.
Socialists bemoan the capitalist emphasis on profit and growth, and focus on distributing wealth instead. This would be fine if money dropped from heaven, and the only task of governments was to distribute it. But if you have to produce the wealth in the first place, markets do it much better.
However, in the petro-state oil revenue is manna from heaven, so the ruler can (for some time) focus on distributing wealth rather than creating it. Under Chavez, Venezuela’s oil production has dropped from 3.2 million barrels/day in 1998 to just 2.4 million barrels/day. His system is manifestly inefficient. Yet this inefficiency has long been cloaked by the bonanza arising from high oil prices. Ditto for Ahmedinajad’s Iran.
Seen in this light, the biggest critics of the US model are in fact pathetically dependent on it. When capitalist economies decline, so do the supposedly rival models. Clearly, they are not rival models at all but parasites of the capitalist model.
In April 2008, Iran started pricing its oil in euros and yen rather than dollars, anticipating gains from exiting what it regarded as a fundamentally weak currency. Iran switched the bulk of its forex reserves out of dollars into euros and yen. Alas, it weakened only itself, not the US. The dollar has strengthened hugely in the last year—the euro is down from a peak of $ 1.60 to just $ 1.26. Countries that switched their reserves to euros and yen have lost heavily.
The true strength of a system is revealed in times of adversity. Today, despite US economic travails, the world views the dollar as a safe haven. The US system has a thousand flaws, but others are no better, and sometimes worse. Certainly the world economic system urgently needs major reform, and the G-20 meeting in Britain needs to kick-start the process. But the reforms must aim at a safer, gentler capitalism, not Bolivarian socialism.