Partial Capitalism

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Can a Country be Partially Capitalist?

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Partial Capitalism

  1. 1. THEORY AND PRACTICE OF CAPITALISM Wali Memon Walimemon.com2011 walimemon.com 1Wali Memon
  2. 2. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M Adam Smith (1723-1790)2011 walimemon.com 2Wali Memon
  3. 3. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  Adam Smith’s “Invisible Hand”: “It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard for their own self-interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.” (The Wealth of Nations, 1776)2011 walimemon.com 3Wali Memon
  4. 4. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  Adam Smith’s “Invisible Hand”: A man pursuing his own self-interest is “led by an invisible hand to promote an end which was not part of his intention. Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.” (The Wealth of Nations, 1776)2011 walimemon.com 4Wali Memon
  5. 5. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  Adam Smith’s “Invisible Hand”: “Every individual is continually exerting himself to find out the most advantageous employment for whatever capital he can command. It is his own advantage, indeed, and not that of society, which he has in view. But the study of his own advantage naturally... leads him to prefer that employment which is most advantageous to the society.” (The Wealth of Nations, 1776)2011 walimemon.com 5Wali Memon
  6. 6. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  The First Welfare Theorem of Welfare Economics: “A complete, competitive, full information general equilibrium is efficient.”2011 walimemon.com 6Wali Memon
  7. 7. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  The First Welfare Theorem of Welfare Economics: “A complete, competitive, full information general equilibrium is efficient.”  “Complete”?  “Competitive”?  “Full information”?  “General equilibrium (GE)”?  “Efficient”?2011 walimemon.com 7Wali Memon
  8. 8. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  Pareto Efficiency: An efficient allocation is such that it is NOT possible to find another allocation where someone can be made better-off without making someone else worse- off An efficient allocation is: • On the PPF of the economy • means fully-employed resources • does not guarantee equality2011 walimemon.com 8Wali Memon
  9. 9. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  Why is a complete, competitive, full information, general equilibrium (GE) efficient? • Adam Smith’s “invisible hand” theory (no formal concept of GE) • Leon Walras defined GE for the first time in 1874 • Kenneth Arrow and Gerard Debreu presented the formal math proof for the existence and efficiency of a competitive GE in 19542011 walimemon.com 9Wali Memon
  10. 10. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  The Second Welfare Theorem of Welfare Economics: “Under convexity assumptions of preferences and production set, any Pareto optimal allocation can be obtained as a competitive equilibrium through an appropriate distribution of wealth via lump-sum taxes”2011 walimemon.com 10Wali Memon
  11. 11. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Theoretical Efficiency of Market Capitalism:  Why is a complete, competitive, full information, general equilibrium efficient? • Examples demonstrating efficiency of a competitive GE: • Partial equilibrium example • General equilibrium in a pure exchange economy example (or Walrasian equilibrium shown in an Edgeworth box)2011 walimemon.com 11Wali Memon
  12. 12. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism: In general, laissez-faire market capitalism will not be completely efficient and this is called the problem of “market failure”  What causes market failures?2011 walimemon.com 12Wali Memon
  13. 13. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Monopoly power: • Violates competitive markets assumption • A monopolist will produce less and charge a higher price than would the competitive industry2011 walimemon.com 13Wali Memon
  14. 14. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Monopoly power: • Natural monopoly (e.g. electricity, water) • Monopolistic competition: • many firms in an industry producing a different (and thus unique) version of the same good or service • Oligopoly: • small number of firms in an industry2011 walimemon.com 14Wali Memon
  15. 15. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Monopoly power: • U.S. has a relatively more competitive and less concentrated economy • U.S. economy can support more firms in most industries than can many smaller economies2011 walimemon.com 15Wali Memon
  16. 16. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Externalities: • Violates complete markets assumption • Costs or benefits that are borne by or accrue to an agent other than the agent generating them • Negative externalities (e.g. pollution) • Positive externalities (e.g. innovations)2011 walimemon.com 16Wali Memon
  17. 17. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Externalities: • How do we solve the problem?: • Tax negative externalities and subsidize positive externalities (Pigou) • Command and control quantitative or technological restrictions • Clearly define and enforce property rights, then externalities will be automatically internalized if negotiation costs are negligible (Coase) • Form artificial markets2011 walimemon.com 17Wali Memon
  18. 18. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Public goods (Collective consumption goods): • Violates complete markets assumption • Public goods cannot be provided by private markets in optimal quantities and public production causes inefficiencies2011 walimemon.com 18Wali Memon
  19. 19. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Public goods (Collective consumption goods): • Two characteristics: • Non-excludability of consumption • Causes a free-rider problem • Non-depletability of consumption2011 walimemon.com 19Wali Memon
  20. 20. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Public goods (Collective consumption goods): • How do we solve the problem?: • Taxation? • Government provision? • Privatization?2011 walimemon.com 20Wali Memon
  21. 21. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Imperfect information: • Violates full information assumption • Asymmetric information • When one party in a transaction knows more than the other (e.g. Akerlof ’s “Lemons Problem”) • Adverse selection problem • Moral hazard problem2011 walimemon.com 21Wali Memon
  22. 22. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Limits to the Efficiency of Market Capitalism:  What causes market failures? • Imperfect information: • How do we solve the problem?: • Government can increase the amount of relevant info generally available2011 walimemon.com 22Wali Memon
  23. 23. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Role of Unions: In the U.S. history: • AFL (American Federation of Labor) (1881) • Wagner Act (1935) • established the modern U.S. system of collective bargaining • CIO (Congress of Industrial Organizations) • Taft-Hartley Act (1947) • put restrictions on union activities • AFL-CIO united (1955) • number of workers in unions peaked • Not much influential today2011 walimemon.com 23Wali Memon
  24. 24. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Role of Unions: In Western Europe, unions are: • Larger • More accepted • More influential • More centrally organized • Main political-economic base for Western European social democracy2011 walimemon.com 24Wali Memon
  25. 25. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M The Role of Unions: Percentages of the labor force belonging to unions 1955 1975 1995 Sweden 68 82 91.3 Denmark 59 67 80.1 Japan - 34 24 U.S. 24.7 21.7 14.22011 walimemon.com 25Wali Memon
  26. 26. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  The Role of Unions:  Effects of unionization: • If unionized workers are paid more, then this might weaken unions since it leads to unemployment (e.g. Belgium) • If unions cooperate with management, then high unionization might take place, productivity might increase and low unemployment is achieved. (e.g. Sweden)2011 walimemon.com 26Wali Memon
  27. 27. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Macroeconomic Instability of Market Capitalism: • Two main problems: • Unemployment • Fluctuations in GDP (business cycles) Unemployment rate = ?2011 walimemon.com 27Wali Memon
  28. 28. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Macroeconomic Instability of Market Capitalism: • Why is there unemployment?: • View of the Classical school: • Free markets are self-stabilizing • Intervention is bad since it generates inflation2011 walimemon.com 28Wali Memon
  29. 29. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Macroeconomic Instability of Market Capitalism: • Why is there unemployment?: • View of the Keynesian school: John Maynard Keynes “General Theory of Employment, Interest and Money” (1936) • Nominal rigidities due to contracts (wages not fully flexible) • Fiscal or monetary policy by government is suggested to stimulate the economy and to stabilize and smooth-out business cycles2011 walimemon.com 29Wali Memon
  30. 30. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Macroeconomic Instability of Market Capitalism: • Why is there unemployment?: • Tools of macroeconomic policy: • Fiscal policy tools: Government spending and taxes • Treasury makes tax proposals; executive agencies propose spending packages  Increase government spending or decrease taxes to increase aggregate demand2011 walimemon.com 30Wali Memon
  31. 31. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Macroeconomic Instability of Market Capitalism: • Why is there unemployment?: • Tools of macroeconomic policy: • Monetary policy tools: Money supply and interest rates • Controlled by the Fed in the U.S. (The Federal Reserve Bank; The U.S. central bank)  Increase money supply or lower interest rates to increase aggregate demand2011 walimemon.com 31Wali Memon
  32. 32. T H E T H E O RY A N D P R A C T I C E O F C A P I TA L I S M  Macroeconomic Instability of Market Capitalism:  Classical school: “monetarism” – Milton Friedman • To control inflation: control the growth of money supply so that it increases steadily at a rate equal to that of the rate of real GDP growth • Currently, focus is on managing interest rates with the goal of targeting inflation2011 walimemon.com 32Wali Memon
  33. 33. THANKS Wali Memon Walimemon.com2011 walimemon.com 33Wali Memon

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