The roadmap, part V: One order of markets, but hold the dogma

(A few years ago, a group of academics and practitioners got together and looked at the types of policies that most countries with high growth experiences had implemented. Their results, published in “The Growth Report,” are as close to a recipe book on growth as you’re going to find.

This is the fifth part in a series of essays exploring the common policy choices made by high-growth countries, and what Venezuela needs to do to implement them. The motivation for the series can be found here. In Part II, I tackled the importance of inserting Venezuela into the global economy. In Part III, Quico discussed getting the macroeconomic fundamentals right. In Part IV, we highlighted the importance of having a financial system that fosters savings and investment.

The policy we deal with now is how to let the market tell us what we have a comparative advantage in.)

Take a stroll to your nearest produce market – Quinta Crespo, Las Pulgas, La Vega, La Boquería, Marché Jean Talon, Zabar’s, whichever one is closest. What do you see?

You probably see a lot of stuff. You see transactions, prices, shoppers. There is also a lot of stuff you don’t see – the stuff that people simply don’t purchase at produce markets. For example, you probably won’t see sales of luxury villas, or heavy machinery, or cruise ships.

The reason is that people who go to these markets are not looking to purchase a trip on a cruise ship, or a piece of heavy equipment. They don’t value those things enough to pay for them … at least in those places they don’t. In other words, the value of these things to the sellers exceeds the value the purchasers are willing to buy them at, and when that happens, transactions usually do not take place on their own.

Markets are providers of information – they tell you what you are good at selling, and what you shouldn’t be selling. Having workable markets for your products is an essential component to development – without them, you simply end up producing junk.

During the 1960s and 70s, Venezuelan policy makers mirrored what everybody else in the rest of the world was doing: sheltering the home market via high tariffs, fixing prices, and creating artificial industries that provided the local market with everything from cars to steel beams. By isolating our countries from market forces, we were growing industry alright, just not an industry that could survive on its own. The market – the real one, that is, the international one – was not there to provide us with discipline, to tell us whether or not we should be producing cars and steel beams.

A lot of people hear the word “market” and they think of ideology. Either you’re “pro-market,” which in the words of the current government in Venezuela means you probably eat infants for breakfast, or you’re “anti-market.” The whole debate on “markets” has become so politicized, it obscures the best thing that markets provide: information about what you’re good at. That is one of the many things that years of chavista innoculation have taken away from us, the very notion of discovering what we should be doing.

Of course markets on their own cannot succeed. You need something else, a key component: property rights. Everybody who goes to a market must be confident that the rights of all will be respected: the cash in my hand, the credit card in my wallet, the tomato in my stall – unless everyone knows what belongs to whom, markets will not flourish.

The most succesful countries in the world have learned what they are good at thanks to the market. How exactly have they done it? Well, it varies. To quote “The Growth Report”,

“Countries varied in the strength and clarity of their property rights. But in all cases, firms and entrepreneurs felt they had enough of a claim on their assets to invest heavily in them.

In Hong Kong, China, the administration was famously laissez faire. Other governments in our list were more hands-on, intervening with tax breaks, subsidized credit, directed lending and other such measures. These interventions may have helped them to discover their comparative advantage – revealing how best to deploy their endowments of labor and capital. But they did not defy their comparative advantage, as Justin Yifu Lin, the chief economist of the World Bank, has put it. This distinction is conceptually subtle, but economically consequential.”

Now, if you’re dogmatic about this, you’re probably thinking I’m going to suggest free markets for everything. The problem is that this approach rarely works.

Markets provide information on what you’re good at, but sometimes they are not good at doing that. The problem they face is externalities.

When a country has never manufactured something before, it doesn’t know it is good at that economic activity. If an entrepreneur blazes a trail and begins to succeed in it, this person is providing an important externality. Pioneers in markets are informing the country what they can succeed in, what “comparative advantages” the country has. (Ricardo Hausmann and Dani Rodrik have a nice paper on this “process of self discovery.”)

As it happens, new industries are riddled with externalities. They are also plagued with coordination failures. For example, nobody studies to become a software engineer in Curiepe because there are no software firms there, and there are no software firms there, in part, because there are no software engineers. As it happens, Curiepe could be an ideal place for software companies, and yet the market simply doesn’t make it happen, because it can’t solve this coordination failure on its own.

What I’m trying to get at is, yes, Venezuela needs markets, but markets alone won’t lead us to development.

The Asian experience should provide for a healthy skepticism about the faith in markets, one that should prompt us to re-think the role of the State in promoting different industries without isolating these industries from market forces. In other words, help out different industries, and see if they succeed in the international market place. Give them a nudge at the beginning, and if the market says we shouldn’t compete in that industry, pull the plug.

So yes, free up local prices and open up our borders to international trade. Let the forces of the market flourish in Venezuela, but don’t overdo it. The market should not be a dogma, it should be a tool.

The market is essential to let us know what we’re good at. But, sometimes, you need a little bit of help getting to it in order to find out.