BackLand acquisition, growth miracles, and the role of the state
Lee Kuan Yew's legacy is as much about using state interventions to drive growth as it is about embracing foreign trade
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Since his death last month, a lot has been written about the role of Lee Kuan Yew in transforming Singapore from a poor island to a developed city state, and the profound influence of his legacy on the rest of Asia.
But while eulogizing Lee, the first prime minister of Singapore, as a market-friendly visionary, many seem to underplay the array of state interventions used by him to drive the Singaporean growth engine.
Among the earliest steps of the Singaporean state, which separated from Malaysia in 1965, was the Land Acquisition Act of 1967. The Act gave the government extraordinary control over land resources and allowed it to acquire most of the land in the country within a few years. Easy land acquisition not only facilitated the establishment of industrial estates which powered Singapore’s growth, but also allowed the state to plan large public housing and infrastructure projects. To mobilize financial resources, Lee put in place high rates of compulsory provident fund contributions. To drive investments, government-owned institutional investors were deployed to fund companies. One such large institutional investor, Temasek Holdings Pte, has been managed by Lee’s family for a long time.
With most land owned by the government, 85% of housing supplied by the government’s own housing corporation, and state-owned enterprises (including Singapore Airlines) contributing more than one-fifth of its gross domestic product (GDP), Singaporean reality combines extreme elements of socialism and capitalism, argued the heterodox Cambridge University economist, Ha-Joon Chang, in a 2014 interview.
Singapore’s success in harnessing both state and market forces to drive economic growth is one of the most remarkable stories of the past century. But Singapore’s experience has not been atypical. All four of the so-called Asian tigers—Hong Kong, Singapore, Taiwan, and South Korea—which made the transition from being underdeveloped countries to developed economies in less than half a century, embraced wide-ranging state interventions on the road to economic success.
The story of Asia’s growth miracles begins in the 1950s, when almost all developing countries of the world had adopted a policy regime that came to be known as “import substituting industrialization". There was a general distrust of foreign trade, shaped by both politics and economics. The sharp decline in terms of the trade of developing countries relative to developed countries in the early part of the 20th century was widely noted. The Prebisch-Singer thesis, which held that prices of primary goods relative to that of manufactured goods declined over the long term, was widely accepted.
Most leaders of the newly independent countries had fought against colonial masters and viewed the market as an instrument that kept poor countries poor and rich ones rich. After all, these men and women had seen two world wars and a devastating Depression, which penalized the developing world. The apparent success of state planning in Soviet Russia influenced them at a time when the failures of the Soviet model had not been exposed. Finally, the intellectual influence of John Maynard Keynes led many to accept the view that markets, even if efficiently organized, may not lead to full utilization of resources. Export pessimism was widespread and a virtual consensus developed on the need for the state to be at the commanding heights of the economy, and drive growth of domestic industries. In India, even industrialists shared such a vision.
The initial results of the import substituting industrialization regime were positive across the developing world. This was a phase that many economists described as the easy phase of import substitution—when the global economy recovered and developing economies managed to escape the stagnation of the previous decades despite price distortions imposed by the planning process. During this phase, influential lending agencies, such as the World Bank, encouraged industrial policies and the World Bank lending was largely proportional to the sophistication of the planning process across the developing world.
By the mid-1960s, economies such as Taiwan and Korea had begun reorienting their industrial policies to focus on raising productivity growth and exports. Economies such as Hong Kong and Singapore were in any case forced to depend on trade very early because of their small size. The severe price distortions of the early years were corrected. While the state still actively intervened in the market, and provided assistance to industries—such as steel—that were deemed to be of national importance, the government forced large industrialists to compete in world markets. In many ways, state support depended on export performance. To sustain high levels of domestically financed investments, these economies adopted a slew of measures to boost savings rates. They kept their currencies undervalued to boost export performance, according to a research work by Princeton University economist Dani Rodrik.
The success of the Asian tigers generated intense discussion and debate within the economics profession. The early verdict said the East Asian growth miracle was a result of market-friendly policies. The view that state interventions were, on the whole, counter-productive gained strength after American economist Anne Krueger built a convincing theoretical case to show that industrial policies could lose effectiveness because of rent seeking (or venal) authorities in a widely cited 1974 research paper. After Krueger took charge of the World Bank in the 1980s, the lender did a somersault of sorts on the role of industrial policies in development, and began advocating minimal state interventions.
The World Bank view was challenged by economists such as Rodrik and Robert Wade, a former World Bank economist, on the grounds that it was based on a flawed reading of the East Asian experience. In a very lucid review of the fierce debate on this issue, American economist Henry J. Bruton argued that while the early post-War consensus focused too much on market failures and too little on getting prices right, the new consensus in mainstream economics seemed to focus too much on government failures. Bruton suggested that government learning, rather than government minimizing, was the key to the success of economies such as Korea and Taiwan. Unlike India, governments in these countries were quick to correct policy mistakes, and were able to nudge businesses to grow.
To be sure, initial conditions across the developing world were not the same. In much of East Asia, there were early investments in education that enabled skill formation. Early land reforms initiated by colonial powers in economies such as Korea and Taiwan ensured that redistributive pressures on governments were low in the years of take-off. The political leadership in these two economies could focus almost exclusively on letting the pie grow. In contrast, successive governments in India have often been hobbled by redistributive pressures.
The absence of strong democratic institutions allowed autocratic rulers such as President Park Chung-hee of Korea to adopt a carrot-and-stick policy to discipline industrial conglomerates. The manner in which top businessmen were arm-twisted in these economies to follow state diktats while making investments, and the manner in which their losses were socialized when the bets turned wrong, are unimaginable in most democracies today.
“The role that government can play depends—more than is the case for most issues—on the institutions, the history, and the culture of the community," wrote Bruton. “That some governments are deadly, that many are inept and uncaring is widely recognized, but there is much that only a government can do. So learning is as crucial a notion for governments as it is for firms and households."
The new consensus that developed in the late 1980s and came to be formalized as the Washington consensus by English economist John Williamson ignored this aspect of governance and largely emphasized market deregulation. The new orthodoxy enunciated by the World Bank and the International Monetary Fund (IMF) in fact went far beyond what Williamson had envisaged. Their insistence on freeing up markets led many countries to liberalize both trade and capital flows. Such a view was not based on either strong theoretical or empirical underpinnings, argued renowned trade economist Jagdish Bhagwati in a widely quoted 1998 Foreign Affairs article. In a scathing attack on US financial firms, Bhagwati blamed the “Wall Street-Treasury" complex in Washington for pushing the flawed agenda of capital mobility.
Trade liberalization was helpful to many countries, including India. But the insistence on liberalization of capital flows proved harmful. The Indian government and the Reserve Bank of India thankfully did not buy into the new orthodoxy completely, and India escaped the worst of the 1997 financial crisis which devastated several Asian economies that were exposed to large amounts of short-term external debt.
One of the key pillars of the success and stability of East Asian economies was that debt was largely domestically financed. This allowed these countries to sustain high levels of leverage as well as high levels of investments for a long time. Capital controls ensured that external dependence was minimal. But once the capital account was opened up, these economies became extremely vulnerable to global funding shocks. Among East Asian economies, Taiwan remained relatively unscathed by the crisis. In the revised introduction to his book, Governing the Market, written in 2003, Wade argues that Taiwan’s tight control over capital flows was a key reason for its resilience.
Excessive fatalism about state capacity and irrational exuberance about the power of market forces can harm growth prospects, the East Asian experience seems to suggest. Effective governance need not always mean minimal governance. Indeed, the history of economic development suggests that most states have intervened in various ways to drive growth and development. Even technological innovations, earlier considered a sole preserve of private corporations, have often been driven by massive state-sponsored research programmes, according to a new research.
The key insight from the growth miracles of the world is that the state can make markets work better.
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