Why not a centrally planned economy where the job of economic calculation is handed over to information-gathering experts — democratically accountable ones, hopefully. We actually have historical examples of this kind of system, though of course they were far from democratic. Centrally planned economies registered some accomplishments: when Communism came to poor, rural countries like Bulgaria or Romania they were able to industrialize quickly, wipe out illiteracy, raise education levels, modernize gender roles, and eventually ensure that most people had basic housing and health care. The system could also raise per capita production pretty quickly from, say, the level of today’s Laos to that of today’s Bosnia; or from the level of Yemen to that of Egypt.
But beyond that, the system ran into trouble. Here a prefatory note is in order: Because the neoliberal Right has habit of measuring a society’s success by the abundance of its consumer goods, the radical left is prone to slip into a posture of denying this sort of thing is politically relevant at all. This is a mistake. The problem with full supermarket shelves is that they’re not
enough — not that they’re unwelcome or trivial. The citizens of Communist countries experienced the paucity, shoddiness and uniformity of their goods not merely as inconveniences; they experienced them as violations of their basic rights. As
an anthropologist of Communist Hungary writes, “goods of state-socialist production . . . came to be seen as evidence of the failure of a state-socialist-generated modernity, but more importantly, of the regime’s negligent and even inhumane treatment of its subjects.”
And at an aggregate level, the best estimates show the Communist countries steadily falling behind Western Europe: East German per capita income, which had been slightly higher than that of West German regions before World War II, never recovered in relative terms from the postwar occupation years and continually lost ground from 1960 onwards. By the late 1980s it stood at less than 40% of the West German level.
Unlike an imaginary economy with no states or markets, the Communist economies
did have an economic calculation mechanism. It just didn’t work as advertised. What was the problem?
According to many Western economists, the answer was simple: the mechanism was too clumsy. In this telling, the problem had to do with the “invisible hand,” the phrase Adam Smith had used only in passing, but which later writers commandeered to reinterpret his insights about the role of prices, supply, and demand in allocating goods. Smith had originally invoked the price system to explain why market economies display a semblance of order at all, rather than chaos — why, for example, any desired commodity can usually be found conveniently for sale, even though there is no central authority seeing to it that it be produced.
But in the late nineteenth century, Smith’s ideas were formalized by the founders of neoclassical economics, a tradition whose explanatory ambitions were far grander. They wrote equations representing buyers and sellers as vectors of supply and demand: when supply exceeded demand in a particular market, the price dropped; when demand exceeded supply, it rose. And when supply and demand were equal, the market in question was said to be in “equilibrium” and the price was said to be the “equilibrium price.”
As for the economy as a whole, with its numberless,
interlocking markets, it was not until 1954 that the future Nobel laureates Kenneth Arrow and Gérard Debreu made what was hailed as a momentous discovery in the theory of “general equilibrium” — a finding that, in the words of James Tobin, “lies at the very core of the scientific basis of economic theory.” They proved mathematically that under specified assumptions, free markets were guaranteed to generate a set of potential equilibrium prices that could balance supply and demand in all markets
simultaneously — and the resulting allocation of goods would be, in one important sense, “optimal”: no one could be made better off without making someone else worse off.
The moral that could be extracted from this finding was that prices were not just a tool market economies used to create a degree of order and rationality. Rather, the prices that markets generated —
if those markets were free and untrammeled — were optimal, and resulted in a maximally efficient allocation of resources. If the Communist system wasn’t working, then, it was because the clumsy and fallible mechanism of planning couldn’t arrive at this optimal solution.
This narrative resonated with the deepest instincts of the economics profession. The little just-so stories of economics textbooks explaining why minimum wages or rent controls ultimately make everyone worse off are meant to show that supply and demand dictate prices by a higher logic that mortals defy at their peril. These stories are “partial equilibrium” analyses — they only show what happens in an individual market artificially cut off from all the markets surrounding it. What Arrow and Debreu had supplied, the profession believed, was proof that this logic extends to the economy as a whole, with all its interlocking markets: a
general equilibrium theory. In other words, it was proof that in the end, free-market prices will guide the economy as a whole to its optimum.
Thus, when Western economists descended on the former Soviet bloc after 1989 to help direct the transition out of socialism, their central mantra, endlessly repeated, was “Get Prices Right.”
Around the time of the Soviet collapse, the economist Peter Murrell published an article in the Journal of Economic Perspectives reviewing empirical studies of efficiency in the socialist planned economies. These studies consistently failed to support the neoclassical analysis: virtually all of them found that by standard neoclassical measures of efficiency, the planned economies performed as well or better than market economies.
Then Murrell examined studies of allocative efficiency: the degree to which inputs are allocated among firms in a way that maximizes total output. One paper found that a fully optimal reallocation of inputs would increase total Soviet output by only 3%-4%. Another found that raising Soviet efficiency to US standards would increase its GNP by all of 2%. A third produced a range of estimates as low as 1.5%. The highest number found in any of the Soviet studies was 10%. As Murrell notes, these were hardly amounts “likely to encourage the overthrow of a whole socio-economic system.” (Murell wasn’t the only economist to notice this anomaly: an article titled “Why Is the Soviet Economy Allocatively Efficient?” appeared in Soviet Studiesaround the same time.)
Two German microeconomists tested the “widely accepted” hypothesis that “prices in a planned economy are arbitrarily set exchange ratios without any relation to relative scarcities or economic valuations [whereas] capitalist market prices are close to equilibrium levels.” They employed a technique that analyzes the distribution of an economy’s inputs among industries to measure how far the pattern diverges from that which would be expected to prevail under perfectly optimal neoclassical prices. Examining East German and West German data from 1987, they arrived at an “astonishing result”: the divergence was 16.1% in the West and 16.5% in the East, a trivial difference. The gap in the West’s favor, they wrote, was greatest in the manufacturing sectors, where something like competitive conditions may have existed. But in the bulk of the West German economy — which was then being hailed globally as
Modell Deutschland — monopolies, taxes, subsidies, and so on actually left its price structure
further from the “efficient” optimum than in the moribund Communist system behind the Berlin Wall.
