Does crony capitalism promote economic growth? Ensure that your answer demonstrates a sound understanding of the literature and is illustrated by specific examples drawn from today’s political and economic situation of any country or countries of your choice.
This paper discusses Crony Capitalism (cronyism) and illustrates many outcomes from this form of economic governance. It compares the efficiencies and inefficiencies of cronyism, implies a difference between corruption and cronyism, and that cultural heritage influences economic practice.
Economic growth is seen as a long-term increasing capacity of a nation-state to supply increasingly diverse economic goods to its population. This is based on advanced technology and the advancement of institutional and ideological organisations (Kuznets, 1973). It is influenced by increases in productivity through technology and innovation, economies of scale, and growing populations (Ayres, 1998 and Ayres & Warr, date unknown).
Cronyism in its lightest form can be described as collusion between key market players, but can also describe the cosy, symbiotic relationships between big business and the state in Southeast Asia (White, 2004). Kang (2003) refers to successful cronyism as ‘grudging relationships’ between government and business elites, creating mutually hostage situations. It materialises through favouritism toward business groups with respect to legal permits, government grants, tax breaks, and access to capital loans. Morck et al (2011) describe it as “elite-capture”, where “business-families” attain sufficient control over an economy’s financial sector.
The neoclassical argument states any government intervention removes the market from equilibrium resulting in a less efficient economy. However, in instances where mutually hostage parties occur, cronyism can reduce transaction costs and minimise deadweight losses (Kang, 2003) therefore increasing productivity. South Korea is a high performance economy, and has only a few key actors (the state and Chaebol) in mutually hostage situations. The result is stability, as neither one side nor the other can dominate. Granovetter (1985) further argues that more stable personal relationships between economic actors and the ensuing trust, is more important in discouraging opportunism than formal institutions. Immutable stable laws and trading environments can lead to durable agreements that are a prerequisite of economic growth, and Kang (2003) infers it is more agreeable for foreign investment.
In contrast both the Philippines and Indonesia have not provided economic growth through cronyism. In the Philippines too many actors result in a lack of cohesion, increasing transaction costs and decreasing its economic performance. Kang (2003) refers to this as a “pendulum of corruption” between business and state. In the case of Indonesia, cronyism was centred on Suharto. Initially stable, Suharto’s regime experienced sustained and impressive growth and foreign investment surged into Indonesia. However, Suharto’s stifling self-interested regime controlled almost 60% equity in all domestic investment by 1980 (Kang, 2003). The business sector was never able to become independently powerful outside of Suharto, hence no mutual hostages, resulting in high levels of corruption and increased transaction costs.
Figure 1: This graph shows the levels of high technology exports plotted against time of Indonesia, Philippines and South Korea. Data was taken from data.worldbank.org.
Figure 1 illustrates varying levels of technological export of 3 crony-economies, and that different versions of cronyism can result in different levels of technological advancement. The less corrupt the form of cronyism, the higher the level of technological advancement, which is a key indicator of economic growth (Kuznets, 1973).
Hill (1995) pontificates that the key to minimising the resource costs is maximising the productivity of resource inputs, requiring both cooperation and investments in specialisation. Hill argues that if a government gets it ‘approximately’ right then confidence among economic players regarding property rights and contracts reduces transaction costs thereby increasing economic growth and specialisation. He further discusses how the cultural norms within a society can act as a large behavioural constraint and will determine how individuals interact in everyday situations.
Figure 2: This figure shows GDP per capita in US$ plotted against time of Japan, United Kingdom, South Korea, Indonesia and the Philippines. Data was taken from data.worldbank.org.
Figure 2 shows the relationship between GDP per capita (which can be taken as a factor of productivity) of various countries. Japan’s surge in productivity from 1975-1995 perhaps indicates how ‘Japan Inc’ got it ‘approximately right’ through this period with larger gains than the UK. However, this graph implies that cronyism was not effective for the Philippines and Indonesia from 1970 to present day.
In Japan MITI served as an architect for industrial policy, and coordinated efforts with the Bank of Japan and other agencies to promote economic growth. The central government facilitated and spearheaded Japan’s economic expansion and brought about a radical transformation of industrialisation (Johnson, 1982). MITI relied upon personal relationship building over expensive formal institutions, and would exclude transgressors from informal associations between government and business leaders (Murakami and Rohlen, 1992). Hill (1995) hypothesises that the economic growth seen by Japan until 1990 was not only due to cronyism but also to the societal factors prevalent in Japan at the time, based upon the Tokugawa Value System of cooperation. This collective ideal resulted in a competitive advantage of Japanese firms over Western firms and reduced transaction costs and risks of hold up, therefore promoting investment in specialisation. Japan should not be mistaken for a command economy but perhaps a ‘developmental government’ as coined by Johnson (1982).
Figure 3: This figure plots the GDP growth (annual %) of various countries; Japan, United Kingdom, United States, Indonesia, South Korea and the Philippines. Data was taken from data.worldbank.org.
Figure 3 highlights differences in annual % growth rates of GDP, and shows crony-economies have higher growth rates than typically ‘laissez-faire’ countries such as the UK and USA. It is worth noting that the more developed Japan has a lower growth rate than other crony-economies, perhaps indicating cronyism does not promote economic growth in today’s global markets. In contrast Keegan (1984) argues that ‘Japan Inc.’ actually increased its competiveness in global markets through joint public and private goals.
Morck et al, (2011) talks of “big push” industrialisation and implies that large family controlled businesses use “tunnelling” to coordinate investment as a central planner might. However he goes onto to assert that ‘elite-capture’ correlates with less efficient capital allocation, and economies with large family-banks are prone to ‘boom and bust’. He presents empirical evidence showing family controlled banking systems decrease both real per capita GDP growth and TFP growth.
Kang (2004) argues that cronyism develops in economies where legal and political institutions are not developed, and transaction costs of regulating contracts are excessive. In this instance it is cheaper to revert to cronyism.
In conclusion minimising transaction costs is a key component to economic growth and that in the right circumstances cronyism can offer this, as seen in Japan and South Korea. Corruption is more prevalent in regions with less established legal frameworks and cronyism fails to deliver sustained economic growth. Cronyism is also closely linked with family-banking systems, which result in inequality and increased barriers to entry thus decreasing the competitive nature of the economy. My interpretation of the data is that crony capitalism can, in circumstances promote economic growth, where collaborative ideals are upheld such as in Japan, and when few economic players exist, but that growth is not long-term. I also conclude that once economies move into today’s global markets and must become internationally competitive cronyism does not promote economic growth.
GDP – Growth Domestic Product
MITI – The Ministry of International Trade and Industry
TFP – Total Factor Productivity
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