Thursday, December 20, 2007

JOHNNY MUNKHAMMAR: GUIDE TO REFORM

In a thorough, understandable and comprehensively written book “Guide to Reform” Johnny Munkhammar addresses some fundamental issues and perspectives about the need to implement long-term economic and structural reforms. The content of the book is divided into several chapters. Each of them reflects key areas of economic reform and each of them highlights the essentials on the road to prosperity through today’s change towards tomorrow’s benefit. In this brief review, I shall highlight the main premises drawn upon the economic reform. As an economist, I will attempt to make essential conclusions regarding author’s groundbreaking book.

The first question is whether economic reform is good. The author of the book has concluded that the main purpose of the economic reform is to pursue economic freedom and guideline the course of public policy instituted upon the ideas that brought nations an unparalleled increase in prosperity. Such conclusion is relevant and supported by countless empirical evidence. The general parameters that reflect the quality of macroeconomic and business framework are crucial to essential conditions regarding growth performance and increases in standards of living. What distinguished sound business environment and macroeconomic picture from restrictive and risky type of macroeconomic framework is the extent of coercion and government involvement into business affairs and personal lives. There is a positive correlation between high real GDP per capita and high level of economic liberty. Nations that have pursued economic freedom and the principles of limited government have observed what could (in German) be described as “Wirtschaftswunder”, an economic miracle.

Let’s start with a methodological, theoretical and empirical grounds and arguments for structural change and major long-range reforms. The author of the book supported the arguments with a significant and incredible amount of economic and political literature. As for an economist, the quest for economic reforms is fairly simple. The economist is interested about the outcome of the reforms and how to design a theoretical framework after data collection, data analysis and after relevant and empirically-tested conclusion are finalized. Throughout the course of the book, the author used a series of graphs and charts to show the how economic activity and standards of living grow together with fundamental economic reforms regarding welfare state, labor market, business environment, health care system, education system and structural performance.

The author succinctly shows how reforms implemented in recent years and decade worked tremendously well in countries that have adopted them. From the theoretical point of view, it depends which side of the economy is taken into the analytical account. The experience such as stagflation has shown that Keynesian economic perception about the real economy was wrong. John Maynard Keynes believed that the economic performance can be restored by the acceleration of aggregate demand. Keynesians also believed that government intervention and a significant monetary expansion can boost the growth performance. However, if newly printed money is injected into the economy, the inevitable consequence is higher inflation which negatively affects the ability of the economy to operate at the optimal capacity regarding long-term sustainability of economic growth. The main consequence of high inflation is a deep negative shock on price behavior resulting from the overweight money funds chasing too few goods.

Thus, there is a paradox given the fact that money injection into the economy inevitably reduces consumer purchasing power. On the other side, the neoclassical growth theory supports the view that the essential condition for long-term growth is the quality of growth engines such as human capital, low tax burden, investment, and productive behavior in general. At the end of 1970s, stagflation, rising inflation and unemployment, indicated the collapse of the Keynesian politico-economic doctrine. From a theoretical perspective, productivity growth is the essential condition for the increase of living standards. Any kind of particular burden that hampers productivity growth also reduces the potentiality of higher living standards and general welfare.

Throughout the book, the author underpins the classical essence of economic success: good governance, limited government, low taxes, sound monetary and macroeconomic framework, low regulation, privatization of public services and competitive product markets, including labor market. In moving towards the solutions and proposals suggested by Johnny Munkhammar in the book deserves an analytical outline of the policy areas that impede economic growth and increase risk of low growth, weak economic performance and an overall decline.

The author suggests radical cuts in public expenditure. The proposal is relevant since reductions in public spending boost growth and productive behavior. In fact, low tax rates on labor supply, savings, investment and entrepreneurship positively correlate with economic growth. The evidence has shown that tax cuts do not reduce revenues following the Laffer curve statement, saying that tax revenue is higher when tax rates are low. The author makes a strong point for privatization and cutting-edge competition in policy innovation. He says that “different reasons may exist for selling publicly owned activities, for example increasing competition, improving management or increasing citizens’ ownership… Competition brings innovation, variety, improvements and lower costs. Increased competition is necessary in publicly provided services and this can be achieved by several methods”.

The author has put a significant amount of effort in the analysis and key policy solutions pertaining to the areas that hinder the evolutionary process of sustainable economic growth. Among the most vital reforms are labor market reforms, product market deregulation, tax cuts, the introduction of competition and private initiative in health-care and education system under sound capital and financial markets, solid infrastructure and the reform of the business environment. He also lists a growing list of nations that implemented productive reform solutions; Estonia’s competitive advantage of early tax reform in boosting investment, the introduction of vouchers in Sweden, the reform of the labor market in New Zealand and the remarkable economic transformation of Slovakia from a lingering performer into high-growing Tatra tiger. The author also outlined how Ireland went from the “poorest-of-the-rich” as how The Economist described Ireland in January 1988, to the Celtic tiger in nearly a decade. The arguments for economic reforms are put ahead in a very intuitive and interactive way nevertheless.

The main problem in implementing the economic reforms is not that politicians are unaware of the economic reforms but the fact that their political support is subject to special interests emerging from rent-seeking patterns of behavior placed in societies where the weakness of institutions enables interest groups to gain privileges from the state, codified into the law and made permanent. Powerful stakeholders in the corporativist model of society will thus resist change at any cost. Such case is the collective bargaining which distorts the competitive equilibrium in the labor market at the cost of lower productivity growth and slower structural adjustment to economic change and globalization. Special interest groups possessing a degree of coercion and political influence will inevitably refuse reform proposals and mobilize its force to do everything possible to prevent the implementation of economic reforms by the means of fear and propaganda.

The author suggests a strategic set of combinations of political decision-making, game theory and tactical methods that could reduce the opposition to economic reforms and structural advancement. As an important feature, the author also makes strong point on the continuum of economic reforms as the main policy asset that reformist politicians should embrace. True, there will always be those who oppose economic reforms everywhere but, as Harold Wilson said, “those who reject change are the architects of tomorrow’s decay.”

The book is not only a great source of inspiration but also a great educational material that provides important data, information and answers to some of the greatest tasks of tomorrow’s challenge.

Rok SPRUK is an economist

Copyright 2007 by Rok SPRUK

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