The richer we get, the more markets we need

When an economy becomes complex, does it require extra guidance from the government?

By , Guest blogger

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    A woman rides a tricycle carrying her child in front of apartment blocks in Beijing, April 18, 2011. China's economy is playing catch up, writes guest blogger Tim Worstall.
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There's an idea out there I regard as pernicious. Roughly stated, it's that the economy is now so complex that we've got to guide it. Plan it, let the Wise Men in Whitehall decide where investment should go, get them to pick winners to the benefit of us all. Brink Lindsey has a paper out which argues against this case. Worth reading in full but here's the nub of the argument.

We can regard economic growth as coming in two forms. There's catch up growth, such as what China is doing now and Japan did 50 years ago. What to do is largely known, for there are the examples of the richer, more advanced, economies that can be followed. To an extent it's as simple as pulling people out of low productivity agriculture and into high productivity industry, raising the education levels and increasing participation in the formal economy. But the important point is, in Lindsey's view, that it is at least feasible for a government to work this out and to manage the process. Clearly not all do for not all have followed this path but it is at least possible that some will.

However, once a place has got rich the problem changes. Catch up growth is no longer possible, for there's no one to catch up with. The economy has arrived at the technological frontier so there's no one to copy. Any further growth is going to come from innovation, new ways of doing things, rather than mobilising extant resources to simply do more. At which point governments can't do that planning and directing thing.

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For, as Hayek pointed out, the only information system we've got to calculate what the economy should do next in such a situation is that very economy. It simply isn't possible for a central planner to decide whether capital should be allocated to gluten free bread, discounts on golfing holidays, weird metals extraction, wedding photography or software for computer based gambling (to mention only a few businesses extant among the readers of my blog). It is only that great calculating engine of the entire economy, with that interplay of supply and demand determining prices, which can possibly give us the information necessary to direct where to go next. For none of us know what's going to be the next big thing, all we can do is experiment and find out, the experiment being the means by which we find out.

All of which means that it's the very complexity of the modern economy, it's pushing up against the technological frontier, which means that planning, the State direction of industry, cannot work and that we need to be ever more free market in our approach if we are to continue to grow.

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