Fixed Exchange Rates in Lebanon: advantages, drawbacks, solutions

 

A fixed exchange rate is a system where the value of a currency is fixed against other currencies. It is used to stabilize the value of a currency by fixing it in a determined ratio to a more stable currency. In this way, the exchange rates won’t be affected by market conditions the way they do under floating currencies. This option will make trade between countries more predictable which is helpful to small economies since they rely heavily on international trade. Furthermore, a fixed exchange rate system controls the behavior of the currency by limiting rates of inflation for example. Many Mediterranean countries have shaped this regime believing that it will help them gain monetary policy credibility and stability. In Lebanon, fixed exchange rate regimes date from the proclamation of the Great Lebanon by France in the 1920. This event was followed by the establishment of the Bank of Syria and Lebanon. This bank was allowed to print money where the currency unit was the Lebanese-Syrian pound equivalent to 20 French francs. Later on, a monetary agreement was reached between the British government and France in which the French franc was set against the sterling. Consequently, our currency became pegged to both the sterling and the franc. In 1947, following its membership in the International Monetary Fund and the World Bank, Lebanon had to back its currency by gold up to at least 50%. In order to increase the value of the Lebanese pound and encourage capital inflow, the currency issuing body continued to increase its gold assets until the coverage rate in gold reached 92.2%. In 1963, the central bank was established and since then it works hard to prevent our currency from collapsing. Following the World War 2 and the civil war in Lebanon that subjected the currency to many ups and downs, governor of Banque du Liban, Riad Salameh pegged the Lira to the US dollar ($1=1500LL). It has been a credible commitment since 1990. But, given today’s fluctuations in international trade and the current status of Lebanon as a debtor nation, should the Central Bank continue to enhance a fixed exchange rates policy?

Many people ask what determines exchange rates. Why is $1=1500LL? Why not 3000LL, 1000LL or even 2000LL? To answer this question we should understand that history and the succession of events play a major role in the evolution of any currency. Lebanon is a good example since evidence show that the civil war has caused a major inflation followed by a depreciation in the Lira. The Central Bank had to intervene and set a fixed exchange rate between the Lebanese pound and the dollar that was believed to be the best possible outcome given our economic situation at the time. Overall, this policy has many advantages that are not limited to Lebanon solely. First, it helps reducing risk in international trade: buyers and sellers of goods can issue contracts without the fear that prices will change following a fluctuation in exchange rates before the settlement of their agreements. This certainty in trade encourages investment but also forms a drawback since risk loving people don’t get the chance to speculate anymore. It is known that a speculator seeks a foreign exchange risk or an open position hoping to make profits. When he expects the future spot rate of a currency to be higher, he purchases the currency today and hold it in a bank to resell it in the future and earn a profit equal to the difference between the current spot rate and the future one. He risks to lose if his anticipations were wrong for the sake of winning if they turn out to be true. This kind of risks can’t be taken in case a fixed exchange system was adapted by the economy. Another strength of this conservative policy is that it establishes discipline in economic management. Under this system the local economy is the only responsible of adjusting prices to re-launch equilibrium, it follows that governments will have not to follow inflationary policies that have harmful effects on consumers and on the society as a whole. If they do, they will have to tolerate high unemployment rates in order to reduce inflation and vice versa. This statement was justified by the Philipps curve, it showed a negative relation between unemployment and inflation. However, this relation was proved to be wrong in the 1970’s were the US and OECD countries suffered both a high inflation and a high unemployment rate. This fact caused the adjustment of the Philipps curve which became a relation between unemployment and the change in inflation since expectations about inflation turned out to be positive. This adjustment doesn’t mean that inflationary policies do not affect unemployment, it just means that we now have to deal with change in inflation: whenever unemployment exceeds the natural level the change in inflation will be negative, the opposite is also true. Moreover, inflationary policies cause balance of payments problems since monetary and fiscal policies are required to keep inflation constant. So, under the threat that the economy will become uncompetitive, governments will introduce a sort of discipline in their way to manage the economy. One more advantage of fixed exchange rates is that they eliminate the chance of any destabilizing speculation. This phenomenon is common during wars and recessions where exchange rates are low and they are expected to fall further or during inflations where exchange rates are high and they are expected to be higher. In this case, the speculator will sell the currency he holds, issue future contracts and bet on it falling further or he will work in the opposite manner depending on the economic situation. In both ways, destabilizing speculation will have destructive effects on the economy. If fixed exchange rates were adopted, the incentive to speculate will be reduced.

In the other hand many disadvantages were pointed out. Under a fixed exchange rates system, balance of payments adjustments cannot be made automatically. Whenever faced with a disequilibrium in the balance of payments, it should be solved by a change in aggregate demand. If we are running through a deficit, we should go for a reduction in aggregate demand to make people consume less imported goods, the price level will fall making the economy more competitive. If a floating exchange rate regime was tolerated instead, the disequilibrium in the balance of payments would have been corrected without any government intervention, so the domestic economy won’t be affected. If a deficit was in the picture, the currency would have fallen, making the economy more competitive again. To pursue a fixed exchange rates system large holdings of foreign exchange reserves are required so we can maintain the exchange rate. These reserves are known to have many opportunity costs. Moreover, we will have to sacrifice enjoying freedom in our internal policy since the needs to maintain the exchange rate will dominate the policy which can be bad for the economy in some situations. Interest rates and policies will be set in favor of the fixed exchange rates forgetting the macroeconomic objectives of inflation and unemployment, this implies that the regime will be sustained at the expense of the nation’s welfare. In addition, fixed exchange rates are thought to be unstable since countries tend to follow different economic policies which results in different rates of inflation. So some countries will enjoy low inflation and be very competitive while other countries will suffer from high inflation and lose credit for it forcing them to devalue their currency. This will form a great opportunity for speculators who will seek to make profits and cause pressure on the currency and on the government. The latter will find that it is urgent to enact to correct for this problem and may end up worse off as a result.

Looking closely at the case of Lebanon, we become able to assess how the fixed exchange rates policy affected the country both positively and negatively. Lebanon is known as an open economy with free capital movement and fixed exchange rates. The Lebanese business and investment summit held on 2010 considered this fact to be comparative advantage that we should work on developing it further. They stressed on the trade agreements and double avoidance taxation treaties. They also mentioned the advantage that we have given our geographical location and the service based economy that we have shaped. The main government goal is to sustain economic growth and create more jobs. They believe that adapting a fixed exchange rates system in the main element that will help achieve this goal. In fact, this system showed its efficacy in different situation since Lebanon enjoyed high growth rates in 2008 (9.3%), in 2009 (8%) and in 2010 (8%). What helped stimulate the growth is the trustworthy image that was projected to the world following the global crisis. The country succeeded in attracting capital inflows especially in the private sector where “deposits surged by 23% in 2009, amounting to 2.5 times the GDP” as mentioned in the business and investment summit. Moreover, the credibility of the central bank helped raising confidence in the Lebanese currency leading to a drop in the dollarization rate from 77% at the beginning of 2008 to 62.85% in summer 2009. The inflows allowed Lebanon to decrease interest rates and offered the country the opportunity to lend to the private sector. It is also believed that the financial regulation and the strict supervision implemented by the banking sector helped Lebanon going through the financial crisis with the least possible harms and established its current status as a safe haven for capital especially for the Lebanese immigrants who amount for more than 16 million today all over the world. In this context, we should mention the Lebanese diaspora who is contributing in stimulating the Lebanese economy through their permanent investments regardless of the bad situations that Lebanon is enduring. All these positive developments shown in numbers and coupled with the appliance of fiscal consolidation enabled Lebanon to decrease the debt-to-GDP ratios from 180% in 2006 to 148% in 2009. Moreover, freeing more resources to the private sector played an important role in reducing debts. It is important to mention here that the Lebanese debt is relatively small compared with USA debts which amount to more than 3 trillion making the US the largest debtor nation in the world. But what really makes the difference is the large GDP that the US enjoys making the US debt-to-GDP equal 71.8%. So, a better interpretation of the economy would be based on debt-to-GDP ratios analysis. One more point to clarify is that the fixed exchange rates system allowed Lebanon to boost capital investment which leveled from “1.6% of GDP in budget 2009 to 5.44% of GDP in budget 2010 and 5.17% of GDP in 2011”, as stated per the business and investment summit. These investments were used to improve the infrastructure, the power sector, the water and sanitation and the ICT.

Even though the fixed exchange rates system has helped the economy and the dollar-debt percentage in Lebanon is too high which constitutes an incentive to peg to the dollar, recent studies argue that this system still suffers from many drawbacks that should be considered. Hamilton university website described the exchange rate as “the link between the domestic economy and the rest of the world”. It also affirmed that the Central Bank has to assign a fixed price of a foreign currency, usually that of a major trading partner, in terms of the domestic currency. But, when there are many trading partners as in Lebanon, the Central Bank should consider a basket peg. Given that the Lebanese economy is well integrated, it can benefit from the peg to reduce transaction costs. The graph below shows that the Lebanese trade occurs mainly with countries having U.S.D as their national currency or to which the national currency is pegged.

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This graph shows why the Central Bank is right to peg the currency to the dollar but also shows the growing percentage of trade with Euro currency areas. This evidence is an incentive for the CB to start considering a movement towards basket peg including the U.S.D. and the Euro.

Looking at the terms of trade and their volatility, we would end up converting into a more flexible exchange rate to prevent Lebanon from going through large fluctuations.

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Whereas, studying the correlation between inflation and real GDP from one hand and the effective exchange rates from the other we would be indifferent between pegging or not since it has no effect on the economic growth, it doesn’t promote it nor jeopardize it.

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Clearly, whether it is good to have a fixed exchange rate system or not constitutes a highly debatable topic. Many economists believe that the CB does have evidence to support such a system but it cannot be implemented permanently because it will cause many threats to the economy.

It is true that Lebanon has been attracting capital flows but the main reason behind this is that Lebanese banks pay interest rates that exceed the ones set by the rest of the world. So, we are kind of subsidizing the deposits that flow into the country. The question that we need to ask is whether such a small country can keep on paying these high rates to attract funds or not. What is obvious is that the Central Bank is working on absorbing the excess liquidity from the private banks by issuing certificates of deposits that pay a high interest rate. This policy has harmful effects on the economy in the long run since a fixed exchange rate system coupled with perfectly mobile capital flows cause the monetary policy option to become ineffective. This leaves one last option to the government which is to implement an expansionary fiscal policy that increases deficits. The government would be willing to adopt such a policy even if it means that it has to borrow more because it believes that it will help grow the economy in the future and settle the debts. This can work only if we return to the world interest rates, but this means that capital flows will be highly reduced which makes some people think that it will be bad for the economy.

We should understand that the real problem in Lebanon lies in its national debt. If we enjoyed a relatively small debt-to-GDP ratio then a fixed exchange system combined with perfect capital mobility would be a perfect policy. In this case, we would apply pressures on the interest rate to rise using fiscal policies and the central bank would counter that by increasing money supply. This isn’t applicable in Lebanon because of the large debts and fiscal authorities are expanding deficits to budget activities that has no efficiency or ability to pay off our debts in the future. They are simply financing non-productive activities driven by corruption which is so common in Lebanon. All these factors result in a muted response by the BDL. A healthy economy cannot pursue on subsidizing the capital inflows. So, the Central Bank attitude is surprising. They end up forced to buy the extra liquidity from the commercial banks at high rates so that the banks can afford to pay the high rates in the first place! Flexible Exchange rates is the best system that would deal with this problem by imposing a certain discipline that the different authorities should follow. The Lebanese government should understand that it has to cut its deficit, and not expand it. It should take Greece as an example and use its diversified resources to pay off the debts. We enjoy a perfect geographical location that resulted in a moderate climate suitable for agriculture that can help us gain self-satisfaction. We also can take advantage from the excessive quantities of water we have to improve the electricity. Furthermore, we should give close attention to resources that constitute raw materials such as petrol and gas. Finally, if all of the billions paid to subsidize capital flows had been invested productively and efficiently; they would generate sufficient returns to service our large debt. In this case a monetary expansionary policy would apply downward pressure on the exchange rates which will be offset by the expansionary fiscal policy that would be initiated by the lower exchange rate. The net result will be an economic expansion without altering the exchange rate that existed before the process started.

 

References

About Banque du Liban- History of Banque du Liban. Retrieved from: http://www.bdl.gov.lb/about-banque-du-liban.html

Advantages and disadvantages of fixed exchange rates. Retrieved from: http://www.bized.co.uk

Can Lebanon afford its current fixed exchange system? Retrieved from: http://yalibnan.com/…can-lebanon-afford-its-current-fixed-exchange-system/

Evaluating the peg in a small open economy- the case of Lebanon. Retrieved from: http://my.hamilton.edu/levitt/postertamim.pdf

Macroeconomics, Olivier Blanchard, Prentice Hall.

Salvatore, Dominic. International Economics Trade and Finance. Tenth edition.

The Lebanese business and investment summit. Ministry of finance. Retrieved from: http://www.finance.gov.lb

 

 

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Lebanon vs Singapore: What Makes an Asian Tiger

Introduction:

For decades, a virtual line has divided our world into two parts: developed and developing countries. However, many nations have imposed a change, turning this line into a waving curve. Singapore constitutes one example of a development success story. Following its independence in 1965, Singapore had a limited market extent, people suffered from unemployment and poverty and lived in overcrowded neighborhoods. Through persistence and good planning the government succeeded in attracting foreign investments and became the center of attraction. Nowadays, the country enjoys a high GDP per capita, $85700, and a stable growth rate after it succeeded in overcoming all the obstacles, cultural and economic to end up with a prospering status. On the other hand, a Middle Eastern country, Lebanon, facing similar cultural and economic problems, has a different development trajectory. It is lacking behind suffering from horrible policies, corruption and mismanagement, not to mention the poor standards of living translated into an $18600 GDP per capita. Following the civil war that ended in 1990, the country was supposed to grow fast just like any post-conflict country, but in fact, it ended up in a worse situation and the so-called Horizon 2000 plan was never executed.

A comparative study will be conducted for Lebanon and Singapore to discover the reason behind the divergent results reached by these countries given that they both started from the bottom and had harsh economic conditions. In other words, why is Singapore very developed and advanced while Lebanese people are still fighting for a respectful life style?

Common aspects:

Before going into the differences between the two countries, it is important that we go into the common aspects that made them comparable in the first place: location, social issues and economics.

Geography in both countries serves as a comparative advantage. Singapore is a small island in the center of transport paths, controlling the gateway between Indian Ocean and Chinese sea. It also enjoys a natural harbor allowing the provision of port facilities at low costs. On the other hand, Lebanon is also considered as a gate in the Middle East. It constitutes a boarding pass for all trade transactions and transits, it also enjoys a moderated weather giving it a touristic advantage over its neighboring countries. Moreover, social issues are very common in both Lebanon and Singapore whereby religious and ethnic problems come into the picture. Lebanon carries the burden of 18 sects present within its borders which caused a destructive civil war, and Singapore suffers from massive ethnic issues where Chinese dominate by 74.2% of total population, followed by 13.3% of Malay, 9.2% of Indians and 3.3% of different minorities.

In the economic context, both countries applied a market-oriented plan. The axioms of Laissez- faire defined by Gaspard (2004) in his book “A political economy of Lebanon” were respected. Consequently, the individual is a basic unit constituting a part of the society whose utility considerations are valued and his right to freedom is well-preserved. Furthermore, governments intervention is considered to be counterproductive turning them into charitable institutions that weaken the incentive to produce and hence isn’t welcome. In other words, the laissez-faire was a program aiming at releasing human potential using decentralized and competitive markets as instruments. Therefore an efficient allocation of resources required 3 major determinants: capital accumulation, human capital and research and innovation. Having set the game’s rules now we can go into the implementation process.

Case of Lebanon:

Starting with the Lebanese case, the country entered a new era characterized by a promising economy following WWII. It has promoted trade and free exchange among economic agents, attracted foreign investments and secured property rights. The economy was nearly at full employment. Back then, Lebanon suffered from mineral and natural resources shortage unlike Singapore which used its resource abundance to trade and generate revenues. Agriculture was common reflecting the labor intensive nature of the economy. The government acknowledged its role in maintaining monetary stability and providing infrastructure, law and order, education, social security (medical insurance, family allowances and pension) and defense and its intervention was minimal allowing for elastic movements of labor and capital. The focus was on industrial activity preparing for a manufacturing boom and private businesses were highly encouraged. So, Lebanon had all the features to witness an economic sprint, and was “aiming for European living standards and could be easily compared with a European country in the lower income bracket” according to a 1975 World Bank report.

Unfortunately, the civil war prevailed for 15 years and teared the country apart destructing all the capital that was accumulated over the previous years, not to mention the population outflow and illegal activities. Afterwards, in 1990, the Taef agreement was reached to call off the street fights and a recovery plan was put to rebuild the country. The Horizon 2000 plan was expected to work and render better economic and social status relying on empirical and theoretical evidence. Solow dissected this subject assuming that a post-war economy will be far below its steady state levels which will allow it to develop in a faster trend to meet its original steady state level again as shown in the graph below.

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So the plan was set and the funds were provided from Paris 1 in form of loans and foreign aids. The plan worked in compliance with the Solow model witnessing high growth levels up until 1994. Afterwards, our situation became even worse (Dibeh, 2005)

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Many reasons are behind this growth trap. Authorities did aim for capital accumulation, they adjusted monetary policies to attract foreign investments and granted high interest rates but it was headed in the wrong direction. We ended up with strong banking and services sectors that are subject to default given the instable political surrounding. Singapore outperformed in this context through its ability to integrate the banking sector into its economy and invested these gains to solidify the foundation of industrialization and reach sustainable growth.

Returning to Lebanon, any attempt towards industrialization was countered by a lack of productivity and mechanization which rendered obsolete all the accumulated capital, a result predicted by Pasinetti who investigated industrial evolution. In fact, the GDP share of manufacturing increased only by 1.7% during that period while other LDC’s experienced a 3.2% escalation (Gaspard 2004). This productivity deficiency was nothing but a reflection of the negligence of human capital which provides the specialized skills, and the adaptation of a finance biased economy favoring short-run output maximization over investing in productive capital and research to innovate. So, consumption was selected over investment and a deindustrialization took place where the economy experienced negative savings waving investment opportunities away. These inefficiencies resulted in a massive debt crisis where debt to GDP ratio equaled 148.7% (World Bank, 2015). Also education was disregarded. Literacy improvement with little cultural content was prioritized and slight attention was given to developing skills, not to mention the negligence of rural areas that suffered from cultural and economic poverty which is contradictory with the equal regional distribution agreed upon in the Horizon 2000 plan. Sectarianism arose to destroy any survival chances. It emerged in all 3 powers, legislative, executive and administrative where positions had to be evenly shared, civil service jobs were no exception leading to skyrocketing corruption. Here again we failed to deal with our social issues as opposed to Singapore that incorporated social equity to do so.

Case of Singapore:

On the other hand, Singapore has a different story to tell. It is true that it approximately shared the same features with Lebanon but the only difference is that it actually did grow. The East Asian country understood the game’s rule stated earlier and worked accordingly in order to prosper. The main focus was on social equity where they committed to incorporate the whole society in the growth process. Therefore, two features were prevalent in Singapore: economic growth and social equity which qualified the country to launch a second industrial revolution. The targeted productivity and technology were coupled with a cultural mindset endorsing cooperation and teamwork which was and continues to be absent in the Lebanese mentality. The ideology was simplified whereby the strategies applied on a firm level were brought to the national scale. They set goals to be met within time frames. Moreover, they abided by the satisficing principle aiming for the overall society’s welfare to avoid inefficiency and maintain the government credibility. Any dissatisfaction is expressed through elections under their democratic system as opposed to the power inheritance in Lebanon which left the country in a status quo and shrunk the opportunities to change. This has also given the economic power to the political elite putting their private interests as priority. The Singaporean ideology is stated best by Byrne a member of People’s Action Party: “the pressure of our growing population has been such as to make it essential that we do industrialize if we are to survive… we proclaimed our belief in a policy of industrial peace with justice”.

The Singaporean government worked on carrying the satisficing principle into the different aspects of the economy. First, they targeted moving under the people’s consent in order to fulfill their aspirations and this is illustrated in the GDP per capita. Also the redistribution wasn’t viewed as a target but rather a consequence of economic growth and industrialization which resulted in job creation and thus reduced income inequality. Progressive taxes contributed as well. Second, it facilitated the provision of public housing if not ownership recognizing the right of every family “to own its home”. A survey made on the satisfaction level in this area showed that 70% of people admitted an improvement of life standards (Choy 1982). However, inflation and high prices are considered to be the major obstacle in purchasing houses. In addition, public health was highly considered where they worked on making it accessible by all citizens and they succeeded in doing so. Infant mortality for instance dropped from 75.2/1000 in 1951 to 11.7/1000 in 1980. Education with no doubt constituted the most impressive achievement since the labor force quality has increased substantially allowing a smoother industrialization process characterized by skills and productivity leading to innovations.

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Third, the provision of utilities: electricity, water and gas was efficient and at minimal costs making it affordable by everyone. Fourth, the government has taken serious measures to stabilize inflation and prices in order to ensure a decent life-style. They considered consumption subsidies to be ruinous and promoting dependency limiting self-improvement so they worked instead on providing the population with the means to advancement: education and training. Fifth, they understood the need to gratify civil servants and authorities in order to prevent bribery and corruption.

Aside from the satisficing principle, the second industrial revolution put an emphasis on the scientific management focusing on the mechanization coupled with industrialization to ensure higher productivity without an increasing physical effort from the workers behalf.

Singapore started in the sixties as a third-world state, recently decolonized and possessing a $100B budget to level up the country. This budget was used efficiently to turn this startup economy into a manufacturing economy characterized by labor and technology intensive industries. The efficiency in allocating resources was prevalent in the ability of Singapore to maintain its profile in spite of the 1975 economic downturn. Today, it is outdoing itself by directing R&D into Robot Leasing Scheme, and biomedical science.

Conclusion:

Ultimately, a comparison between Lebanon and Singapore is a feasible, accurate one. They share the same characteristics of overpopulated small countries suffering from social problems yet aiming for economic growth under market-oriented strategies. Today, they are experiencing divergent growth strategies. We need to understand that Singapore had two major advantages that put it ahead: industrialization and human capital. A change is required in Lebanon if we intend to catch up. We need to incorporate science in the production process instead of the outdated rule of thumb, our community demands more coaching on team work and the integration of a new ideology where people start to tolerate each other and ditch the chaotic individualism and we need more skilled and knowledgeable people who are able to innovate and produce not only output but also ideas. This is why we need to prioritize education and its provision in all areas, it is the time we stop disregarding the rural areas and take serious measures towards developing these left out regions. Industrialization doesn’t lie outside the recovery strategy, an efficient, all-inclusive strategy that is able to satisfy people and promote a new ideology among them, the ideology of peace. Let’s make Lebanon a Middle-Eastern tiger!

References:

Huff, W. G. (n.d.). Trade, finance and development. Trade and Development in the Twentieth Century The Economic Growth of Singapore, 71-119.

Choy, C. L. (1982). Economic Growth and Social Equity in Singapore: A Managerial Perspective. Contemporary Southeast Asia, 4(2), 184-209.

Saad, W. (2012). Causality between Economic Growth, Export, and External Debt Servicing: The Case of Lebanon. International Journal of Economics and Finance IJEF, 4(11).

Ghassan, D. (2005). The Political Economy of Postwar reconstruction in Lebanon. World Institute for Development Economics Research, 2005/44.

Abosedra, S., Dah, A., & Ghosh, S. (2009). Electricity consumption and economic growth, the case of Lebanon. Applied Energy, 86(4), 429-432.

Gaspard, T. K. (2004). A political economy of Lebanon: The limits of laissez-faire. Boston: Brill.

World Bank Group. (n.d.). Retrieved April 13, 2016, from http://www.worldbank.org/

The Seventies. (n.d.). Retrieved April 13, 2016, from https://www.edb.gov.sg/content/edb/en/why-singapore/about-singapore/our-history/1970s.html

Brazil vs Cuba: economic facts comparison

At the 1927 Nuremberg Rally, Adolf Hitler stated: “We are socialists, we are enemies of the capitalistic economic system for the exploitation of the economically weak, with its unfair salaries, with its unseemly evaluation of human being according to wealth and property instead of responsibility and performance and we are all determined to destroy this system under all conditions”. This statement summarizes the nature of the relationship between socialism and capitalism. Apparently, the war between the two systems is a must. Socialists defend their point of view by accusing and pointing fingers towards capitalists. Their decision is made: revolute to crash the evil and greedy capital accumulators by property abolishment. The reason is the exploitation of workers under capitalism whereby it is believed that capital is accumulated and economies are prospering at the expense of the people. But no revolution can be made in white gloves, human lives need to be sacrificed to reach the ultimate goal: achieve post-scarcity whereby everyone owns everything and enjoys high standards of living. Unfortunately, the end didn’t justify the means, 94 million lives were wasted for void written purposes that were never reached and people struggled to survive and reassemble their farfetched lives. After witnessing these terrific results, strategies were reset. Originally capitalist countries deepened their commitment to capitalism while few applied protectionist measures. Some socialist countries like Brazil ruled socialism out of their calculations especially after the collapse of the Soviet Union in 1991 while some other socialist countries like Cuba established further bonds with their beloved, barbarian system. In this paper, a comparative study will be conducted to evaluate and assess the behavior of the manufacturing industries in Brazil and Cuba over the last 24 years referred to as post-USSR trying to identify the system that will sustain economic growth.

Brazil is believed to be a fast-growing developing economy with huge potential. Nowadays, its economy outweighs that of all other South American countries being characterized by a large and well developed manufacturing, services, agricultural and mining industries. It has established itself as a strong competitor in world markets and it is already knocking on the doors of the developed world. It thoroughly worked on maintaining macroeconomic stability to attract more investments that would strengthen her position further. Also, it showed a high interest in increasing labor productivity by investing in education and imposing technology requirements on firms to stay updated. But, Brazil didn’t acquire this good economic status overnight nor secured it from a wish granting factory, it showed high levels of dedication and public awareness. Yes, citizens are more like citizens today. They started to understand and acknowledge their integral role in setting their own resolution for the country. Today, they are questioning the political performance, one example is the recent conviction of 25 politicians and officials by the Supreme Court for receiving a bribe to elect a president. In other words, political freedom has emerged following the economic freedom embraced by Brazil. So, Brazilian citizens freed themselves from the negative perception of liberalism and started to refuse and stand against following government’s rules and restrictions blindly. As Milton Friedman said to be economically free is to build industrialized economies and an educated society which naturally leads to political and economic freedom.

To understand how this cycle applies to Brazil, it is important to have an insight on the studied country. Throughout history, Brazil was far from being classified as a capitalist country, it was colonized by Portugal from 16th to 19th century, witnessed a dictatorship and a military rule in the 20th century where communists dominated on the country politically and economically. They succeeded in gaining the Brazilians affiliation using emotional speeches about the right to be treated and getting paid equally. This corrupted the minds of people who showed their willingness to enhance such a system after the huge increase in industrial production didn’t render a better quality of life. Under the Marx inspired economy few people owned lands, government was in control and allocated all the capital. Trade activity was limited since the country aimed to be self-sufficient. The main focus was on agricultural products which included coffee, soybeans, wheat, rice, corn, sugarcane, cocoa, citrus and beef. This evidence sheds doubt on the credibility of socialism that promised a good economic status and an increased utility to the society as a whole only to find later that Brazilian citizens were stuck in a status quo. They kept on being the naïve farmers with limited knowledge and power and subjected to a feudal system in its essence but named socialism. Regardless of people well-being, the economy of Brazil in the 20th century was in good shape just like any other economy under the Soviet Union reign. But the question is: at what expense? Socialists didn’t believe that happiness and high GDP can meet, thus, a compromise was needed and economic growth was achieved by exploiting people, erasing their preferences and imposing stuff on them. The system seemed to work perfectly for Brazil until the 1983-1991 period. It was connoted as a “very high inflation period” whereby GDP dropped significantly and a negative growth rate was witnessed, the economy was suffering during this period, a debt and financial crisis was peaking along with poor productivity and primitive products based on agriculture.

The end of this period was coupled with the dissolution of the Soviet Union for political reasons. Mikhail Gorbachev, the last Soviet statesman, decided to untie the Soviet burden on Eastern Europe countries like Bulgaria, Romania, Poland, Czechoslovakia and East Germany. Berlin wall collapsed reuniting Western with East Germany, and then independence movements followed. So, a process of democratization took place under an American supervision. The United States continued to be the Elephant in the room supervising all the policies and procedures until USSR was distorted. This historical event implied worldwide changes affecting economies. Brazil was no exception where democracy emerged and people got voting rights. The economy started to embrace capitalism. Many observers describe Brazil as the country who saved itself from the socialism plague. It acknowledged the important role that capital accumulation plays in an economy and worked on increasing the incentives to invest and accumulate further capital. Moreover, Brazil considered technology and the role it plays in economic progress. It is measured according to three main metrics – research and development effort, scientific and research talent, and the level of innovation to end up with the Global innovation index whereby Brazil is ranked 43rd among 143 countries as per 2013 report. It is relatively a good standing and a proof that the Latin American country has evolved. The main reason behind technological advancement is Brazil’s post-USSR strategy that consisted in shifting away from agricultural production paying small returns to mass productions generating huge returns. It concentrated on manufacturing industries to maximize its profits. It also gave close attention to services sector to leave the economy highly dependent on manufacturing and services sectors adding up to 87.1% of GDP which equals $ 2.347 trillion. Moreover, Brazil enjoys a high purchasing power parity (PPP) being ranked 8th in the world compared to the 77th position of Cuba. It also succeeded in lowering unemployment rates to reach 4.8%. The graph below published by Reuters, shows the GDP fluctuations during the first decade of the 21st century:

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As it is shown, GDP increased significantly in the last decade which proves the efficiency of the embraced system. To reach these advanced positions, Brazil implemented a very crucial strategy in the manufacturing industries which will be given close attention in the following part.

The up rise of these industries during the capitalist era was coupled with a more developed division of labor and a larger extent to market which highlights a conformity with Adam Smith theories. However, one must keep in mind that Brazil always had natural resources and a large workforce constituting basic keys of success but it is only when put in the right political and economic framework based on democratic rather than monopolistic institutions that they rendered an enormous surplus. Technological advancement was aimed whereby Brazil implemented intensive research especially in renewable energy sources. It succeeded in becoming a clean energy country with hydroelectric power and alcohol playing a major role in the energy mix. So, currently it is on its way to substitute petroleum-based sources with clean energy sources and it is expected to prosper in this field given its intensive work on improving infrastructure. The success trajectory naturally implies the need of specialized knowledgeable people in the subject matter. This resulted in an increased productivity and efforts to explore further applications in order to make these new sources feasible. The research has deepened to a point where professionals started to claim the possibility of generating energy from lightning! Other industries flourished as well such as textiles, shoes, chemicals, cement, lumber, iron ore, tin, steel, aircraft, motor vehicles and parts, and given the technological advancement and specialization, these industries enjoyed high productivity and efficiency. This fact helped Brazil to impose itself on the international market as a solid competitor. The pie chart below shows the products exported by Brazil:

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Furthermore, one must consider the growing industry of information technology in Brazil. The innovative and sophisticated business sector of the country deserves the credit for the 56th world rank of Brazil in the Global IT report of 2011. The market environment, the quality of ICT deployment framework, and the private sector development in general are the major contributors.

Unfortunately, drawbacks are present. Brazil’s Amazon rainforest is undergoing a massive destruction due to the increasing importance given to industrial growth and technology. This traces us back to the theory studied in population growth whereby the fear isn’t about the lack of resources anymore, but rather about their abundance which constitutes a threat on the environment if they were to be used exhaustibly to increase economic growth.

It is true that Brazilian economy currently suffers from a recession, but it is unfair to measure the feasibility of a system based on a short-term event. The recession might cause a temporary slowdown in the economy but it surely won’t abstain Brazil from reaching the developed world standards. However, the present Brazilian economic status is still better than Cuba’s economy.

The Republic of Cuba is the home of the notorious Castro family who is ruling the country since the 1960’s. After overthrowing President Fulgencio Batista, Fidel Castro adopted a Marxist-Leninist model of development, and converted Cuba into a one-party socialist state under Communist Party Rule. Central economic planning took place whereby industry and business became nationalized and government controlled everything. Cuba had deep and strong relations with the Soviet Union having adopted all its beliefs and views. The latter used to back, and subsidize Cuba whenever it felt the need to do so. Just like Brazil, this resulted in a good Cuban economy that sacrificed the well-being of its people. The crash of the Soviet Union didn’t put an end to Castro’s legacy who continued to shape anti-globalization ideas and quoted the post-USSR stage as the “Special Period” of Cuba.  Believe it or not, Castro has won several international awards and he is the role model of many young people who look up to him as the person who liberalized Cuba from imperialism and shaped humanitarianism. This profile is questionable especially when looking at the results of his rule: dictatorship, human rights abuses, capital destruction and migration of more than one million Cubans. What’s even more astonishing is to hear a man who ruled his country for almost 50 years and retired aged 85 saying: “I think that a man should not live beyond the age when he begins to deteriorate, when the flame that lighted the brightest moment of his life has weakened. I believe that all of us ought to retire relatively young.”

All this allows us to draw a fair guess of the efficiency of socialism in Cuba, especially on capital accumulation and industries. The Cuban special period witnessed a great de-industrialization for numerous reasons. Subsidization from the Soviet Union ended causing an incapacity in the manufacturing sector, not to mention the transfer of uncompetitive technologies that left Cuba behind the world standards of production. Also, the over-valued Cuban exchange rate pushed traders away. Most importantly, capital destruction occurred. Re-investment and maintenance were viewed as minor issues during the Soviet era causing capital to collapse thereafter. Moreover, Cuba continues to suffer from low investment levels. Investments consisted of 10.5% of GDP in 2008, a relatively low percentage compared to Brazil’s 20.6% fraction. One factor that deepened the investment scars in Cuba was the prohibition of small and medium enterprises which decreased the incentives of entering the manufacturing industries and blocked entrepreneurial trial and error. All these facts lead to an inability to compete and to a production reduction in the 50 to 99% range in many sectors excluding the pharmaceutical industries with a 76.5% appreciation in production.

The consequences following the de-industrialization process were very detrimental on the Cuban economy. Unemployment increased sharply coupled with a diminished volume of output that equaled only 44.9% of the 1989 level. So, one can infer that a loss of the foundation on which diversified manufacturing activities could be developed in future was encountered. In other words, Cuba lost the collection of economic activities that once surrounded the production process from the acquisition of inputs all the way to the processing of outputs and final goods. In this context, the sugar industry suffered greatly. Parts of the sugar related manufacturing sector went bankrupt, notably the manufacture of cane harvesters and agricultural machinery and equipment as well as the production of replacement parts for the sugar mills. Below is a graph showing the decline in industrial output during the post-USSR period. It is compliant with the de-industrialization process explained earlier.

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After this recession, Cuba acknowledged that it can no longer apply the purely introvert and socialist economic system so it started to untie few protectionist measures. It aimed to balance between the need for loosening its socialist system and the desire for firm political control. The results was a set of 25 guidelines, the “Lineamientos de la Política Económica y Social del Partido y la Revolución” on the manufacturing sector approved by the communist party in 2011. These guidelines included prioritizing exports (meaning more openness to trade: Cuba started to trade with Venezuela by exchanging pharmaceutical and medical products for barrels of oil) and maintenance, assuring a sustainable flow of inputs to pick up production and employment, emphasizing training and updating the employees with the latest technologies to increase productivity, and most importantly reconstructing industries and re-accumulation of capital, especially in pharmaceutical and construction materials. However, writing and approving these guidelines was the easy part, implementation is the crucial task. The main obstacle faced by Cuban economy was the absence of prices under the communist system. It is the reason behind the destruction of capital and it continued to be the reason behind the inefficiencies of this saving re-industrialization plan. Without access to knowledge and information the plan became obsolete since no productive allocation could be made nor a feasible calculation for the uses of capital in order to optimize. In fact, Ludwig Von Mises, an Austrian School economist, was able to predict these consequences in 1920 in the early period of the emergence of communist parties. Moreover, Cuban statesmen spent big amount of time trying to plan for a re-acquisition of the collapsed capital not realizing that a prospering economy doesn’t follow a given set of rules but rather enjoys playing freely with the market mechanisms. In addition, the intentions for a real change are to be questioned for many reasons. Even though it allowed property ownership, on homes basically, consumption remained depressed due to the low government income whereby the take home salary is very low compared with the GDP per capita. This leads us to question the destiny of the difference between GDP per capita and take home income hinting the presence of high levels of corruption and theft. Also, the authorities have only legalized 201 categories for activities of self-employment (capital ownership).

Many observers believe that the Communist control of Cuba has abstained it from advancing and enhancing new technologies. While South American countries like Brazil has evolved, Cuba continued to be an island stuck in the past and devolved instead, the realm of cyberspace constituting a major factor. People struggle to connect with one another and with the rest of the world given the poor infrastructure and the limited internet access. Cellphones and PC’s are yet to be put at Cuban people’s use and telecommunication giants were forbidden from entering the market for years and are now allowed to supply their products in a limited manner: only 11% of the Cuban population owns cellphones. Web access remain both very expensive and rare whereby less than 5 percent of the 11 million Cubans are able to get online. Observers claim that the 21st century world of online connectivity caravan has already passed away leaving Cubans unsure if they will ever get the chance to catch up.

To sum up, this paper has scrutinized the manufacturing industries in two countries, Cuba and Brazil, in the post-USSR stage. Having acknowledge the economic background of each country, the Capitalist Brazil and the Communist Cuba, a conclusion was reached. As for Brazil, it is on the right track to reach sustainable growth after assuming the non-rivalry of technology but it still has to cope with efficiency problems. In this context, one must consider the developing status of Brazil which implies the occurrence of few fallacies and mistakes that lead to recessions. The country must then prove its ability to overcome these obstacles. Regarding Cuba, the coercion approach adopted by the communist party has diminished the capital and left the manufacturing sector bleeding which deteriorated the foundation on which a revival is based. Cuba has become a land of tarnishing outdated cars and crumbling architecture due to the lack of innovations that provide new options, and a place for intense shortages and widespread economic dysfunction. It is true that it has few promising sectors but it is the institutions mismanagement that is preventing it from advancing. However, the choice between capitalism and socialism is the easiest part. One can look at socialism as a person owning 2 cows and the government deprives him from both of them to equally allocate the amount of milk produced on the society. Whereas under capitalism, a person owning 2 cows sells one of them, buys a Taurus and forms its own farm. Given that he bears the risk of losing, he deserves the profits rendered by the farm. It is not hard for a rational personal to choose capitalism without hesitation but what really matters is how the institutions lying under the system are run. One must understand that utility is subjective and shift away from the utilitarian approach where the society’s well-being is considered and prioritized over individual freedom.

References

Florida, R. (2013). The World’s Leading Nations for Innovation and Technology. Retrieved from: http://www.citylab.com/tech/2011/10/worlds-leading-nations-innovation-and-technology/224/

Silva, C. (2015). Cuba Technology Development: Cell Phones Internet Remain Rare On Island Stuck In The Past. Retrieved from: http://www.ibtimes.com/cuba-technology-development-cell-phones-internet-remain-rare-island-stuck-past-1913349

Dews, F. (2015). 10 economic facts about Cuba. Retrieved from: http://www.brookings.edu/blogs/brookings-now/posts/2015/07/ten-economic-facts-about-cuba

Ritter, A. (2015). Does Cuba Have An Industrial future? Retrieved from: http://thecubaneconomy.com/articles/tag/manufacturing-sector/

Quadrant Online (2013). Brazil’s Capitalist Revolution. Retrieved from: https://quadrant.org.au/magazine/2013/07-08/brazil-s-capitalist-revolution/

World Economic Forum. CEO             Policy Recommendations for Emerging Economy Nations. Retrieved from:  http://reports.weforum.org/manufacturing-growth/brazil/

Brazil Research and Advances in Renewable Energy Sources (2010). Retrieved from: https://globalvoices.org/2010/10/13/brazil-research-and-advances-in-renewable-energy-sources/

The world fact book: Brazil/Cuba (2014). Retrieved from: https://www.cia.gov/library/publications/the-world-factbook/geos/br.html

 

Morality and economics

Economics in its etymology means society’s rules and regulations. Adam Smith, who is famously known as the father of economics, considered that there is a high correlation between ethics and economic behavior. In fact, Smith used ethical analysis to study the market since he believed that both of them are functional systems promoting human welfare. Theory of moral sentiments was the first book written by Smith in which he examined the human behavior in a novelistic way relying on morality and virtue. He put away all calculations to look deep into human nature in an attempt to set the commercial game’s rules, the rules that once followed will generate a well-functioning society. Russ Roberts, a popular explicator of economic thought, considered that Smith’s very first book is a pursuit of happiness where he raises moral questions such as: “why do we do nice things given that we’re self-interested? What motivates us to do good things for other people? Then the related question is: what makes us happy? What brings us satisfaction” Roberts continues by concluding that Adam Smith considered the pursuit of wealth corrosive and destructive. We might accept this conclusion since the actions undertaken through the hunt for money sometimes clash with the norms of society especially if we were to believe in the saying: “all is fair in love and war” but in the other hand it is unfair to focus only on this point and disregard all the other ideas interpreted in the moral sentiments book.

Many economists tempt to compare between the Moral Sentiments and the Wealth of nations and consider that these two books have contrasting ideas about public life especially when it comes to business dealings but the truth is that his idea is pretty straightforward, he assumes that human beings are motivated solely by self-interest. This motive, according to Smith, constitutes the basis not only of human behavior but also of the “market and the limitation of government action in economic affairs” as stated R.H. Coase. In other words, I think that Adam Smith’s view of man is conformable with his economic views where each person acts according to his interests and benefits. Perhaps, the major difference is that in the Theory of moral sentiments he deals more lengthily with human psychology and deepens into morals. One famous sentence that lead to controversies is “we should seek or strive to love and be lovely”, it was interpreted by Russ Roberts who claims that by convention people aim to be loved and grab others attention. In their nature, people seek respect, honor and admiration but also they want to earn this respect, they want to be lovely. To be so, people need to reshape their own personality, they need to follow a new set of rules driven by virtue and empathy. This implies that some actions performed in our business dealings won’t be tolerated anymore; here emerges the clash between the human psychology examined in the moral sentiments and the economic behavior dissected in the Wealth of Nations. But, what we often miss is that even if our economic behavior opposes to the virtues, it doesn’t mean that it is illegal. We should be able to distinguish between “legal” and “ethical”. Most frequently everything that is ethical is also legal but the opposite is not true. Some actions aren’t illegal in their essence but it is our conscience that stops us from performing them for the fact that these actions are unethical and can cause potential harm to the society. In this way, psychology and economy complete each other in order to reach society’s welfare. In this context, Adam Smith referred to an entertaining character called “the impartial spectator”. This third player constitutes the judge, our internal judge who assesses our behavior and categorize our actions and thoughts as good or bad. Whenever we feel the dissatisfaction of that spectator, we tend to modify our actions. So, it is all about internal relief. Smith justifies what I mentioned earlier by the hypothetical example of the collapsing of the Great empire of China and the reaction of a person who has no relationship with the people involved in this catastrophe. In this context, he introduces a new psychological term “affection” to prove his idea about self-interest. That person, who is completely external to the incident showed little concern only to verify that affection and sympathy fades as the relationship gets broader. However, this same person showed the willingness to lose his little finger if it would save the life of millions which approves with Smith idea where people seek to be lovely. But, what Adam Smith misses is that this person agreed to sacrifice a small thing that wouldn’t affect his survival in a major way. What if he had to let go his four limbs for the sake of saving the people of China? To do such a big compromise is to disregard his self- interest, it is the peak of Maslow’s hierarchy where only a person who reached self-actualization would be able to suffer the loss of his limbs to save people he knows nothing about them. In fact, R.H. Coase did mention this point but didn’t consider that it affects Smith’s idea deeply.

Smith seems to be a very virtuous man, throughout his book: theory of moral sentiments, he talks about many virtues. Three of them were given a big importance: justice, prudence and benevolence. Reward and punishment derive from justice. In order to reach a well-functioning society justice should be applied and people should abide by the rules in return. So, people are measured by their behavior and actions. Smith had a singular definition of action, he considered that actions are not only what we produce but what we attempt to produce also. Based on this, he believed that people should be judged based on both their behavior and intentions. In my opinion, it makes no sense to go into people’s thoughts when judging a concrete outcome   because at the end of the day what really affects our surrounding is the way we conduct ourselves. When it comes to prudence, it is all about being efficient and selective in your choices. It goes beyond the personal life to reach not only the social by also the commercial life. Here again, we notice the correlation between human nature and economics. The latter is all about a choice where we have to select the most efficient option among other possibilities available when dealing with scarce resources. The third virtue that took a lot of Smith’s attention is benevolence. It is with no doubt the oldest among the three qualities but also the most important one that our whole discussion rotates around it. Benevolence is all about being good at people and helpful. To be benevolent is to be a social activist and offer help to people and definitely not being a bystander. Emotionally, it is very hard to be a benevolent person because it requires action and sometimes sacrifice. Moreover, any discovery of a selfish motive or a self-interest as Smith calls it, destroys the whole notion of merit or praiseworthiness. This last rule makes the application of benevolence a very difficult task not only on the humanitarian level but also on the economical level since “the habits of economy, industry, discretion, attention and application of thought, are generally supposed to be cultivated from self-interested motives” as stated R.H. Coase. Also Adam Smith considered benevolence as an act that goes beyond the powers of men.

To sum up, and here allow me to quote R.H. Coase “the picture which Adam Smith paints of human behavior is not edifying. Man is not without finer feelings; he is indulgent to children, tolerant of parents, kind to friends. But once this is said, it is also true that he is dominated by self-love, lives in a world of self-delusion, is conceited, envious, malicious, quarrelsome and resentful”.  Back in 1759, Adam Smith struggled to explain this natural harmony so he had to believe in a God who created all of it, a God who is the Great Architect of the universe. That was way before Darwin’s theory about natural selection took over. Now, we describe the harmony in human nature as a result of natural selection, “the particular combination of psychological characteristics that lead to survival”. Adam Smith did realize that there was an alternative explanation but didn’t succeed in defining it in the correct terms. However, this fact doesn’t reduce the value of Smith’s findings that are still somehow able to explain many modernist social phenomenon since we all agree on the importance of our instincts while dealing with daily bearings.

Capitalism and Freedom

Eighteenth and Nineteenth centuries witnessed many revolutionary acts that left their trace in history. During these times, economic terms were redefined, roles of public and private sector were reassigned and economies worldwide underwent great changes. People started to enhance freedom and to look at it from different perspective. In his book, Capitalism and Freedom, Milton Friedman introduced his theories by how they are seen by a free man: “ To the free man, the country is the collection of individuals who compose it, not something over and above them… he regards government as a means, an instrumentality, neither a grantor of gifts, nor a master or god to be blindly worshiped and served”. In other words, a free man works besides the government and not below it, he aims to achieve and proceed through the authorities and not to be condemned by them. Friedman also considered that the concentration of power through government constitutes a threat to freedom. Thus, in order to protect freedom of speech, religion and thought, the scope of government must be limited through the cooperation with the private enterprise and the government power must be dispersed. In this way, the social climate will be one that induces variety and diversity, it will be one that provides opportunities and new frontiers to success. Once this is said, we can now proceed and examine Friedman’s most important theories: economic and political freedom, role of government, fiscal policy, distribution of income and many more.

People believe that an intimate and close connection exists between economics and politics but what about economic freedom and political freedom? Economic freedom is the freedom in arrangement and the establishment of free markets, in other words it is the development of capitalist institutions. So, political freedom came along with economic freedom. But in the other hand, history suggests that it is possible to have capitalist economic arrangement in a politically tied country. Thus, capitalism is a necessary condition for political freedom but not a sufficient condition. However, Bentham and the Philosophical Radicals regard political freedom as a means to economic freedom. In this context, history shows that when politicians shaped the Laissez faire concept an increase in well-being emerged. Also, one remarkable historical event that cannot be disregarded when examining economic and political freedom is the world war, both of them actually. These wars caused great shifts in economics where collectivism emerged and the game was reversed: economic freedom became a means to political freedom. Later, in the healing process from the devastating wars, many democratic countries tempted to reduce reliance on government intervention and emphasized private market. It is important to highlight that these countries knew an elevated social welfare compared with other socialist countries. One simple and straightforward example is the comparison between western and eastern Germany where it is obvious that West Germany enjoyed economic comfort and wealth that outweighed East Germany. The capitalist Germany also enjoyed better football! To summarize, we notice that there wasn’t one clear and consistent relation between economic and political freedom but a relation existed for sure. Many argued that what specifies this relation is ethics where the extent of responsibility of individuals in a free economy was questioned. People were considered as imperfect beings that implied a basic problem of social organization it is “how to coordinate the economic activities of large number of people”. Well, capitalists found the solution by introducing the division of labor and specialization but unfortunately they had to reconcile interdependence in production with individual freedom. But wait! This was also settled by exchange in competitive markets. So, among the two systems, socialism and capitalism, the latter was able to present solutions while the former wasn’t. Capitalism was also able to preserve political freedom where the impersonal market was able to separate economic activities from political views and put an end to discrimination.

Capitalists also set the role of government in their system. Since the market is a system of proportional representation, political channels are required to enforce substantial conformity. So, government was called to establish law and order and reconcile the differences and conflicts between the players in the market. Unanimity was obviously unattainable so a majority rule came into the picture. Of course, this rule was flexible depending on the kind of issue. So, different issues required different majorities. Government was called to settle conflicts in men’s freedom where it was agreed that “one man’s freedom must be limited to preserve another’s”. Once we agreed on the role of government, now we should agree on the appropriate activities that it should perform while serving its role. For example, how property rights should be handled and the proper monetary system that should be adopted. Government had to prevent coercion. It also had to fight monopolies and neighborhood effects and protect the irresponsible (children and madmen). However, it is also believed that government dominated many activities by tariffs, rent control, regulation of industries and technical monopoly in telephone services. This leads us to question the feasibility of a system where the protector is corrupt himself! Government role covered fiscal policy as well. In this context, government was expected to eliminate unemployment or at least decrease it. In fact, the government did raise its expenditures but failed to overbear unemployment and it ended up in huge deficits. As a solution, securities were issued so that the deficit would be financed, unemployment problem would be solved and people would be able to save. However, this solution was discredited not only by theoretical analysis but also by experience. So, the government tried one last shot by making its expenditures a balance wheel: whenever private expenditures decline, the government should raise its own expenditures and vice versa. Unfortunately, it turned out that “the balance wheel is unbalanced” as stated Friedman. The reason is that the pace at which spending take place is not matched by an equal pace to revoke them when the recession is over. In the other hand, it makes no sense to jeopardize a healthy expansion by cuts in government expenditures. Friedman considered that a solution lies in the taxing system instead. He argued that “taxes can be lowered during recessions and raised during expansions”. Personally, I think that he totally makes sense in this point where government gets to avoid falling in deficit.

On a more personal level, Friedman tackled the ethics of distribution of income. Collectivists had an ultimate goal: equality of income, which they worked on promoting. However, a normal and rational person would ask: “what is the justification for state intervention to promote equality? And does these measures have positive impacts?” What collectivists didn’t understand that in order for people to get equal wages they need to have equal abilities in the first place. And since every person is unique, the equality in abilities is impossible and unrealistic which means that equality in income is unfair. A capitalist justifies the distribution of income by “To each according to what he and the instruments he owns produce”. It means that he won’t pay everyone equally but he is treating them equally in terms of the payment procedure. So, ethically speaking, Capitalists as usual are in a more potential position. In a more practical sense, people make choices based on their preferences and tastes. Some are risk lovers so they invest in accordance with their taste for uncertainty; others are risk-averse so they stay on the safe side and avoid risky opportunities. In other words, what we should understand is that “inequality may be the result of arrangements designed to satisfy men’s tastes”. Risk lovers people may win a lot or lose a lot and responsible people they will have to deal with all the consequences: they may be very wealthy which they deserve for being brave and engaging in risky activities, or they may be very poor which they have to accept for engaging in risky activities. Risk-averse people chose their own destiny and should accept getting paid a low wage compared with the lucky and wealthy risk lovers. So, as Freidman said, “inequality resulting from differences in personal capacities, or from differences in wealth accumulated by the individual in question, are considered appropriate”.

Many more conflicting issues need to be discussed and examined closely. Most of the times the issues rotating about individuals and their well-being are the most debatable ones. In this paper, only few issues were discussed broadly, but the bottom line is that all the conflicts and problems start with the different perspectives capitalists and socialists have. Perhaps, the cause of this endless war between the two parties is one word: liberalism. Capitalists considered it as “private voluntary arrangements” to achieve personal and social welfare; but socialists considered it as readiness to rely mainly on the state to achieve “equality”. This change in the meaning caused a big controversy: should centralized power be in the hands of government or private institutions? So, the term “liberalism” became corrupted and is more labeled to conservatism which was supposed to be in people’s favor. But, empirical evidence showed that the system caused even further corruption and inequality. At the end, allow me to conclude that capitalism might be corrosive, unfair, evil, an exploiting system to the poor but communism is definitely not the alternative where people will get to live happily ever after!

Population growth and economics

Nowadays, humanity suffers from many worldwide problems that don’t stop at a nation’s borders such as environmental degradation, refugees, narcotics, terrorism, organized crime, and most importantly overpopulation. Statistics show that our earth has become overpopulated where more than 7 billion people live on this planet. The main fear is that in the near future there won’t be enough resources and food for the survival of the population since the latter is increasing at a rate that outweighs the increase in food supply. We are also running out of natural scarce resources like petrol and gas who are not renewable in the short term and we suffer from climate changes that threaten our existence. Many economists were concerned by these facts and questions were raised about the economic growth future given the increasing world population. In fact, this topic is very debatable and economists did not succeed in reaching a final agreement whether there is a correlation between population and economic growth or not. In this paper, we are going to interpret the findings of two economists: Thomas Robert Malthus who considered that people will adjust their economic behavior to prevent starvation whenever they feel that population became a threat in one hand and Julian Simon who considered that overpopulation has a positive impact on economic growth on the other hand.

Malthus was interested in population related topics. He studied demography very closely and tried to relate it to economic factors. You may think that Malthus was being logical since economics is targeted towards social welfare and aims to store equilibrium; but Malthus’ biggest mistake is that he relied on mathematics and numbers to study human behavior. He used concrete palpable methods to study intangible things: he compared food supply to an arithmetic series that increases at a lower rate than the increase in population which was compared to a geometric series. So, people were only numbers to Malthus, numbers that should be reduced at any cost to prevent starvation and to obtain higher economic growth. This point of view was highly criticized by Julian Simon, an instructor at the University of Maryland and the author of many economic books. He considered the belief that population growth slows economic development is so inaccurate and legalizes inhumane unethical programs like sterilization programs, birth control, imposing abortion and more. Simon referred to public events to reinforce his point of view: “In 1973, Supreme Court Justice Potter Stewart’s vote in Roe v. Wade was influenced by this idea, according to Bob Woodward and Scott Armstrong: “as Stewart saw it, abortion was becoming one reasonable solution to population control”. The concerns that Malthus raised about the population future given the diminishing returns have been made artificial by Simon. The latter acknowledges that economists shaped the Malthusian principles for so long but does not hesitate to give his opinion and to state that the economic thinking started to rotate and accept the increase in population that was described before as a “plague”. Simon relied on statistical evidence, the findings of the National Research Council and the National Academy of sciences more specifically, to falsify all the previous concepts and conclude that “the impact of rapid population growth on resource exhaustion has often been exaggerated”. Simon also claimed that resources are not fixed and actually uses Malthus’ own idea about the adjustment in economic behavior to prove that. He said that whenever people feel that they are facing a shortage, they will adjust their behavior and create other resources, thus, the diminishing returns logic won’t apply anymore. This idea was illustrated by an example that I believe it made the concept more understandable: “when schoolhouses become crowded, we build new schools – more modern and better than the old ones”. And he stated that it isn’t only limited to man-made production, it also covers the natural resources. Of course, a person would feel more at ease if he had to think about new innovations to survive instead of searching for extreme methods to limit population growth like reducing health care and warfare as suggested Malthus. Moreover, Malthus didn’t appreciate technology when it comes to food production, so, we can say that he was so pessimistic and close-minded, dependent on extreme solutions.

Simon didn’t only work on refuting Malthus’ ideas, he also proved how overpopulation can have a positive effect on economic growth. He considered that if more people were born than we will benefit from more intellectuals and more physical capital will be created to lessen the shortage: “the most important benefit of population size and growth is the increase it brings to the stock of useful knowledge”. Therefore, according to Simon, bigger population is more skills available which implies more technology, thus, the scarcity of raw materials diminishes. Statistically speaking, Simon’s argument makes sense but what he missed is that more human beings doesn’t necessarily mean more quality. If we wanted to take a look at the birth rates worldwide, we will find that in general, this rate is very high in the countries that suffer from the worst economies, and endure bad standards of living. Hence, the possibility to have skilled persons and intellects in these countries is too small. On the other hand, some countries have proved the positive correlation between overpopulation and economic growth. Let’s take Japan as an example. Japan is a small country (377944 km2) relative to its huge population (127 million). At some point, Japanese were afraid that there won’t be enough lands for people to build houses and settle down within the country’s borders. But, when they assumed the impossibility of living horizontally, they started to think about living vertically and ended up building skyscrapers. And when they felt the threat of natural conditions on their lives, they shaped advanced technologies to prevent their buildings from crashing when facing earthquakes and tsunamis. In this way, Japan performed an outstanding adjustment in their behavior to deal with the shortage of land. Moreover, they also profited from their huge population to innovate and produce using very advanced technologies that lead them to be one of the leading economies in the world. So, as I said earlier, it is never a matter a quantity, it is a matter of quality. Simon also praised other achievements that the population reached, it is the decrease in world’s death rates that he described it as “the greatest human achievement in history”. He relates this achievement to the advances in agriculture, sanitation and medicine. He tempted to compare between life expectancies and survival back in history and today only to show the advancement we have reached in our life due to technology in a trial to make overpopulation smoother. However, Simon appeared to be very emotional as he seemed to manipulate his audience and trying to leave a judgmental impression on the people who have conflicting ideas with him: “one would expect lovers of humanity to jump with joy at this triumph…. Instead, many lament that there are so many people alive….”

To sum up, we should understand that this is a long-lasting debate. The truth is that economists and socialists will always argue whether increasing population is good for the economy or not or whether it is possible to survive in an overpopulated world. It is hard to get a final generalized answer but we should consider the relativity concept. Empirical evidence shows that overpopulation had positive effects on economic growth in some countries and negative effects in other countries and with the advanced technologies that we enjoy today, survival is not a concern anymore, it is the quality of life we aim to live that is taking the whole attention. So, it makes sense to think that people are considering decreasing the world population so they can enjoy more space and better standards of living. But again, the problem isn’t with the huge amount of people on this planet, the problem is with the quality of people. Some of them make our life look better but sadly the majority is just a waste of oxygen. So, the key to a well-functioning society is education. In our days, education is what measures and distinguishes people and societies; it is not birth control, it is not overpopulation, it is education!