In a presidential address to the American Economic Association in 2005, Nobel Laureate Robert Lucas confidently pronounced that economists have solved the fundamental problem of prevention of recessions. The Global Financial Crisis (GFC) of 2008 took economists by surprise, since none of the seven major schools of macroeconomic thought allowed for this possibility. Remarkably, the US Congress set up a committee to investigate the failure of economic theory to predict the crisis. In written testimony, Robert Solow wrote that the theories being used to make policy seemed suitable for some alien planet. Similarly, Paul Krugman said that the profession as a whole was led astray by the beauty of mathematics, and failed to pay attention to the ugly realities. One of the central tenets of economic theory is that prices guide us to the right allocations. Instead, the overheated mortgage market deceived people into making massively wrong investments, which led to the crisis.
The failure of modern economic theories has led to a search for better theories. Authors like Bagehot, Minsky, Kindleberger and Keynes, who had been ignored or discarded are re-gaining popularity. However, the deepest and most penetrating critique of capitalism was produced by Karl Polanyi in his monumental classic The Great Transformation: The Political and Economic Origins of Our Times. Polanyi’s arguments are complex and remain unfamiliar to a majority of economists. They run counter to received wisdom, and are directly opposed to what is taught about economics in leading universities. Our goal in this essay is to provide a brief summary of his ideas.
The central theme of the book is a historical description of the emergence of the market economy as a competitor to the traditional economy. The market economy won this battle, and ideologies supporting the market economy won the corresponding battle in the marketplace of ideas. Today, the victory of the market economy is so complete that it has become difficult for us to imagine societies where the market does not play a central role. Polanyi argues that contrary to popular belief, markets have been of marginal importance in traditional societies throughout history. The market economy emerged after a prolonged battle against these traditions. As Polanyi clarifies, this is not a good development. The commodification of human beings and land required by the dominance of the market has done tremendous damage to society and environment. The value of human life has been degraded to their earning power. This enables the grim calculations made by Ambassador Albright that sacrificing half a million Iraqi children is worth the control of oil. Similarly, precious rainforests, coral reefs, plants, fish, and animal species which took millions of years in the making, and cannot be replaced at any price, are reduced to the value of timber, food or chemicals. This is the root cause of the social and environmental catastrophes we currently face. The analysis of Polanyi can be summarised in the five points listed below.
First, markets are not a natural feature of human society. Nearly all societies other than the modern one we live in used different, non-market mechanisms to distribute goods to members. Our society is unique in having made markets the central mechanism for the production and distribution of goods to its members.
Second, market mechanisms conflict with other social mechanisms and are harmful to society. They emerged to central prominence in Europe after a protracted battle, which was won by markets over society due to certain historical circumstances peculiar to Europe. The rise of markets caused tremendous damage to society, which continues to this day. The replacement of key mechanisms, which govern social relations with those compatible with market mechanisms, was traumatic to human values. Land, labour and money are crucial to the efficient functioning of a market economy. Appropriating the functions of these alters and harms central social mechanisms governing human relations.
Third, certain ideologies, which relate to land, labour and money, and the profit motive are required for efficient functioning of markets. In particular, both poverty, and a certain amount of callousness and indifference to poverty are required for efficient functioning of markets. Poverty is, in a sense, to be clarified, a creation of the market economy. The sanctification of property rights is another essential feature of markets. Thus, the existence of a market economy necessitates the emergence of certain ideologies and mindsets which are harmful to, and in contradiction with, natural human tendencies.
Fourth, markets have been fragile and crisis-prone and have lurched from disaster to disaster, as amply illustrated by GFC 2008. Polanyi prognosticated in 1944 that the last and biggest of these crises in his time, the Second World War, had finally killed the market system and a new method for organising economic affairs would emerge in its wake. In fact, the Keynesian ideas eliminated the worst excesses of market-based economies and dominated the scene for about 30 years following that war. However, the market system rose from the ashes and came to dominate the globe in an astonishing display of power. This story has been most effectively presented by Naomi Klein in The Shock Doctrine: The Rise of Disaster Capitalism.
Fifth, market economies require imposition by violence — either natural or created. As noted by the earliest strategists, deception is a crucial element of warfare. One of the essential ingredients in the rise of markets has been a constant battle to misrepresent facts, so that stark failures of markets have been painted as remarkable successes. There are a number of strategies commonly used to portray an economic disaster as progress and development. Without this propaganda, markets could not survive, as the forces of resistance to markets would be too strong.
This last point clarifies something which may puzzle readers. According to all we hear, capitalism has created tremendous wealth and unprecedented progress. In fact, notwithstanding capitalist propaganda to the contrary, this growth has been extremely costly. We have sold planet Earth, and are celebrating the proceeds without taking into reckoning the costs. Understanding Polanyi’s analysis is essential to reversing the damage.
Published in The Express Tribune, April 27th, 2015.