On Socialist Death Spirals

Here in the world of capitalism, we are accustomed to the idea that the economy grows every year.  Sometimes the growth is 4 percent in a year, and sometimes it's only 1 or 2 percent, but it is rare to have actual economic shrinkage that goes on for longer than a couple of quarters before growth resumes.  What's going on is that hundreds of millions of people, all seeking to better themselves, and working under the incentives of a (relatively) free marketplace, each year find many small ways to work a little more effectively or efficiently.

In a world of public ownership, government handouts, and "each according to his needs" -- that is, in a world of socialism -- the incentives are the opposite.  Where most of the economy is government-controlled, then for most people, the immediate way to improve your economic condition is to qualify for more handouts; and the way to qualify for more handouts is to become less rather than more economically productive.  For fully or substantially socialized economies one would expect to observe long-term gradual economic decline, and the more fully socialized the faster the decline.  Call it the socialist death spiral.

And yet when you look at statistics coming out of fully or largely socialized economies, that's not what you find.  Instead, what you find is that the official statistics for years and decades show growth comparable to, and sometimes faster than, that in capitalist economies; and then one day, it all falls apart.  Think the old Soviet Union and its satellites.  In my youth in the fifties, sixties and seventies, they regularly put out official numbers showing that their rate of economic growth was faster than that of the United States -- sometimes two or three times as fast.  They tightly controlled internal travel, so there was no way to check their numbers independently.  Then in 1990 and 1991, it all suddenly fell apart in a matter of months.  An economy that even the CIA thought was more than half as big as that of the U.S. turned about to be 10% the size at most.

Of course the numbers had been fictitious all along.  There really was a gradual decline going on, but the numbers didn't show it.  And, without knowing all the tricks the Soviets used at the time, the main one is obvious, namely counting all or most government spending as a full addition to GDP.  Where government owns the main businesses and controls most of the distribution of resources, not to mention prices, the measure of GDP becomes more and more arbitrary.

Something like this is going on in Venezuela right now.  In that country, Hugo Chavez came to power in 1999, and began a gradually-tightening transition to a government-controlled economy.  In his first few years, the official statistics conceded economic decline, as Chavez battled for control of the oil industry and suffered a strike of oil workers.  But starting in 2003, the official numbers showed rapid growth.  Here is a 2012 report from left-wing think tank CEPR on Venezuela's economy from 2002 to 2012.    A few highlights:

[E]ven after the [oil] strike was over [in early 2003], analysts predicted a dire future and a slow, difficult recovery. International Monetary Fund (IMF) forecasts repeatedly underestimated GDP growth by a gigantic 10.6, 6.8, and 5.8 percentage points for the years 2004-2006. Instead, the recovery was very rapid and the economy grew at a record pace over the next five years, with real GDP nearly doubling from the end of the oil strike (first quarter 2003) through the fourth quarter of 2008. . . .  

And then after the recession of 2009:

A recession began in the first quarter of 2009, and forecasts remained dire well beyond the beginning of the recovery in the second quarter of 2010. In 2011, the Venezuelan economy defied most forecasts by growing 4.2 percent, and is up 5.6 percent for the first half of 2012 

But was it real?  It seems like a lot of the growth was government spending:

In 2011, government spending boosted and consolidated the recovery. . . .   For 2012, the economy grew 5.6 percent in the first half of the year, as compared with the first half of 2011. Here growth was led by construction, which expanded by 22.5 percent over the first half of 2011, due to the government’s program to build housing and alleviate a national housing shortage. In 2011, there were about 147,000 houses built under this program, with two-thirds built by the public sector and one-third from the private sector. 

Those "analysts" who have been "predicting a dire future" for Venezuela for all these years are probably people like me who think that GDP numbers inflated by blowouts of government spending do not reflect real growth.  The CEPR report basically gloats that these nay-sayers don't understand socialism and are always wrong.  The other way of looking at it is that government spending and control of the economic statistics can paper over economic decline for a long time, but not forever.  In the case of Venezuela, it seems that they are running out of time.  This year the IMF is predicting economic decline of 7 percent for Venezuela -- and that is with a continuation of counting government spending at 100 cents on the dollar in GDP.  Real numbers would likely be far worse.  Here's a report from Bloomberg this past week on the disappearance of beef from the country.  

Or maybe the IMF will be proved wrong and Venezuela will put out far better numbers when the year is over.  But it is likely that the Venezuela's numbers are just papering over what is in reality a gradual decline.  When the thing starts to come apart, it will come apart all at once.

So, dear readers, keep all this in mind when you read the next column by Official Manhattan Contrarian Worst Economics Writer Paul Krugman.  According to an article this week in Bloomberg News, since the financial crisis Krugman has written no fewer than 74 columns and blog posts attacking what he calls the "austerians," that is, the analysts and economists who advocate some combination of cutting government spending and raising taxes as the way to achieve real improvement in an economy.  In his screeds, Krugman constantly cites economic statistics from countries that increase government spending showing that their economy has "grown."  Is it real, or are they in a papered-over socialist death spiral?  I mean you, Greece.