Friday, July 19, 2013

The Key to Philippine Prosperity

Increasing the capital is the only key for developing nations (like the Philippines) to attain prosperity. This is Ludwig von Mises' central argument in his fifth lecture on economic policy, "Foreign Investment". I would like to share this under five headings - reason for lower income, three important events, numerous enemies of capital growth, situation in many countries, and the key to the prosperity of developing countries. 



Lower Income

The standard of living is lower in the Philippines simply because the average income is also lower compared to similar type of work in developed countries. And the reason for this is not inferiority of our workers or ignorance on the part of our entrepreneurs. Instead, it is dependent on economic situation and availability of capital in the country. I think the following paragraphs apply to us:

"The standard of living is lower in the so-called developing countries because the average earnings for the same type of labor is lower in those countries than it is in some countries of Western Europe, Canada, Japan, and especially in the United States. If we try to find the reasons for this difference, we must realize that it is not due to an inferiority of the workers or other employees. There prevails among some groups of North American workers a tendency to believe that they themselves are better than other people—that it is through their own merit that they are getting higher wages than other people. It would only be necessary for an American worker to visit another country—let us say, Italy, where many American workers came from—in order to discover that it is not his personal qualities but the conditions in the country that make it possible for him to earn higher wages...Nor can one explain this economic situation by assuming any inferiority on the part of the entrepreneurs outside the United States" (pp.76-77). 

"Once again: the difference is not personal inferiority or ignorance. The difference is the supply of capital, the quantity of capital goods available. In other words, the amount of capital invested per unit of the population is greater in the so-called advanced nations than in the developing nations" (p.77).

"The employers in all of these developing nations know very well that better tools would make their own enterprises more profitable. They would like to build more and better factories. The only thing that prevents them from doing it is the shortage of capital" (p.78). 

Three Important Events


Mises identified three important events in the economic history of the world. These are the introduction of foreign investment in the 19th century, the story of American subsidies in between and after two world wars, and the development of anti-capitalist mentality after World War 1. 

Without the aid of British capital in the 19th century, the development of US economic system is unintelligible. In addition to British capital, US economic policy during those times was friendly to foreign investment. This explains the unprecendeted growth of American economy. 

But after World War 1, economic climate changed with the development of anti-capitalist mentality. Countries were no longer friendly to foreign investment. The previous condition that encouraged foreign investment was removed. Expropriation of investments became the norm. Mises explains this in detail: 

"Starting with the First World War, there began a period of worldwide open warfare against foreign investments. Since there is no remedy to prevent a government from expropriating invested capital, there is practically no legal protection for foreign investments in the world today. The capitalists did not foresee this. If the capitalists of the capital exporting countries had realized it, all foreign investments would have come to an end forty or fifty years ago. But the capitalists did not believe that any country would be so unethical as to renege on a debt, to expropriate and confiscate foreign capital. With these acts, a new chapter began in the economic history of the world" (p.82).

"With the end of the great period in the nineteenth century when foreign capital helped to develop, in all parts of the world, modern methods of transportation, manufacturing, mining, and agriculture, there came a new era in which the governments and the political parties considered the foreign investor as an exploiter who should be expelled from the country" (ibid.).

Of course, countries will not openly declare such animosity against foreign investment. I think the typical strategy was described by Mises in the person of Jawaharlal Nehru of India. Nehru said, 

" 'Of course, we want to socialize. But we are not opposed to private enterprise. We want to encourage in every way private enterprise. We want to promise the entrepreneurs who invest in our country, that we will not expropriate them nor socialize them for ten years, perhaps even for a longer time' " (pp.83-84). 

Mises was not naive to believe that such a message was really an invitation to foreign investors. Capitalists want reliable rules that will stay not just "for ten years" or "even for a longer time".


Enemies of Capital Growth 

Aside from direct expropriation, "innovative" way of expropriating capital also exists. And this problem is rampant in developing countries (I do not know the details of this in the Philippines). Mises mentioned two ways of doing this - foreign exchange control and tax discrimination. And then referring to tax system, he described it as the existing policy in the US, as insane, and should not be followed by other countries (which I hope is not true to our country). He called it double taxation and progressive: 


"The problem—as you know—is domestic capital accumulation. In all countries today there are very heavy taxes on corporations. In fact, there is double taxation on corporations. First, the profits of corporations are taxed very heavily, and the dividends which corporations pay to their shareholders are taxed again. And this is done in a progressive way" (p.84).

"Progressive taxation of income and profits means that precisely those parts of the income which people would have saved and invested are taxed away" (ibid.). 

"This policy of the United States is worse than bad—it is insane" (ibid.).


Two additional forces that prevent capital growth are protectionism and labor unionism. Protectionism prevents "the importation of capital and industrialization into the country" (p.87). Labor unions on the other hand "use violence against entrepreneurs and against people they call strikebreakers" (ibid.). They "cannot industrialize the country, they cannot raise the standard of living of the workers", and they bring nothing but "permanent, lasting unemployment" (ibid.).

Situation in Many Countries and Proposed Solution 

Many countries are in serious trouble due to these anti-investment policies. The end result of this is harmful to national economy. It destroys confidence that cause the retreat of foreign investment. For Mises, his proposed solution was to establish an international law that remove foreign investments from national jurisdiction. Mises explains the seriousness of this problem:


"But in many other countries the problem is very critical. There is no—or not sufficient—domestic saving, and capital investment from abroad is seriously reduced by the fact that these countries are openly hostile to foreign investment. How can they talk about industrialization, about the necessity to develop new plants, to improve conditions, to raise the standard of living, to have higher wage rates, better means of transportation, if they are doing things that will have precisely the opposite effect? What their policies actually accomplish is to prevent or to slow down the accumulation of domestic capital and to put obstacles in the way of foreign capital" (p.85).

The Key to the Prosperity of Developing Countries


Mises kept on emphasizing that the only thing missing among developing countries for them to improve their standard of living is capital accumulation operating not under the control of the government, but under the discipline of the free market. And to achieve the desired result, capital requires a stable monetary unit. This would mean total absence of any kind of monetary inflation. 

At the end of the day, the key to the prosperity for developing countries is all about economic policy and for Mises this is the decisive point: 

"One must realize that all the policies of a country that wants to improve its standard of living must be directed toward an increase in the capital invested per capita" (pp.87-88).

"As I said before, there is only one way a nation can achieve prosperity: if you increase capital, you increase the marginal productivity of labor, and the effect will be that real wages will rise" (p.88).

He calls this one way as the slow method:


"To attain the end, as I see it, there is only one way! It is a slow method. Some people may say, it is too slow. But there are no short cuts to an earthly paradise. It takes time, and one has to work" (p.90).

In concluding his lecture, Mises cited Switzerland as a model of this proven way:


"In the center of Europe, there is a small country, Switzerland, which nature has endowed very poorly. It has no coal mines, no minerals, and no natural resources. But its people, over the centuries, have continually pursued a capitalistic policy. They have developed the highest standard of living in continental Europe, and their country ranks as one of the world's great centers of civilization" (pp.90-91). 

Personal Response


There are two questions that come to my mind while reading the first part of Mises' lecture. What is the economic situation in the country? And what prevents the availability of both domestic and foreign capital? I think it is the existing economic policy that determines the economic situation in the country. And this policy unless changed, we will never see the growth of domestic capital and flow of foreign investment. 


Dr. John V. C. Nye of George Mason University shares similar opinion as to the primary obstacle for the increase of investment in capital per capita. "Badly distorted micro-economic price situation", "poor and unreliable property rights and contracting", "legalistic bureaucracy" and "policies and institutional constraints that are anti-investment and anti-competitive" are great barriers both to domestic and foreign capital. 


We have been hearing the call particularly to OFWs to invest and start their own business. If this call is really true and sincere, the government must start paving the way first by removing restrictions that prevent the flow of capital into national economy.


Source: Mises, Ludwig von. (1979). Economic Policy: Thoughts for Today and Tomorrow. Chicago: Regnery/Gateway, Inc.



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