Economics Nobel Prize winner Joseph Stiglitz, well-known for sharply criticizing the conventional wisdom of development economics, once summed up his views in a rhetorical question: “We have felt the pain, when do we get the gain?”

Stiglitz wanted to point out that standard development strategies require countries to pay a high price in exchange for the promise of a better future. The price comes in form of harsh poverty for some members of the society, income reduction for many, social strain, and increased inequality. While it is obvious that the “pains” connected to these standard recipes have struck many countries hard, it is less clear whether the promises of prosperity and growth have been realized.

A CONTROVERSIAL STRATEGY

The classical approach to developing a country is the so-called Washington Consensus (WC), deriving its name from the fact that it is traditionally favored by the World Bank and the International Monetary Fund, both based in Washington D.C.

The main postulates of the WC are trade liberalization, budget consolidation, macroeconomic stabilization, market deregulation, and privatization of government-run economic activities. These recipes were originally developed for Latin American countries in the aftermath of their financial and economic crises of the 1980s.

In Latin America, the outcomes of WC policies were rather disappointing. For example, at the end of the 20th century, some Latin American countries were struck by financial crises (like the 1994 “Tequila Crisis” in Mexico), and liberalization of financial markets, a main postulate of WC, may have been an aggravating factor. Joseph Stiglitz in his 2005 article “The Post Washington Consensus Consensus” (Initiative for Policy Dialogue Working Paper, Columbia University) claims that the growth of this region was “just half of what it was in the 60s and 70s, the decades marked by the ‘failed’ policies of import substitution.” He blames the Washington consensus to cut down the role of the public sector and he emphasizes the fact that some countries were quite successful with policies contradicting the WC. For example, the so-called Asian Tigers (Hong Kong, South Korea, Taiwan, and Singapore) performed impressively with a policy focused on export subsidies.

When the Iron Curtain came down around 1990, many Central and Eastern European countries implemented the new and fashionable WC for facilitating the transitions of their socialist economies to market economies. Yet the WC was not designed for transition economies. None of the dysfunctional market economies of Latin America had the typical problems of the late socialist economies, namely inefficiently operating industries and the absence of private ownership of capital.

Moreover, policymakers of Eastern European countries adopted a simplified, superficial version of the WC focusing on precipitous liberalization and privatization. This was based on a naïve belief in the self-regulatory power of free markets that prevailed in the early 1990s, not taking into account that people who had been living in planned economies for 70 years were not instantaneously ready for life in unrestrained capitalism. Succeeding in a market economy requires skills that were largely unlearnt during socialism, and as a result, much of the wealth of those societies was pocketed by a small group of people (the “oligarchs”) who exploited the ignorance of their compatriots and became incredibly rich.

Stiglitz, who got the Nobel Prize for his work on informational economics, provides a theoretical explanation for these events. It is a well-known result in microeconomics that informational asymmetries can prevent markets from achieving desirable outcomes. According to Stiglitz, free markets in Eastern European countries suffered from those very efficiency problems predicted by economic theory when there are information asymmetries among the market participants. Under such conditions, he writes, “there is no theoretical underpinning to believe that in early stages of development, markets by themselves will lead to efficient outcomes” (Stiglitz 2005, see reference above).

After the failure of the WC was widely recognized, Stiglitz and other prominent economists proposed an alternative agenda termed Post Washington Consensus Consensus (PWC). An important component of PWC is its emphasis on the role of the government in providing education and infrastructure, reducing poverty, and regulating the financial sector.

GEORGIA’S EXPERIENCE

Despite its controversial status, WC was a blueprint for the economic policy agenda of Georgia. This is most visibly reflected in the goals of trade liberalization, fiscal consolidation, and price stabilization, outlined in the WC and actively pursued by Georgian governments since 2003.

Whether or not this strategy was and is successful is still to be decided. While Georgia could until recently boast impressive growth rates, the country suffers from sharp income inequality and considerable poverty in some segments of the society.

Moreover, it is not clear whether the successes of the last years can be attributed to the WC recipes. Given the disastrous economic policies of the Shevardnadze era, almost every somewhat reasonable strategy would have led to improvements. In a situation in which economic activity has more or less come to an end, a lot of growth can be generated just by returning to “normal circumstances”, characterized by a functioning government, bearable corruption levels, etc.

One can also argue that trade liberalization, included in the WC core agenda, yielded rather ambiguous consequences for Georgia. It resulted in huge imports that were not covered by corresponding exports, leading to persistent current account deficits (rather unusual for a low-income country on this stage of development). This is in line with Stieglitz’s claim that “unless the economy is competitive, the benefits of free trade and privatization will be dissipated in rent-seeking, not directed toward wealth creation. And if public investments in human capital and technology transfers are insufficient, the market will not fill in the gap.” (Cited from “More Instruments and Broader Goals: Moving toward the Post-Washington Consensus”, Chapter 1 in Ha-Joon Chang (ed.): The Rebel Within, London 2001, pp. 17-56).

One of the main deficiencies of the WC is its disregard of path dependence, i.e. the negligence of the role of a country’s economic history in the outcome of different policies. Trade liberalization may be beneficial for a country that, unlike Georgia, enters the stage with comparative advantages in various fields, while it may be detrimental otherwise.

The deficiencies of the WC agenda urge us to think about more elaborated strategies of development that are adjusted to Georgia’s history and its socio-economic conditions.

The debate continues…