The role of the government in a

changing world

Ha-Joon Chang

Faculty of Economics

University of Cambridge

Economic Theory and the Role of

the Government

• It is not true that ‘economic theory dictates that

the smaller the government is and the less it

does, it is better’.

• Different theories provide different • Different theories provide different

prescriptions on the ideal role of the

government.

• Even for the same theory, what is the ‘correct’

role depends on the country’s values and goals.

Economic History and the Role of

the Government

• Many countries have done well despite (or

because of) going against prevailing economic

theories.

– The USA– The USA

• Protectionism, regulation of foreign investment,

government funding of R&D

– Finland

• Nokia, regulation of foreign investment, high taxes

– Most other rich countries have also violated many

elements of free-market orthodoxy.

Changing Role of the Government

• The desirable role of the government not only

differs across countries but should change over

time.

– ‘Policy cycles’ (classic liberalism – Keynesianism – ‘Policy cycles’ (classic liberalism – Keynesianism

– neo-liberalism – a new dominant ideology?)

– Long-term structural changes (Global warming,

Increasing complexity, Globalization of

corporations, Rise of new countries, ‘greying’ of

the population)

Global Warming

• Coping with global warming will require the government to more deeply intervene in all aspects of our lives – how we produce things, what we consume, where we live, how we travel to work, and where we go for holidays. to work, and where we go for holidays.

• An even bigger challenge is that the problem is truly global and we need to work out a way to equitably distribute the burden of adjustments, while allowing poor countries grow with minimum possible impact on global warming.

Growing Complexity

• Growing complexity makes government

intervention more difficult (although not as

much as it is often made out to be), and thus

makes it necessary for it to withdraw from less

urgent areas.urgent areas.

• Growing complexity increases reliance on

outside expert opinions, which increases the

danger of manipulation by interest groups.

– This makes it necessary to increase transparency

so that competing expert opinions can be openly

debated.

Globalization of Finnish Business

• In the short-run, investments abroad by Finnish firms

may reduce Finnish jobs

– although in the long run they can (although not necessarily

‘will’) create more and better paid jobs in Finland, if it

allows Finnish firms to grow faster and enough money

comes back home.comes back home.

• However, globalization of business means that a lot

of public support for Finnish firms will ‘leak out’,

making it difficult to justify it to the taxpayers.

• Globalized firms will feel less (although not entirely)

attached to the Finnish society and become less

willing to accept egalitarian policies (e.g., welfare

state, higher wages).

Changing world economic and

political maps

• Rise of Russia

– Politically worrisome for Finland, but the EU will

provide substantial protection.

• Rise of China and India• Rise of China and India

– Not a direct political challenge, but over time they

will be seriously economic challengers

• they will begin to compete in high-tech industries well

before their wage levels reach the Finnish level, so

Finland needs to accelerate investment in innovation.

The Greying of the Population

• Increasing proportion of older people means

that people have to retire later and/or accept

lower pensions.

– Requires re-designing of the welfare state and the – Requires re-designing of the welfare state and the

labour market

• The other alternative is increased immigration.

– Difficult for a country like Finland, which was a

labour-exporting country until recently and which

has always struggled to keep its identity.

Words of Warning

• The most exciting change is not necessarily the

most important change.

– Telegraph vs. internet

– Washing machine vs. internet– Washing machine vs. internet

• Seemingly irreversible trends can be reversed.

– British population trends of the early 20th century

– Globalization

– The Rise of China and India

Concluding Remarks

• No single ‘correct’ set of roles of the government.

• The role of the government needs to change over

time – ‘policy cycles’ and changes in long-term

trends.trends.

• However, we should not assume that the most

visible trends are the most important ones nor that

today’s trends will continue forever.

• All these mean that intelligent governments need

long-term vision, pragmatism, and a healthy dose

of scepticism.