Why there is chronic excess capacity - The Market Failures Issue

Challenge, Nov-Dec, 2002 by James Crotty

IN THE AFTERMATH OF THE GREAT DEPRESSION WORLD WAR II, national economies, even those in which markets played a very powerful role, were placed under the ultimate control of governments, while international economic relations were explicitly managed by the International Monetary Fund (IMF) and World Bank. Western governments, with varying degrees of enthusiasm, lent support to unions, regulated business, tightly controlled financial markets, and built social welfare systems. They also began to regulate aggregate demand in pursuit of high employment and fast growth, a phenomenon known as the "Keynesian revolution." Business and financial interests accepted these changes in part because strong capital controls and low levels of trade and investment flows after the war left them without a credible "runaway" threat to undercut government economic policies they disliked. The global prosperity that characterized the quarter century following the war--the so-called "Golden Age" of modem capitalism-reinforced the bel ief that market economies need strong social regulation to function effectively.

Contradictions inherent in Golden Age capitalism led in time to the end of prosperity1 Economic instability began in the late 1960s and erupted full force in the 1970s with two Organization of the Petroleum Exporting Countries (OPEC) oil price shocks, the collapse of the Bretton Woods fixed exchange rate system, and the buildup of excessive debt in the third world. These problems created a powerful movement, led by business and especially financial interests, to roll back the economic regulatory power of national governments, replacing conscious societal control with the "invisible hand" of unregulated markets, and to eliminate restrictions on the flow of goods and money across borders, creating an integrated global economy.

Supporters of neoliberal globalization used neoclassical economic theory to sell their program. The standard neoclassical view holds that, absent excessive government interference, both national economies and the integrated global economy will operate efficiently, more or less like the models of a perfectly competitive market system found in college textbooks. Competitive market pressures lead to the full utilization of labor and productive capital and cause aggregate demand (or spending) to balance full-capacity income, a proposition known as Say's Law.

There is thus no need for governments to engage in activist Keynesian aggregate demand management. Globally integrated financial markets will raise efficiency and productivity it was argued, because they will allocate world savings to the most productive investment projects no matter where in the world they are located. The elimination of cross-border barriers to imports and direct investment will raise efficiency by subjecting stodgy domestic oligopolies to more intense competitive pressure and allowing even firms in small countries to take advantage of global economies of scale. In sum, neoliberals believed that the replacement of state economic guidance with a liberalized global market system would raise global income growth and improve economic performance everywhere.

Heterodox critics of neoliberalism, on the other hand, argued that the abandonment of growth targeting by activist demand management would slow real gross domestic product (GDP) growth and generate higher unemployment. High unemployment and the drive for labor market "flexibility" in turn would slow real wage growth and raise inequality. Financial liberalization would lead to high real-interest rates and increased instability in global financial markets. Poorer countries that substituted neoliberalism for interventionist economic development policies, it was argued, were less likely to experience rapid long-term growth. These problems were not seen as the inevitable result of increased global integration per se, but were caused by the specific institutions and practices that constitute neoliberalism.

Although each side defends its position with selected data, the weight of the evidence from the last two decades supports the position of the critics. Global income growth has slowed substantially from its Golden Age pace, as has the rate of growth of capital accumulation. Productivity growth has deteriorated; real wage growth has declined and inequality has risen in most countries; real interest rates are higher; financial crises erupt with increasing regularity, especially in developing economies; average unemployment has risen; the less developed nations outside East Asia have fallen even further behind the advanced nations; and post-1997 growth in East Asia has slowed.

What Caused Chronic Global Excess Capacity in the Neoliberal Era?

This article focuses on one of the most important economic problems created by the spread of neoliberal globalization--the generation and continued reproduction of substantial excess capacity in most important globally contested industries.

There are no official data on global excess capacity. There is not even a consensus on how it should be defined and measured. Nevertheless, reports from consulting firms and industry trade associations, and occasional studies by international organizations, agree that large excess capacity has plagued almost all globally contested industries for at least two decades. Business Week noted that "supply outpaces demand everywhere, sending prices lower, eroding corporate profits and increasing layoffs." (2) Former GE chairman Jack Welch claimed that "there is excess capacity in almost every industry" (3) The Wall Street Journal observed that "from cashmere to blue jeans, silver jewelry to aluminum cans, the world is in oversupply." (4) The Economist worried about "a malign deflation caused by excess capacity and weak demand," speculating that the gap between sales and capacity is "at its widest since the 1930s." (5) Excess capacity in steel hovers near 20 percent, in autos it has been as high as 30 percent, and th ese figures are dwarfed by recent unused capacity numbers in semiconductors and telecommunications.