Thursday
Aug092012

Was Central Planning Really Inefficient?

The great MIT economist Robert Solow once made the joke that the way to do a PhD in economics was to find some crazy social arrangement or outcome in the world and then think of the informational asymmetry that made it constrained efficient.

With this methodology in mind, it should come as no surprise that, contrary to what we presumed in our last post, some people do not regard central planning as that inefficient after all. The most plausible case along these lines was made by Robert Allen in his book Farm to Factory. Allen pointed out, rightly of course, that in 1917 the Soviet Union was a very backward economy with poor institutions and far behind the world technology frontier. Allen’s big leap was to argue that in an environment with poor institutions central planning was a rational way of industrializing such an economy. In fact, if you compare the growth of the Soviet Union to that of other parts of the world, such as Latin America, over the period 1928-1970, the Soviet Union does quite well. The next figure from Allen’s book illustrates this by plotting the level of income per-capita on the horizontal axis against the ratio of the 1970 to the 1928 level.

Though the Soviet Union does not do as well as Japan, it does better than the non-OECD countries which were as poor as it was in 1928 when its first Five Year Plan took effect.

It’s true of course that Soviet industrialization involved the forced collectivization of agriculture which created huge hardship and even deadly famine in the early 1930s, and was also based on the suppression of consumption in order to accumulate capital. Even here Allen argues that this wasn’t too bad. The next figure, again from his book, shows that though there was a 20% fall in average consumption after 1930, by 1935 it was back to the 1930 level.

All the same, even though the facts that Allen lays out are correct, they do not justify the conclusions.

For 40 years the Soviet Union was indeed a growth miracle, but it was a spectacularly unsustainable one based on extractive political and economic institutions. The powerful Soviet state could generate large productivity increases by moving people from rural areas and putting them into factories. But the system totally failed to generate incentives for improving productivity or for innovation except in military areas where they put a huge amount of resources.

Inevitably the Soviet economy ultimately collapsed. When people were not forced to buy the goods Soviet industry produced, they went out of business, and now the Russian economy is held up not by the benefits of centrally planned industrialization but by high natural resource prices.

The important leap in Allen’s conclusion, and the reason why his thesis is ultimately unconvincing is that as Gerschenkron noted long ago in Economic Backwardness in Historical Perspective, partly in the Russian context also, backward economies can grow rapidly and may do so using a variety of arrangements. This is made feasible because they are benefiting from catch-up and technological convergence. The fact that Soviet Russia took advantage of catch-up opportunities and transferred resources from its massively inefficient agriculture to industry implies neither that central planning was efficient in the short run nor that it could be a steppingstone for more growth-enhancing institutional structure in the long run.

Textbooks sometimes simplify things. But in this instance, the textbook treatment of central planning as economically inefficient is right.

So the next question is whether Soviet communists adopted and persevered with central planning despite its inefficiencies, mostly because of their Marxist ideology.

We’ll see in the next post that the answer is largely no.  

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