Deprive state-run economies of their fiscal independence

Deprive state-run economies of their fiscal independence

Following Lenin, I define socialism as a political/economic institutional arrangement whereby the government is the owner of the commanding heights of the economy.

The commanding heights of the economy encompass its most profitable sectors. In less-developed countries, the commanding heights frequently comprise oil, natural gas, steel,and aluminum, as well as coal, gold, diamond and iron mines.

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According to Lenin, if the government is the owner of the commanding heights, a true communist should not be concerned by the existence of private property in marginal areas of the economy, such as agriculture, commerce and industry.

Socialism and welfare states are not necessarily synonymous. In a welfare state, government provides “free” education and health care.

A crucial difference between a socialist arrangement and a welfare state is that the government ownership of the commanding heights could yield a considerable amount of revenues to the government, bypassing citizens.

Conversely, a welfare state commonly represents a substantial source of expenditures for the government, which at least in the developed world, is financed with taxes levied on the citizenry.

Education and health care are mainly private goods, that is, rival and excludable. A substantial body of evidence clearly suggests that markets function well allocating scarce resources in the presence of private goods. Hence, governments supplying education and health care are two examples of governmental overreach.

However, in socialist countries where the government is the owner and exploits natural resources, particularly oil, flourishing democracies are not observed. The recent collapse of the Venezuelan democracy is a clear example.

Denmark and Sweden do not fall under the category of socialist countries as defined above. These are mainly welfare states prodded by a market economy.

The main obstacle for the emergence and sustainability of democracy in socialist, oil-producing countries is that the government does not live off people's taxes.

Fiscal independence, total or partial, conspires against a government accountable to the people. King John in 1215 signed the Magna Carta, limiting his power, because he was in a fiscal predicament. 

A related democratization hurdle is that democracy is about political freedom, which presupposes the right to vote an individual in or out of office and entails competition among political parties and their representatives.

Moreover, checks and balances among the three branches of government implying a broad distribution of power are relevant for the persistence of democracy.

Economic socialism implies the concentration of economic power at the government level. The government is the owner of the most productive sectors of the economy. As such, it prevents free participation of citizens, nationals or foreigners.

The board of directors and top-level managers are typically designated by the government, in the style of command-and-control policy decisions.

Thus, democracy is about institutions, rules of the political game, which are inclusive. While economic socialist institutions are exclusionary. Consequently, no mutual reinforcement emerges between political and economic rules of the game, contributing to impede the arrival of a virtuous circle driven by inclusive economic and political institutions.

Accordingly, the different approaches of economic socialism and political democracy strongly suggest that coexistence of those two institutional arrangements are bound to clash, inducing high instability, which will lead to a paltry rate of economic growth.

The inefficiencies associated with governments managing companies make matters worse. Common property typically leads to a "Tragedy of the Commons," or at least to an inefficiently managed company.

What can be done? All corporate taxes owed by commanding-heights companies, whether private or state-owned, should be distributed evenly among nationals. This reform proposal goes beyond privatizing the economy’s commanding-heights companies.

The proposed institutional arrangement starves the government of revenues, forcing it to live off the people, facilitating government’s subjection to the rule of law, the essence of democracy.

Hugo Faria is a lecturer of economics at the University of Miami and affiliated with Econintech USA, a market-oriented think tank.