How the market system developed
he twentieth century saw many battles fought on the international stage, some of which had a tremendous impact on how our market system developed. Today, there’s greater global stability and it’s much easier for anyone to start and build a business.
This article was written by the original owner of startupguide.com, Ryan Allis, and published on his website in 2012. A few paragraphs have been added by the Startup Guide team to provide more context and detail. Read more about why Ryan was happy to hand over his website domain to us here.
Competitive market economy
To be a good entrepreneur, it is helpful to understand how the system of the competitive market economy has developed.
From two World Wars, to Mao’s Great Leap Forward, to the mass genocide in Rwanda, the twentieth century saw approximately 200 million deaths from war. But out of the ashes came a series of global alliances and an emerging world platform for innovation.
In the last 100 years, we used the new tools of the Industrial Age to create major scientific advances. The century was filled with technological innovation, as well as an ideological struggle between centrally planned economies based on state control, and distributed planning economies based on the competitive market economy.
Economic tensions were brewing almost a decade before the Second World War. Germany was paying millions in reparations as a result of The Treaty of Versailles in 1919, while India, still colonized by Britain, was taking its place in the global trade network.
Meanwhile, in the United States, unemployment rose from 4 percent in 1928 to 24 percent in 1933, as government fiscal policy under President Hoover remained conservative. The country was then plunged into a deep depression after the Wall Street Crash of 1929.
It wasn’t until the implementation of Roosevelt’s New Deal Reforms of the mid-1930s, based on the counter-cyclical fiscal policy of Keynes, followed by the economic expansion from the Second World War, that the US economy got back on track. The debate as to whether an economy should be based on central state planning or decentralized market prices was on.
How the global economic system formed
World War II was a war caused, in part, by economics. Germany’s disgust over the forced World War I reparations, and the subsequent German hyperinflation, enabled Adolf Hitler to claim power in 1934. After Germany invaded Poland in 1939, many competing global powers were thrust into a war that would last until 1945.
In 1944, the Allied powers gathered in Bretton Woods, New Hampshire, to lay out the rules of a new global economic system that could solve all pre-war tensions.
The Bretton Woods conference created the World Bank and the International Monetary Fund, and laid the foundations for the 1947 General Agreement of Tariffs and Trade (GATT), the forerunner to the World Trade Organization and our global economic system.
The Bretton Woods delegates established these global organizations to govern international trade and finance in the hope of never returning to the protectionist economic policies that decreased trade, fostered an “us vs. them mentality,” and worsened the Great Depression of the United States.
In June 1945, the United Nations was created by 51 original signatories, designed to reduce conflict and provide a forum for diplomacy to reduce the likelihood of another devastating world war.
The United States, Russia, and China all fought on the same side during 1939-1945, but by the late 1940s, tensions had grown. The dominant division was no longer between democracy and fascism, but between capitalism and communism.
Powers in the East (the communist Soviet Union), and West (the capitalist US, and its NATO alliances such as France and the United Kingdom) entered a period of geopolitical tension. Conflicting interests in the Eastern and Western blocs caused Germany to be split geographically down the middle. The Berlin Wall was later erected in 1961 which reflected these ideological divides.
Meanwhile, in the USSR, the common perspective was that the Red Army of Stalin had defeated the fascism of Hitler and Mussolini, and that state planning was the way forward for the economy.
New economic models in Germany, India, and Britain
The aftermath of the Second World War saw many countries develop new models for their economy based on their ideological perspectives. The separation between East and West Berlin, for example, gives a good comparison of two competing economic models.
Ludwig Erhard, from 1946 to 1949, was the West German Minister of Economics (and later the Chancellor of West Germany). One of Erhard’s first tasks as Minister of Economics was slowing hyperinflation by removing price controls. This would enable markets to properly function and get goods into stores. In the ensuing decades, West Germany would have a competitive economic market combined with a strong safety net.
This period also saw India released from the clutches of British colonial rule, allowing them to develop their own strategy for their economy.
In 1947, India became independent, and Jawaharlal Nehru became the first Prime Minister. Nehru led India into an economic model focused on the scientific state planning of a mixed economy. India’s socialist model was looked at as the preferred model of development across the world.
By 1950, socialism, planning, government control, and government ownership became the standard in the developing world. India chose to shut out foreign imports based on the ideals of self-sufficiency:
“If you have a controlled economy cut off from the rest of the world by infinite protection, nobody has any incentive to innovate, nobody has any incentive to increase productivity, to bring new ideas.” –Manmohan Singh, Finance Minister, 1991-1996, and Prime Minister of India, 2004-2014."
Meanwhile, in Britain, the Labour Party’s Clement Attlee won the 1945 election, defeating Winston Churchill. He argued that the way to “win the peace” was with a socialist state, with many private owners compelled to sell their businesses to the state.
The British government took over enterprises like coal, steel, and the railroads. The sense was that the way forward was through government ownership of the largest, most important industries.
It took until the 1980s for the determined Margaret Thatcher, influenced by F.A. Hayek’s Road to Serfdom, to move the United Kingdom away from price controls and worker’s strikes and toward a competitive market-based economy.
Winning the battle of ideas
The battle of economic ideas in the United States was eventually won, as the market system demonstrated much better results for both the poor and the well-off than a centrally planned economy was ever able to.
It took the combination of Ronald Reagan in America, Margaret Thatcher in Great Britain and the collapse of the Soviet Union to swing the pendulum back towards a global belief in competitive market economies.
In the 1980s and 1990s, industries around the world were privatized, regulations were reduced, and the model of the market-driven economy became the primary world model.
The advancing market economy
The basis for today’s global system was formed in Bretton Woods in 1944. That meeting laid the groundwork for what is today’s global banking, trading, and currency system.
Fifty years later, on April 15, 1994, the Uruguay round of the General Agreement on Tariffs and Trade was completed. Delegates had agreed to form the World Trade Organization, based in Geneva, to govern international rules on tariffs, subsidies, intellectual property, and foreign investment.
In the 1999 Seattle meetings, the 2001 Doha meetings, and the 2003 Cancun meetings of the World Trade Organization, developing countries combined forces to negotiate updates to the rules to allow emerging markets to prosper.
Why does all this matter to entrepreneurs?
After a century of warfare, genocide, conflict, and a battle of ideas between centrally planned and market economies, the global system was finally developing sufficiently to enable greater global stability, transparency, and rules that made it easier for anyone to start and build a business and solve problems in their community.
In 1979 the World Economic Forum (based in Switzerland) began publishing an annual Global Competitiveness Report and in 2004 the World Bank (based in Washington, DC) began publishing an annual Doing Business Report comparing business regulations in 185 countries.
Instead of focusing on consolidating power through military means as they did in the 20th century, world leaders today focus on consolidating power by creating legitimacy in the eyes of their people through the pursuit of a strong, growing, and efficient economy in which the needs of the people are served.
Main photo: Pexels
*This article was originally published on October 17th, 2018 and updated on December 11th, 2018.