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Capitalism Vs. Democracy

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By Robert J. Samuelson
Wednesday, September 28, 2005

The recent German and Japanese elections deserve more attention than they've received because they illustrate the uneasy relationship between capitalism and democracy. Capitalism thrives on change -- it inspires new technologies, products and profit opportunities. Democracy resists change -- it creates powerful constituencies with a stake in the status quo.

Capitalism (by which I mean an economic system that relies heavily on markets and private ownership) and democracy need each other. The one generates rising living standards; the other cushions capitalism's injustices and thereby anchors public support. But this mutual dependence is tricky, because if democratic prerogatives are overused, they may strangle capitalism.

Just how to regulate this relationship was the core election issue in both Japan and Germany. As is well known, their economies have faltered badly. Since 1997 their annual economic growth has averaged about 1 percent, roughly a third of the U.S. rate. Compared with the late 1980s, Japan's joblessness has doubled; in Germany, the unemployment rate has bounced around 10 percent for a decade. The campaigns centered on these setbacks.

Voters seemed to reach opposite conclusions. The Japanese gave a resounding triumph to Prime Minister Junichiro Koizumi, who made the election a test of his economic reform agenda. By contrast, German voters seemed more timid. The pre-election wisdom was that Chancellor Gerhard Schroeder of the Social Democratic Party (SPD) would lose decisively to Angela Merkel of the Christian Democratic Union (CDU), who preached aggressive economic reform. The two parties actually ran almost even. The CDU got 35.2 percent of the vote, the SPD 34.3 percent. It's unclear who will head the next government.

Despite the divergent outcomes, the prospects for economic renewal in both countries remain uncertain. Proclaiming economic "reform" and carrying it out aren't the same. In Japan, Koizumi has championed overhauling Japan Post, which is more than a mail system. It's also the world's largest bank, absorbing as deposits about 30 percent of Japanese household savings. The trouble, says Richard Katz, editor of the Oriental Economist Report, is that much of this money is wasted. It's funneled into government bonds that often finance dubious public works projects -- bridges to nowhere and paved riverbeds, as Katz puts it.

Koizumi wants to privatize Postal Savings -- turn it into a profit-making company. That should favor more productive investments and thereby stimulate the economy. Although this sounds sensible, it's no economic panacea. Katz ticks off some caveats: First, Koizumi's conversion would take a decade; second, a privatized Postal Savings could still make big blunders (better to phase it out, says Katz, by banning new deposits); and third, Japan has lots of other problems (too little domestic competition, an aging society, scant foreign investment).

Similarly, Germany's sluggishness has many causes. In a study, political scientist Stephen Silvia of American University writes: "The [government's] share of the German economy has become too large, crowding out more productive economic activity. The cost of employing people -- in particular, non-wage costs -- has become too high. Government regulations . . . dampen competition." Schroeder made some changes. He cut lavish unemployment benefits (which made joblessness attractive). Merkel proposed easing restrictions against firing workers (which, perversely, deter companies from hiring new workers) and also wanted to relax nationwide collective bargaining (which makes wages rigid).

All this matters to Americans for two reasons. First, the weak Japanese and German economies partly explain the lopsided nature of world economic growth, which is overly dependent on constantly expanding U.S. trade deficits. From 2000 to 2004, virtually all of Germany's meager economic expansion stemmed from increased exports; Japan's performance was also one-sided. Many economists regard this pattern as unstable, risking a global recession. It would be healthier if the Japanese and German economies, which together are about half the size of the U.S. economy, were stronger.

The second point of interest involves a useful political lesson. A successful democracy gives people a chance to protect their interests and lifestyles. But when these protections try to deny unalterable economic realities, they become self-defeating. Still, it's hard to adjust to shifting realities, because changes offend voting blocs that benefit from the status quo. So it is that Americans have a massively complex tax system, because powerful constituencies protect many dubious tax preferences. So it is that huge U.S. budget deficits persist; any combination of spending cuts and tax increases arouses a coalition of the angry.

And so it is that -- despite a gradual aging of the population that will require huge and probably damaging tax increases -- no one has seriously attempted to contain these costs. It is easier to pretend that there will be no ill effects. The Japanese and Germans took the same attitude toward their problems. They hoped there would be no day of reckoning. They were wrong.


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