April 8, 2009 | Commentary on Foreign Aid and Development

Protectionism, A Perilous Recipe for Sustainable Economic Recovery

In light of market turmoil and slowing-down economic growth in many parts of the world, popular pressure for governments to intervene in order to fix the worsening economic situation has been on the rise. Questioning free market capitalism as a root cause of the current economic woes, populist attacks on the free market have indeed gained momentum and called for more government spending in the name of economic recovery and stability.

However, sustainable economic recovery can be best achieved by the economy itself, and governments' most effective stimulus package should be about moving that recovery process along at a swifter pace by improving the incentives that drive entrepreneurial activity. In this period of the ongoing worldwide economic turmoil, there may be no distinct formula through which to quickly reinstate the unrelenting growth. Yet Korean policymakers should be reminded that as a fundamental linking element between economic opportunity and lasting prosperity, economic freedom is indispensable in amplifying and cascading the benefits of any economic strategies that aims to truly stimulate the Korean economy.

The Continuing Struggle Between the State and the Free Market

It is undeniable that the world economy faces an unprecedented challenge. The global economy is likely to shrink this year for the first time since the Second World War. The World Bank predicts that during 2009 world trade is likely to record its largest decline in 80 years since the great depression.

The current status of the world economy is indeed a vivid reminder of the continuing struggle between the state and the free market. It is not that many people in the world actually want a dramatic swing to central planning or extensive state ownership of private businesses in the name of recovery and stability. Rather it is that at the greater risk of eroding economic freedom that has been the backbone of the world economy, states' interventionist measures have been inching up at an increasing pace.

In a time of economic calamity, it is expected that people look to their governments for answers. However, plausible solutions to our current economic woes do not lie in more direct government intervention, which will prolong the crisis by adding more risk and uncertainty. Furthermore, governments' stimulus packages should not be based on handing out cash or short-sighted populism. Nor they should target one group or industry: such packages should benefit the whole economy. To achieve maximum impact, what the state should do is to play a role of guaranteeing market rules and reassuring market confidence. The role of government is not to create and distribute wealth. It's to clear the way for people to create their own wealth by implementing policies that increase economic freedom and therefore more entrepreneurial opportunities for people.

Government-lead Bailout is Not Free

However, proponents of government-lead various bailout programs for troubled companies argue that they are necessary short-term steps to prop up stock markets and help economies make quick recovery. Yet the long-run effect of such programs will be much more counterproductive. Those bailout programs essentially rescue and reward those who took irresponsible risks, undermining the discipline of the marketplace and imposing an unfair burden on those that behaved responsibly. It will also encourage similarly reckless choices in the future. Worse, the bailouts will give the government more power over the allocation of capital, a harmful policy that surely will undermine economic efficiency. In other words, by supporting struggling or potentially struggling businesses with spending, lending or credit guarantees, governments' bailout programs run greater risk of preventing the market from winnowing out less efficient businesses.

Whether stimulus spending or the implicit or explicit taxpayer guarantees, the money spent there is not free: it is pulled out from the productive private economy via borrowing and future taxes. Those who think government can allocate that capital more effectively than the private sector should be reminded that Japan's experience of failed stimulus packages.

Another evidence of the continuing struggle between the state and the market is that after repeated pledges by world leaders to avoid erecting trade barriers, protectionism is unfortunately on the march, provoking trade disputes and undermining efforts to plot a coordinated response to the current global economic downturn. As in all trade wars, the collateral damage is costly.

The Declaration of the Summit on Financial Markets and the World Economy issued by the G-20 on November 15, 2008, stated that within the next 12 months "we will refrain from raising new barriers to investment or to trade in goods and services, imposing new export restrictions, or implementing World Trade Organization inconsistent measures to stimulate exports." However, the pledge turns out to be broken. According to a recent study by the World Bank, since G-20 leaders signed the declaration to avoid protectionist measures, 17 of the G-20, have implemented measures that restrict trade at the expense of other countries.

Economic Freedom Remains Indispensable to Economic Recovery

A key driver of economic prosperity is a high level of flexibility and resilience founded on economic freedom. This has been continuously protected by keeping levels of regulation and government intervention low while emphasizing great transparency and strongly protected property rights. It is incontestable that the powerful force of economic freedom has fostered the spirit of entrepreneurship and innovation that creates new products and more jobs, spreading the benefits of dynamic economy around the globe.

Indeed, today's economic development and lasting prosperity depend on maintaining and improving an environment in which entrepreneurial activities and innovation can flourish. Investment capital and entrepreneurial talent flow toward economies with lower taxes, secure property rights, sound money, and sensible regulatory policies. Countries with higher degrees of openness and flexibility benefit from the free exchange of commerce and ideas, and thereby citizens of those countries enjoy more opportunities and greater prosperity.

Yet the truth is that economic freedom, like other freedoms, is always vulnerable. History tells us that this is never more so than when politicians espouse populist rhetoric, playing to people's fears and calling for more government interventions that promise a quick fix to whatever is deemed faulty in a complex economy. Some politicians increasingly disparage free markets and push short-sighted policies that raise counterproductive regulatory rules, increase costs on investment, or, worse, pursue protectionist policies that curtail global economic growth.

The 1997 Asian financial crisis triggered extensive economic and political unrest in emerging Asian markets, sending many into recession. At the time, one commonly employed short-sighted interpretation was that the crisis debunked the "Asian Miracle." Capitalism and globalization were repudiated and blamed for the bursting of currency and property bubbles and the resultant difficulties.

The years since the 1997 crisis, however, have shown that this interpretation was exaggerated. Asia has become once again the most dynamic region in the global economy. As painful as the crisis was, though, the aftermath of the market turmoil helped the Korean economy realize what was lacking in Korea: economic freedom. The crisis offered an opportunity for Korea to renounce its government-controlled economic strategies and to embrace more market principles. In hindsight, the 1997 crisis was nothing more than a transitory setback that spurred more openness and transparency for the Korean economy.

Today's cynicism and doubts about the benefits of globalization and free market system should not abruptly bring to a halt Korea's commitment to openness and economic freedom. Economic freedom is not a dogmatic ideology. It is not the only way to put an economy in order, nor a perfect way. However, it is a far better way than other systems that have been tested.

Economic freedom is necessary for people to prosper. By eliminating obstacles, it creates a framework in which innovation is welcomed and economic growth is enhanced. As Asia's third largest economy, the Korean economy has the fundamentals -- such as highly educated labor forces, modern infrastructure>, and stable legal system -- all in place. Korea's bold entrepreneurship undoubtedly spurred innovation and economic growth that have long sustained its formidable economy. In order to further transform the Korean economy into an economy that can be more resilient and competitive, a truly dynamic Korea need to embrace more openness and flexibility, rather than shying away from them.

No country is ensured of future success, even those who use formulas found successful in the past. As the Korean economy looks into the future, it must not be discouraged from pursuing greater economic freedom. It is time to take this challenging time as another opportunity to reaffirm Korea's commitment to economic freedom that will lay out the solid foundations for its sustainable recovery and revitalized economic growth in coming years.

Anthony B. Kim is Policy Analyst in the Center for International Trade and Economics at The Heritage Foundation.

About the Author

Related Issues: Foreign Aid and Development

First Appeared in CFE Viewpoint