Free Fault Lines: How Hidden Fractures Still Threaten the World Economy by Raghuram G. Rajan

organized exchanges—by the forces of demand and supply for this product. Producers and consumers do not write reports but simply express their interest—which reflects their unbiased and informed expectations of the future—through the price at which they are willing to sell or buy steel. Most important, they do so not to fulfill a bureaucratic requirement, but from the purest of motives, self-interest. No matter how qualitative each one’s information is, no matter how detrimental it is to some people, so long as the market functions, its prices aggregate all these individuals’ information. In the Soviet Union, the system eventually failed in part because the information on which central planning was based was a fantasy that bore no correspondence to ground realities; but this information was so carefully manipulated that even the CIA had no idea of the true weakness of the Soviet economy.
    In sum, there are indeed some well-run state-owned firms. But the best state-run firms typically distance themselves from government norms, procedures, and interference and are often private in all but ownership.

Export-Led Growth and Managed Capitalism
     
    One way to both discipline inefficient firms and expand the market for goods is to encourage the country’s large firms to export. Not only are firms forced to make attractive cost-competitive products that can win market share internationally, but the larger international markets offer them the possibility of scale economies. Moreover, because they are no longer constrained by the size of the domestic market, they can pick the products for which they have the greatest comparative advantage.
    Often, the starter sector in developing countries is easy-to-make but laborintensive consumer goods like garments and textiles. Having consolidated the protected textile sector as described earlier, the Taiwanese government started putting in place incentives to export. By 1961, Taiwanese textile exports had become a big enough threat that the United States imposed quotas on them—a sure sign that Taiwan’s textile industry had come of age.
    Once industry learned the basics of production in textiles, it started moving up the technological ladder to produce more complicated goods. As late as 1970, textiles were still Korea’s leading export, followed by plywood and, curiously, wigs, whereas its major exports today include cars, chips (silicon, not potato), and cell phones. 20 Today, it is China, Vietnam, and Cambodia that compete to export textiles.
    Developing-country governments tried to enhance incentives even further by offering greater benefits to firms that managed to increase exports. For instance, because foreign exchange was scarce in the early days of growth, imports were severely restricted. Successful exporters were, however, given licenses to import, and the prospect of making money by selling these licenses gave them strong incentives to expand their foreign market share. In situations where foreign countries imposed import quotas, or where raw materials were scarce, the government also allocated a greater share of these to the more successful exporters. So both indirectly and directly, the efficient were encouraged.
    The export-led growth strategy does not mean that government reduces its support to industry. Indeed, exports may initially require more support if domestic firms are to be competitive globally. Some countries have provided a general subsidy by maintaining an undervalued exchange rate or holding down wages by suppressing or co-opting unions; such strategies are more easily followed by authoritarian governments. Others have provided a specific targeted subsidy by underpricing key raw material or energy inputs to exporters or by directly providing cash rebates for exports or for importing manufacturing equipment intended to produce exports.
    What is clear is that a necessary concomitant to the strategy of government intervention to create strong domestic firms