Chap18 Fundamental Economic Concepts

The freedom to use

your own tools and

labor in pursuit of profits is one

of the primary features of

capitalism. In Chapter 18, you

will learn that capitalism is more

than an ideology. It is the way

we live and the way the world is

headed. To learn more about

the different systems of

economics, view the Chapter 25

video lesson:

Comparative Economic Systems

Chapter Overview Visit the Economics: Principlesand Practices Web site at epp.glencoe.com andclick on Chapter 18—Chapter Overviews to pre-view chapter information.

This scene of the city of Jaipur innorthwest India shows a blendof traditional and modern life.

http://epp.glencoe.com

The Spectrum of Economic Systems

Main IdeaCapitalism, socialism, and communism are historicallythree popular economic systems.

Reading StrategyGraphic Organizer As you read the section, completea graphic organizer similar to the one below by list-ing six advantages of capitalism and providing anexample of each.

Key Termscapitalism, socialism, communism

ObjectivesAfter studying this section, you will be able to:1. Explain the advantages and disadvantages of

capitalism.2. Describe the differences among the doctrines

of socialism, capitalism, and communism.3. Compare the features of communism to other

types of economic systems.

Applying Economic ConceptsSurplus Value Have you ever felt that the value ofyour work was much more than your wage? If so, youhave something in common with Karl Marx, whofounded communism and introduced the concept ofsurplus value that is extracted from labor.

Cover Story

Sweden Pays the Price of High Taxes

STOCKHOLM—Electrolux

AB, the big Swedish appliance

maker, scoured the globe for a

person to set up a new data-

processing division last year before finding Stephan

Carlquist, a Swede and senior executive at ABB Asea

Brown Boveri in the United States.

Persuading him to jump to Electrolux was no

problem, but bringing him to Sweden, home of the

industrialized world’s highest tax rates, was another

matter. Instead, Mr. Carlquist set up shop in London,

where taxes are lighter. . . .

Over the next year, he plans to build a multina-

tional team of as many as 50 people—few of them

Swedes. . . . “It’s very hard to attract skilled, interna-

tional people to Sweden.” Mr. Carlquist said.

—International Herald Tribune, March 16, 1999

Stephan Carlquist

T hroughout most of the 1900s, the world’sdeveloped nations fell into three categoriesof economic systems—communism, social-

ism, and capitalism. Communist countries wereclosely associated with command economies, capi-talist countries were most similar to marketeconomies, and socialist countries had a combina-tion of both command and market economies.Sweden is an example of a country with a strongsocialist tradition, and—as you read in the coverstory—the high taxes that go along with it.

The three basic types of economic systems areshown in Figure 18.1. At the far left is communism,in which a strong central government influencesalmost every economic decision. At the far right iscapitalism, in which government has a limited role.As one moves from left to right along the spectrum,both the ownership of resources and the degree ofgovernment involvement in the operation of theeconomy change.

CapitalismAdvantages Examples

CHAPTER 18: COMPARATIVE ECONOMIC SYSTEMS 491

No lines separate communism, socialism, andcapitalism. They appear on the spectrum as havinga greater or lesser degree of government involve-ment and private ownership of resources.

CapitalismUnder capitalism, the means of productionare privately owned. Supply and demand

determine prices, and businesses are free to directresources into activities that promise the greatestprofits.

Advantages of CapitalismOne of the main advantages is efficiency. If there

are many buyers and sellers, if resources are reason-ably mobile, and if buyers and sellers are reasonablywell informed, then resources will be directed totheir most profitable and efficient use.

Another advantage is freedom, which gives con-sumers the opportunity to purchase the goods andservices that best satisfy their preferences. Producersalso have the freedom to direct productive resourcesinto activities that consumers demand most.Producers have the incentive to do so because of theprofit motive, and because private property rightsallow them to keep the fruits of their efforts.

A third advantage is that capitalism is highlydecentralized. Consumers and producers jointlyanswer the WHAT, HOW, and FOR WHOMquestions all societies face. This is made possiblebecause of the price system, which sends signals toboth producers and consumers. The decentralizednature of decision making leads to the fourthadvantage. Specifically, the role of government inthe economy is much smaller.

The fifth advantage is the high degree of con-sumer satisfaction that comes from the variety ofproducts that are produced to satisfy consumerdemands. The sixth advantage is the flexibility toaccommodate change. When consumer preferenceschange, or when the price of resources changes, sig-nals are sent through the price system and everyoneadjusts accordingly.

The most visible result of these advantages isthe enormous amount of wealth that capitalistnations have accumulated. With few exceptions,

the countries that have the highest living standardsand per-capita incomes today are ones with market-based capitalist economies.

Disadvantages of Capitalism Capitalism has its disadvantages. Although it is

efficient in satisfying the demands of consumers, itdoes not always satisfy everyone’s needs. At a collec-tive level, capitalism ignores the production of manypublic goods such as roads, public schools, a systemof justice, and national defense. Instead, the marketproduces private goods and services—items that canbe withheld if people refuse to pay for them.

At an individual level, capitalism produces onlyfor those who have demand, which means the abil-ity and willingness to pay. A system of pure capital-ism would ignore poor people, the unemployed, andless productive members of society like the elderly.

Socialism Socialism is an economic system in whichgovernment owns and runs some of the

basic productive resources in order to distributeoutput in ways deemed to be in the best interestof society. Most socialist societies are democraciesin which elected officials direct the allocation ofresources in key industries.

Advantages of Socialism Socialism addresses the FOR WHOM question

directly. Those who are not fortunate or productiveenough to earn a competitive income still share inthe benefits of society. Although the governmentowns the majority of productive resources in asocialist society, people use their electoral power toinfluence many of the WHAT, HOW, and FORWHOM questions.

Disadvantages of Socialism Socialism is normally less efficient than capital-

ism. If workers receive government guarantees ofjobs, more workers will be hired than are neces-sary, driving up the cost of production. The

492 UNIT 5 INTERNATIONAL AND GLOBAL ECONOMICS

government also has an incentive to keep theseworkers employed—even if they are not allneeded—to show that the government is providingjobs for everyone.

Because the government provides a broaderrange of services such as health care, education,and welfare, taxes are generally higher in socialistcountries. This often causes the type of labormobility problems discussed in the cover story—where workers may be reluctant to work in coun-tries with such high taxes.

Communism In its purest form, communism is a politicaland an economic framework where all prop-

erty is collectively owned, labor is organized forthe common advantage of the community, andeveryone consumes according to their needs.

To date, no modern country has achieved theideal of pure communism. Countries such as Cuba,North Korea, and the former Soviet Union insteaddeveloped rigid command-type economies where

E C O N O M I C SA T A G L A N C EE C O N O M I C SA T A G L A N C E Figure 18.1Figure 18.1

Using Charts Using Charts The distinguishing feature of economic systems is the ownership of the factors of production and the role of government in deciding WHAT, HOW, and FOR WHOM to produce. How is capital for production acquired under capitalism?

The Spectrum of Economic Systems

Ownership of ResourcesAll productiveresources are

government ownedand operated.

Directed by Command Directed by the Free Market

Productive resourcesare privately

owned and operated.

Allocation of Resources

Centralizedplanning directs

all resources.

Government plans waysto allocate resources in

key industries.

Capital for production isobtained through the lureof profits in the market.

Role of Government

Government makesall economicdecisions.

Government directs thecompletion of its economic

plans in key industries.

Government maypromote competition and

provide public goods.

COMMUNISM SOCIALISM CAPITALISM

Basic productive resourcesare government owned and

operated; the rest are privatelyowned and operated.


Checking for Understanding 1. Main Idea Identify the three broad economic

systems of the last century.

2. Key Terms Define capitalism, socialism, communism.

3. List the advantages and disadvantages of capitalism.

4. Explain how capitalism, socialism, and com-munism are different.

5. Describe how communism differs from othertypes of economic systems.

Applying Economic Concepts6. Surplus Value According to Karl Marx,

employers take advantage of their employees

by paying them less than they are worth inorder to make a larger profit. Do you thinkMarx’s opinion is valid in the United Statestoday? Why or why not?

7. Making Comparisons How does the role of the individual differ under capitalism,socialism, and communism? Explain yourreasoning.

8. Finding the Main Idea What people doespure capitalism tend to ignore? Explain whythis is the case.

Practice and assess key social studies skills withthe Glencoe Skillbuilder Interactive Workbook,Level 2.

the state—usually represented by a single authori-tarian party—claims the ideal of pure communismas its eventual goal.

Characteristics of Communism Several characteristics distinguish communism

from other economic systems. First, a central plan-ning authority, rather than the forces of supply anddemand, sets most prices under a communist sys-tem. Second, the movement of resources, particu-larly labor, is strictly controlled. Citizens are notfree to choose their own careers. They must followthe career paths that the government tells them tofollow.

Third, the central planning authority makes alldecisions, and the state owns most of the majorfactors of production. Private property rights arestrictly limited to small tools that an individualneeds for an occupation.

Fourth, individual risk-taking is strictly forbid-den. The state takes all of the risk when it decideswhich new companies shall be formed, and all citi-zens pay for unsuccessful risk-taking, even thoughthey had no part in assuming the risk. Finally, stateofficials, rather than the forces of the market,

answer the basic economic questions of what, how,and for whom to produce.

Disadvantages of Communism One of the first disadvantages of communism is

that individual freedom is lost. People have little orno say in their jobs, and economic planners deter-mine even the choice of occupation.

Communism also lacks effective incentives thatencourage people to work hard. Most people receivethe same pay regardless of how hard they work.

Communism generally fails to meet the needsand wants of consumers, primarily because theWHAT to produce question is determined by cen-tral planners. Most communist states place a highpriority on military preparedness, resulting in theneglect of consumer goods that are highly prized inother parts of the world.

One of the biggest drawbacks to communism isthe inefficiency of centralized planning. Theresources needed to execute the planning, and theoverwhelming obstacles to effective execution, areserious problems that countries encounter afterreaching a certain size. Finally, communisteconomies, like most command economies, lack theflexibility to deal with day-to-day changes.


CHAPTER X: CHAPTER TITLE 495

Using a DatabaseA computerized database program can help you organize and manage a largeamount of information. After entering data in a database table, you canquickly locate the information according to key words.

2. Follow the instructions in the DBMS that you’reusing to set up fields. Then enter each item of data inits assigned field.

3. Determine how you want to organize the facts in thedatabase—chronologically by the date, alphabetically,or by some other category.

4. Follow the instructions in your computer program tosort the information in order of importance.

5. Verify that all the information in your database iscorrect. If necessary, add, delete, or change informationor fields.

Learning the SkillAn electronic database is a collection of facts that

are stored in a file on the computer. The informationis organized into categories called fields. For example,one field may be the names of your clients. Anotherfield may be the street addresses of your clients. Allthe related fields make up a record. Together, all therecords make up the database.

A database can be organized and reorganized inany way that is useful to you. By using a databasemanagement system (DBMS)—or special softwaredeveloped for record keeping—you can easily add,delete, change, or update information. When youwant to retrieve information, the computer searchesthe files, finds the information, and displays it on thescreen.

Practicing the SkillFollow these steps to build a database on

economic reform in China.

1. Determine what facts you want to include inyour database and research to collect thatinformation.

Research and build a database that organizesinformation about U.S. trade with countries inAsia. Explain why the database is organized theway it is and how it might be used in this class.

Using a database can help organize populationstatistics, clients’ names and addresses, and evenbaseball card collections.

The Rise and Fall of Communism

Main IdeaCommunism is an economic system that has bothcentralized control of the means of production andof the political system.

Reading StrategyGraphic Organizer As you read the section, completea graphic organizer similar to the one below byexplaining how the economic system in the formerSoviet Union answered the basic economic questions.

Key Terms Five-Year Plan, collectivization, Gosplan, state farm,collective farm, piecework, storming, perestroika

ObjectivesAfter studying this section, you will be able to: 1. Explain the rise of the Soviet economy under Lenin

and Stalin.2. Describe the complexities of a centrally planned

economy.3. Understand the forces that brought about the col-

lapse of communism as an economic system.

Applying Economic ConceptsPerestroika Have you ever thought that some aspectsof the economy should be changed from top to bot-tom? If so, read to find out more about perestroika,which is the Russian term for “restructuring.”

What For whomHow

Soviet Union

Cover Story

Kiev to Pay Russian Debts

with BombersRussia has agreed

to accept bomber

aircraft as payment

for part of Ukraine’s

huge debt to Russia

for natural gas . . . Ukraine owes Russia $1.8bn

according to Russian figures and $1bn according to

Ukrainian figures . . . Russia has agreed to take eight

Tu-160 Blackjack bombers in payment from Ukraine.

Ukraine typically pays for gas in barter, with nom-

inal prices set at around three times the market price

for the goods . . . [but] Ukraine and Russia are con-

stantly at loggerheads over gas debts.

Russia in the past has shut off gas supplies in

Ukraine due to non-payment, but Ukraine has then

simply stolen Russian gas bound for Europe instead.

All of Russia’s gas exports to Europe travel through

Ukrainian pipelines.

—The Financial Times, August 9, 1999

I n the absence of pure communism, the formerSoviet Union is the most frequently cited exam-ple of a communist economic system. The early

Soviet economy showed the main advantage of acommand system—that it could mobilize resourcesand change direction in a short period of time. Thesudden disintegration of the Soviet economy in thelate 1980s, however, demonstrated the essential flawsof communism.

The Economy Under Lenin andStalin

In 1917 a revolutionary named VladimirIlyich Ulyanov, or Lenin, overthrew the

government of Russia. In its place, he set up acommunist government. Lenin was a strongbeliever in theoretical communism, and hequickly took steps to develop a communist soci-ety. Large estates were taken from the rich, and theland was divided up and given to the peasants.Lenin also outlawed private property and turnedthe country’s few factories over to the workers.

Blackjack bomber

496

The workers, however, did not have the skills tomanage the factories. Before long, production felland the economy began to disintegrate. People lostfaith in the money supply, and a system of barteremerged. The government sent armed forces to thefarms to confiscate surplus food for the hungry citydwellers and industrial workers. The angry farmersretaliated by reducing their production so therewould be no surplus crops.

By 1927, many changes had taken place. Russiahad become the Soviet Union, and the country wasunder Communist Party control. Lenin had died,and Joseph Stalin was the new leader. Stalin wantedto transform the Soviet economy from agricultureto industry.

To accomplish this goal, he introduced the gov-ernment’s first Five-Year Plan—a comprehensive,centralized economic plan designed to achieverapid industrialization.

Under Stalin’s leadership, the process of collectivization—the forced common ownershipof all agricultural, industrial, and trading enter-prises—began. Not surprisingly, many peopleopposed the reforms. Peasants even destroyedtheir livestock and sabotaged their equipmentrather than turn their property over to the collec-tive farms.

Stalin’s retaliation was brutal. Millions of peoplewere killed or imprisoned. Ukrainian grain storeswere seized in the winter of 1932, causing the star-vation of more than five million peasants. The suf-fering in the cities was nearly as harsh. Workerswere forced to work in heavy industry, and thestandard of living deteriorated drastically.

Although the first Five-Year Plan did not achieveall of its goals, the government continued with moreplanning. The plans that followed concentratedheavily on defense industries, heavy manufacturing,and some consumer goods.

The Soviet Economy After StalinStalin’s brutal regime ended in 1953. Bythen the Soviet economy had successfully

completed its transition from a backward agrarianeconomy to a major industrial power. The Sovietgovernment and its comprehensive system of

planning dominated the Soviet economy, but thereal force was the ruling Communist Party.

Complexities of Central Planning In the Soviet economy, the Gosplan was the cen-

tral planning authority that devised the Five-YearPlans. As the Soviet economy grew, however, thisprocess became increasingly complex.

Consider the difficulties in a single industry suchas shoes. First, the planners have to decide howmany shoes should be produced in any given year.This amount would depend on the population andthe number of pairs that each person, on average,would need. The planners would then have todecide how many pairs to make of each style,including colors, sizes, and widths.

Next, the various sizes, grades, and amounts ofleather, dye, metal eyelets, thread, glue, and othermaterials needed to produce the shoes had to beestimated. After the central planners developed thisdata, individual factories were given monthly andannual quotas. Even a factory that produced threadwould be told how much thread of every diameterand color to produce for use in shoes.

Similar decisions had to be made for all indus-tries, including clothing, farm implements, sta-tionery, and military goods. The planners detailedeverything that would be needed in the economyright down to nails and paper clips. Even theseminor items required the planners to make esti-mates of iron ore, coal, coke, blast furnaces, miningequipment, trains, and ore cars.

To ensure the growth of the economy from one year to the next, all the planners had to do—orso they thought—was to increase the quotas givento the factories. In short, the central planners deter-mined almost everything beforehand.

Difficulties With Agriculture The situation was similar in agriculture, where

food was raised on state, collective, and peasantfarms. The state farms were large farms entirelyowned and operated by the state. Workers on thestate farms were paid for the number of items theyproduced. All output was turned over to the gov-ernment at prices fixed by the government.


Peasant families worked collective farms, smallprivate farms collected into large units for jointoperation. The land, buildings, tools, livestock, andmachines belonged to the government, whichbought a certain amount of produce per acre.Peasant families were allowed to keep their homesand household goods, and a small plot of land.

Despite its efforts, the government was not able tomake agriculture as efficient as that of many capital-ist countries. In the mid-1980s, before the collapse ofthe Soviet Union, nearly 25 percent of the workforcewas in agriculture. In the United States at the time,only 3 percent of the workforce was in agriculture.

The Soviet Economy CollapsesThe Soviet Union made considerable progresswith industrialization, but it never caught up

to the United States. Despite its larger populationand land area, the Soviet Union’s GNP neverexceeded two-thirds of that of the United States.

To offset low morale in the factories, a number ofincentive programs were attempted. One involvedthe use of piecework, meaning that workers are paidfor each piece of output they produce rather than forthe number of hours they work.

Although this system may seem like a good idea,piecework quotas often were set at unrealisticallyhigh levels. This led to storming, the practice ofrushing production at the end of the month tomake up for the slower pace at the beginning of themonth. The rush at the end often affected the qual-ity of the products. Because of storming, knowl-edgeable Soviet shoppers often avoided buyinggoods made at the end of the month.

Other incentives included patriotic and emo-tional appeals. Workers who had outstandingrecords or did something special were awarded heromedals, such as the Order of Lenin and the Hero ofSocial Labor. Some of these medals brought rewardssuch as free public housing or vacations.

Production Quotas As with incentives, quotas also failed at the fac-

tory level. During the 1950s, the Soviet economyhad a reputation for producing some of the world’spoorest consumer and industrial goods. Shoe fac-tories, for example, were given quotas in terms ofmillions of pairs of shoes. Because small shoescould be made fastest, more were made than wereneeded. When the quotas were changed to measureproduction in the amount of shoe leather con-sumed, the result was shoes with some of the thick-est soles in the world.

Production of Consumer Goods Another major problem was the inadequate sup-

ply of consumer goods. After World War II, theSoviet people were asked to make sacrifices so theirchildren might have a better life. Many willinglydid so. In the 1970s and 1980s, those children wereadults. When they were asked to make sacrifices sotheir children could have a better life, they werenot as willing as their parents had been. The newgeneration had not suffered from the ravages of warand they were aware of the standards of living inother parts of the world. As a result, they wereimpatient for more consumer goods.

Do you like detailed work? Areyou able to accept responsibilityand deal with people in a firmbut friendly manner?

The WorkCustoms inspectors are part of theTreasury Department. Dutiesinclude examining baggage atairports or seaports to ensure thatall merchandise is declared andthat duties are paid. Commercialand noncommercial cargoes areinspected to determine admissi-bility and the amount of tax due.

QualificationsCustoms inspectors need training in laws governingimports and exports and in inspection procedures. A col-lege degree is preferred. Passage of a civil service exam isrequired.

Customs Inspector

498


Checking for Understanding 1. Main Idea Using your notes from the graphic

organizer activity on page 496, describe howthe former Soviet Union’s economic systemfunctioned.

2. Key Terms Define Five-Year Plan, collectiviza-tion, Gosplan, state farm, collective farm,piecework, storming, perestroika.

3. Explain how the Soviet economy developedunder Lenin and Stalin.

4. Identify several complexities of central planning.

5. Describe how central planning contributed tothe breakdown of the economy of the SovietUnion.

Applying Economic Concepts6. Perestroika Since the mid-1980s, the former

Soviet Union has undergone tremendouschanges, some of which led to hyperinflation.Why would this hyperinflation hinder themovement toward capitalism?

7. Making Predictions Based upon recentchanges, is the former Soviet Union movingtoward capitalism or away from capitalism?Give evidence to support your conclusions.

8. Summarizing Information What did Sovietplanners think they had to do to ensureeconomic growth?


Perestroika When Mikhail Gorbachev assumed power in

1985, the Soviet economy was weaker than anyoneimagined. The main cause was the burden imposedby centralized planning. The economy hadbecome too complex and too large to be managedin the traditional manner.

Plant managers were under increasing pressureto meet or exceed quotas. Glitches in planning,however, were creating shortages and other prob-lems. To facilitate the process, “fixers” called tolkachiwere employed to resolve shortages or dispose ofexcess inventories. The tolkachi soon became indis-pensable to producers who wanted to fulfill theirquotas. At the same time, they also caused prob-lems for other plants whenever they rerouted ashipment or otherwise interrupted the master planof the central planners.

To solve these problems, Gorbachev intro-duced a policy of perestroika, the fundamentalrestructuring of the economy and government.Under the restructuring, Five-Year Plans wereretained, but the various ministries of productionwere to be converted to efficient, state-ownedenterprises that would compete in a market econ-omy. Plant managers were given more freedom to

buy and sell in pursuit of profits, and small busi-ness was encouraged.

Perestroika represented a halfway point betweena market economy and centralized planning.Gorbachev, however, did not remain in power longenough to see his plans realized. Those in industrywho opposed Gorbachev’s reforms allowed short-ages and other problems to persist, and then usedthese problems as proof that the reforms were fail-ing. Gorbachev’s successor, Boris Yeltsin, faced sim-ilar opposition. Ultimately, the collapse of theeconomy, the collapse of the political leadership,and the stresses of ethnic diversity and unrest com-bined to cause the downfall and breakup of theSoviet Union.

Frozen Treasures Siberia covers 75 percent ofRussia. It has the largest supply of mineral resourcesin the country, including gold, diamonds, and coal.Siberia remains mostly undeveloped because of itsharsh climate and few transportation routes.

Reshaping the World:

Karl Marx(1818–1883)

Marx was an economic historianand a social scientist. He studiedlaw and earned his doctorate in philosophy from the University ofJena, but his radical views prevented him from getting ateaching position.

Throughout the 1840s, he wan-dered from Cologne to Paris toBrussels. He joined with socialistand radical groups. Persecuted byPrussian and Parisian authorities,Marx fled to London in 1849where he began a life of exile and,eventually, died in poverty.

MARX’S WORKS

Marx is best known for TheCommunist Manifesto, published in1848, and Das Kapital, the first vol-ume of which was published in1867. In these works, Marx arguesthat “the history of all hithertoexisting society is the history ofclass struggles.” In each era, oneclass was pitted against another:master against slave, lord againstserf, capitalist against worker—the“oppressor and oppressed.”

HIS IDEAS

Marx argued that the oppressedof his day was the proletariat—

people who must work for othersbecause they have no means ofproduction of their own. Theiroppressors? The capitalists orbourgeoisie—people who own themeans of production.

Marx argued that labor wasexploited in a capitalist society. Hegave the name “surplus value” tothe difference between the wagepaid to the worker and the marketvalue of the worker’s output. Hebelieved this value was unfairlykept by capitalists as profits.

Marx argued that each cycle ofprosperity would add to the suffer-ing of the proletariat and thewealth and power of the capitalists.Eventually, he said, oppressedworkers would rise up in a violentrevolution. “Let the ruling classestremble at a communist revolu-tion,” he wrote. “The proletarianshave nothing to lose but theirchains. They have a world to win.Working men of all countries,

unite!” During the transition, theproletariat would, Marx argued,have to depend on a strong gov-ernment: a “Dictatorship of theProletariat.” Thus, authoritarianCommunism as practiced in theSoviet Union and other countrieswas born.

Marx believed that eventuallythe dictatorship would be replacedby a “classless society,” withoutgovernment, in which peoplewould produce to the best of theirabilities and consume to the extentof their needs.

Examining the Profile1. Analyzing Information According to

Marx, through what stages must soci-ety go before it can reach the idealstate of communism?

2. For Further Research Annotate aworld map to show the extent ofMarxist economies in the world today.


The Transition to Capitalism

Main IdeaReforms in the former Soviet Union, China, and manyLatin American and eastern European nations havemoved these economies toward more capitalistic,market-oriented systems.

Reading StrategyGraphic Organizer As you read the section, completea graphic organizer similar to the one below byselecting a country and describing how it is makingthe transition to capitalism.

Key Terms privatization, Solidarity, black market, Great LeapForward

ObjectivesAfter studying this section, you will be able to:1. List four problems encountered when an economy

makes the transition to capitalism.2. Recognize the major countries and regions that are

making the transition to capitalism.

Applying Economic ConceptsPrivatization Do you value and take care of thethings you own? Read to see why private ownership is essential if countries are to make the transition to capitalism.

Country

Action

Actio

n

Actio

n

ActionCapitalism

Cover Story

Rubles From the Ruins:

A Russian SuccessNIZHNY NOVGOROD, Russia—In general, the

Russian economy is a mess: Industrial production is

half what it was in 1991, the transition to a market

economy has gone badly, the ruble has collapsed, and

many giant enterprises are in desperate straits, unem-

ployment and poverty are ubiquitous.

And yet, some Russian businesses

are actually making money, some

are thriving. . . .Although criminals and

corrupt government officials

frustrate entrepreneurs all

over the country, some man-

age to evade or ignore them.

The experiences of the few

who are succeeding provide

some powerful lessons in why

that hope remains so remote.

Consider the adventures

of Andrei Mladentsev. . . .

—International Herald Tribune, July 20, 1999

A ndrei Mladentsev, the Russian entrepreneurfeatured in the cover story, now runs one ofthe largest and most modern pharmaceutical

companies in Russia. At age 26 he used the funds heaccumulated trading stocks to engineer a takeover ofthe 75-year-old pharmaceutical factory in NizhnyNovgorod. He is, however, the exception rather thanthe norm—as the problems of transition are trulydaunting.

Problems of TransitionHistorically, communism and capitalismhave been viewed as two opposing political

and economic structures. The collapse of commu-nism, however, does not mean that the transitionto capitalism will be smooth, or that it will bemade at all. An examination of the problems oftransition will show why.

Privatization A key feature of capitalism is private property—

especially capital, which is sometimes referred toas the means of production. Because communist

Russian currency


governments owned the means of production,privatization, or the conversion of state-ownedfactories and property to private ownership, has tobe accomplished. Privatization is importantbecause people tend to take better care of theproperty they actually own. Private property isalso important for entrepreneurial activity, espe-cially if the entrepreneurs are allowed to keep thefruits of their labor.

In Poland, Hungary, and the Czech Republic,this transition was accomplished using vouchers.Vouchers were certificates either given to people orsold at very low prices, depending on the country.As the vouchers were distributed, the governmentdrew up a list of companies to be privatized andthen organized the companies as corporations. Thecorporate shares were auctioned, and people wouldbid for the shares using their vouchers for payment.As people exchanged their vouchers for shares,ownership of the previously state-owned enter-prises transferred to private hands.

In other cases, the transition governments sim-ply sold state-owned companies to foreign corpo-rations. The government then used the funds to

pay other bills or make other purchases. Thesetransactions bypassed the citizens and transferredownership to foreign investors.

Loss of Political Power Under communism, the Communist party was

the ruling class. The transition to capitalismstripped the Communist party of its politicalpower and transferred it to the new class of entre-preneurs and capitalists.

In countries where the Communists were literallythrown out—as in Poland, Czechoslovakia, andHungary—the Communist leaders lost their powerbefore industry was privatized. In these countries,the voucher system worked reasonably well.

In other countries, former Communist leadersgrabbed a large share of vouchers, and thus a largeportion of ownership in many privatized compa-nies. In the most blatant cases, some of whichoccurred in Russia following the collapse of theSoviet Union, the ownership of companies wassimply transferred to politicians who were influen-tial during the transition period. Former political

THE WORLD’S LARGESTCITIES BY 2015

Most of the world’s population lives in urbanareas. Projections show that this trend will con-tinue. Today’s five largest cities are more populousthan most countries. Cities are rapidly becoming thekey economic units of global market analysis.

1. Categorizing Information How many citiesare projected to surpass 20 million in popu-lation by the year 2015?

2. Understanding Cause and Effect What doyou think are the economic reasons thatthe largest cities continue to grow?

Critical Thinking

C18-09C

1 Tokyo, Japan 28.882 Bombay (Mumbai), India 26.223 Lagos, Nigeria 24.644 São Paulo, Brazil 20.325 Mexico City, Mexico 19.186 17.97Shanghai, China7 New York, New York USA 17.608 Calcutta, India 17.319 Delhi, India 16.86

10 Beijing, China 15.57

Rank City, Country Projected Population(in millions)

Source: The Shape of Things to Come, by Richard W. Oliver, McGraw-Hill, 1999


leaders traded their political power for economicpower in the form of resource ownership—so thatthe old ruling group simply became the new ruling group.

The Discipline of Capitalism Many countries that desire a capitalist structure

have focused on the benefits to be obtained, notthe costs. However, the costs can hinder or evendiscourage a country from making the transition.

The disadvantages of capitalism made apparentduring the Great Depression included instability,unemployment, and social unrest. At that time, theUnited States did not have the fiscal policies, theautomatic stabilizers, and the social welfare netsneeded to lessen the devastation of the Depression.Now that such assistance exists, most economistsagree that another Great Depression will not occurin the United States.

The same cannot be said for the nations in tran-sition. They have not yet developed the automaticstabilizers and the social welfare nets that cushionthe instabilities of capitalism. During the transitionphase, nations will most likely experience the insta-bilities of early capitalism—the unemployment, theinflation, and the lost production—long before theyexperience the benefits.

Responding to New Incentives Finally, countries that make the transition to

capitalism have to learn to live with a whole newset of incentives. For generations, the governmentin the former Soviet Union told its people what todo. Under capitalism, people must learn how tomake decisions on their own. They must learn howto take the initiative, how to interpret prices, andhow to fend for themselves because the govern-ment no longer guarantees their jobs, nor does itkeep prices artificially low.

These adjustments will be enormous, perhapseven prohibitive, for some people. Many willeven long for the past when life was simpler.These people may not want to go through theadjustments and submit to the discipline of capi-talism. Impatience for the end result may be amajor obstacle to the transition.

Countries and Regions in TransitionDespite the transitional problems, the riseof capitalism is one of the most remarkable

phenomena of the late twentieth century. Today,nations and regions all over the globe are makingthe transition.


E C O N O M I C SA T A G L A N C EE C O N O M I C SA T A G L A N C E Figure 18.2Figure 18.2

porate form of organization a necessary component of capitalism?

Using ChartsUsing Charts New and emerging stock markets are now found all over the world, and more are still to come. Why is the cor-

New and EmergingStock Markets

Source: Emerging Stock Markets Factbook, 1998

NUMBER OF LISTEDCOMPANIES

Country138 48

543 180

296 778

763 247

163 222

668 159

231 143

111 222

50 776

5,853 240

287 408

648 431

46 262

722 91

198 64

NUMBER OF LISTEDCOMPANIES

CountryArgentina Morocco

Brazil Nigeria

Chile Pakistan

China Peru

Colombia Philippines

Egypt Poland

Greece Portugal

Honduras Russia

Hungary South Korea

India Sri Lanka

Indonesia Taiwan

Israel Thailand

Jamaica Turkey

Malaysia Venezuela

Mexico Zimbabwe

Visit epp.glencoe.com and click onTextbook Updates—Chapter 18 foran update of the data.

503_GLENEPP 11/12/03 4:19 PM Page 503


An Emerging LatinAmerican Market

Historically, the economies of most Latin American countries depended on agriculture. Beginning in the mid-nineteenth century, these Latin American economies beganto change. Countries exported raw materials, such as oil, so that they could import machinery to build factories formanufacturing goods. As a result of the growth of the man-ufacturing sector, service industries such as banking andinsurance took on new importance. An educated middle classemerged, consisting of lawyers, doctors, entrepreneurs, gov-ernment employees, and skilled office and factory workers.

As Latin America moves into the twenty-first century,economies in the region are changing once again. Tech-nology is affecting how business is done. Many groups inLatin America see e-commerce as a means to becomingmore economically efficient and competitive.

Internet Users in Latin America Consumers, busi-nesses, and governments are beginning to see the valueof Internet commerce. Online supermarkets and retail

shopping are becoming more popular with consumers.Technology is being developed in Brazil to develop anonline-only grocery store, where consumers will be ableto purchase products such as soap and oatmeal using acatalog and a bar-code scanner. Businesses use theInternet to link their factories with suppliers to cutcosts. They can track product shipments and check onthe status of an invoice. The government is also begin-ning to post government contracts online so that pub-lic and private companies can bid on them. Companiescan get information about competing bids and contestdecisions using the Internet.

Changes in Latin America’s business

RussiaPrivatization in Russia is well underway, despite

the continued resistance of hard-liners. Some pri-vatization took place under Gorbachev, andPresident Boris Yeltsin accelerated the processwhen he signed a 1992 decree requiring that state-owned enterprises be converted to privatelyowned ones.

Many conversions took place when the govern-ment printed and distributed vouchers to its peo-ple. The people then used the vouchers to purchaseshares of stock in the newly converted companies.

Smaller businesses were also being privatized at a rapid rate. Soon more than half of the restau-rants and shops in the major cities were in privatehands. Eventually Russia opened a stock market sothat individuals could buy and sell shares. The widespread ownership of the means of production

by individuals is now a reality in a country thatonce preached the evils of private ownership.

Eastern Europe The nations of eastern Europe, especially those

that were unwilling members of the Soviet bloc, arethe newest nations to embrace capitalism. The strug-gle for freedom began in Poland with Solidarity, theindependent and sometimes illegal union that LechWalesa established in 1980. Solidarity was influentialin securing a number of political freedoms inPoland. Eventually, the Communist party lostpower, and interest in capitalism grew. Politicalreform slowed privatization plans at first, but capi-talism finally appeared to be under way again in theface of progress by Poland’s neighbors.

Hungary is another country well on the way tocapitalism. Hungary was often regarded as the most


Getting Online Several problems are hindering thegrowth of e-commerce in Latin America. Only one in tenpeople have a phone line. Because the average grossdomestic product per capita is less than $4,000, theability to buy a personal computer and get online is outof reach for many people. Few people in Latin Americause credit cards; many are reluctant to give out creditcard numbers online. Custom regulations and importduties can delay the arrival of goods or make them tooexpensive to buy.

Industry experts agree that these problems willbe less troublesome in the future. It isexpected that within a period of five to sevenyears the number of phone lines will double, totwo per 10 people. Personal computer pricesare expected to fall as the number of salesincreases. Smart cards are becoming more pop-ular, giving consumers a better sense of secu-rity for buying online. Internet companies arebeginning to inform shoppers at the time ofpurchase how much they will owe for dutiesand other taxes, and it is expected that tariffswill be removed as more countries formregional trading blocs.

“western” of the Eastern bloc countries. It also hada flourishing black market—a market in whichentrepreneurs and merchants sold goods illegally.Hungary’s experience with these markets helpedease the transition to capitalism.

The Czech Republic is another country in transi-tion. By early 1998, more than 60 percent of theeconomy was in private hands. Progress acceleratedafter the separation of the Czech and SlovakRepublics, a separation based in part on theSlovakian concern about adopting the capitalistways of the West. The Czechs, who were stronglyinfluenced by the economic success of the formerWest Germany, are now more able to pursuereforms.

The Baltic states of Estonia, Latvia, and Lithuaniaare also making great strides toward capitalism.Latvia and Lithuania have their own stock marketsto help facilitate the transition. Estonia has made so

much progress that it—along with the CzechRepublic, Hungary, and Poland—will be consideredfor membership in the European Union between2002 and 2006.

Latin America In the past, many Latin American countries fol-

lowed a path of economic development that com-bined socialism and isolationism based on the infantindustries argument. Mexico accelerated the move tocapitalism and open markets in 1989 as it made plansto restructure its economy for the North AmericanFree Trade Agreement (NAFTA). Under PresidentSalinas de Gortari, the government sold thousands ofstate-owned companiesand cut back onthe governmentbureaucracy.

E-commerce grows

Did You Know?On The Net Even though fewer

people in Latin America have access tothe Internet than in the United States,those who use it spend many hoursonline. Latin American Internet usersspend about 10.4 hours online a

week, a figure up from 8.2 hoursspent online per week in

1998.


Chile has also taken major steps to foster thegrowth of capitalism. It has privatized airlines, tele-phone services, and utilities. Chile even used thebillions deposited in its pension funds to supplycapital to new entrepreneurs. As a result, the coun-try exports copper, lumber, fruit, and even softwareto the rest of the world. Chile’s markets include theUnited States, which imports millions of popsiclesticks, and Japan, which imports chopsticks.

Argentina has similarly embarked on a crashprogram to remove government from the everydaybusiness of running the economy. The country hassold oil fields, petrochemical plants, and a numberof other formerly state-owned businesses.

China The People’s Republic of China became a com-

munist economy in 1949. That year, the ChineseCommunists, under the leadership of Mao Zedong,gained control of the country. Over the years,China modeled itself after the Soviet Union, adopt-ing a series of Five-Year Plans to manage its growth.

In 1958 the Great Leap Forward was instituted.This was the second Five-Year Plan that tried to

institute a system of pure communism along withan industrial and agricultural revolution almostovernight. Industrialization was pushed and, atthe same time, collectivization of agriculture wasintensified. Farmers were forced off their land andmade to live and work on large, state-ownedfarms.

The Great Leap Forward was a disaster. The agri-cultural experiment failed, and the economy nevercame close to achieving the planned degree ofindustrialization. Even the gains made during thefirst Five-Year Plan were lost.

Other plans followed but, by the late 1970s, thegovernment decided that the country no longercould follow the models of either the Soviet Unionor other command-type economies. China and itspopulation were too big for large-scale centralizedplanning. Industrializing the cities enough to pro-vide jobs for nearly one-fourth of the world’s pop-ulation would be nearly impossible.

By the early 1980s, the influence of other suc-cessful market economies in Asia—Taiwan, SouthKorea, Hong Kong, and Singapore—was too muchfor China to ignore. One of China’s provinces,

Economic Change

Retreat From Socialism Once state-owned,many companies in Mexico are now under pri-vate ownership. How is Argentina reducingthe role of government in the economy?

Privatization

Changes in Chile Chile has privatized tele-phone services and airlines. What is Chile hop-ing to accomplish through privatization?


the Guangdong Province just north ofHong Kong, copied many of the freemarket practices of the region and waseven allowed to officially experimentwith capitalism. At one timeGuangdong was an embarrassment tothe official communist dogma, but itwas later touted as an economic rolemodel for the rest of the nation.

China was also influenced by theeventual reunification with Hong Kong,which took place in 1997. The city ofShanghai, in particular, embarked on aprogram of reforms and expansion in anattempt to become China’s “first city”after the reunification.

Today China is no longer experi-menting with capitalism. It is insteadprivatizing industries, introducing mar-ket reforms, and otherwise acting in adecidedly capitalistic manner. Chinastill has a long way to go, and the gov-ernment still directs most major eco-nomic activity. Its economy hasevolved, however, into what formerPresident Jiang Zemin once called“socialism with Chinese characteris-tics”—loosely translated as free market capitalism.

Checking for Understanding 1. Main Idea What is privatization? Describe

two ways in which transition economies han-dled privatization.

2. Key Terms Define privatization, Solidarity,black market, Great Leap Forward.

3. List the problems a country is likely toencounter when converting to capitalism.

4. Identify two major countries that are makingthe transition to capitalism.

5. Trace the economic policy changes in China.

Applying Economic Concepts6. Privatization Explain why capital stock and

other property is expected to last longerwhen it is privatized rather than collectivelyowned.

7. Finding the Main Idea Suppose you are visit-ing one nation in eastern Europe adopting amarket economy. What questions would youask local officials to determine whether theyare successfully moving toward capitalism?


Reform and Expansion

Shanghai Reform has resulted in strong economicgrowth for China. Why did China stray from centralizedplanning?


China is fast becoming an important hubfor information technology services, andmore U.S. businesses are starting to sendtheir work abroad.

Make Way forChina

If you visit Tom Reilly’s office in Guangzhou,you may have trouble hearing above all the con-struction noise. Workers at the . . . southernChinese city center hammer away even asemployees tap at their computer keyboards.Since it began in 2001 in a tiny, windowlessroom, the . . . center has grown to employ 120people doing everything from entering sales datafor a Hong Kong convenience-store chain toprocessing cargo information for a Norwegianshipping line. . . .

That progress is starting to spread acrossChina. After emerging as the world’s hottestmanufacturing hub, China is joining English-speaking countries such as India and thePhilippines as a key destination for out-sourced service jobs. . . .

So far, China’s role is largelyfocused on providing back-officesupport for financial service, tele-com, software, and retail compa-nies in neighboring Asiancountries. . . . But it is makinginroads . . . [which] couldinflame an already heated debatein the U.S. about companiessending work abroad. With . . .the jobless rate . . . [still high],

lawmakers in several states want to make itharder for governments to contract work to low-wage countries. . . .

Chinese officials aim to give this burgeoningindustry a push, by forging partnerships withmultinationals to train information technologyengineers. For example, IBM has signed deals totrain 100,000 software specialists in variousChinese cities over three years. . . .

. . . By honing skills in burgeoning marketsclose to home, China’s IT outsourcing industryis sure to get up to speed fast.

N e w s c l i p

Examining the Newsclip1. Analyzing Information What type of

office support does China help provide forother Asian countries?

2. Drawing Conclusions Why would someAmericans be upset over jobs being out-sourced to China?

—Reprinted from August 4, 2003 issue of Business Week, by specialpermission, copyright © 2003 by The McGraw-Hill Companies, Inc.


508_GLENEPP 11/5/03 8:41 PM Page 508

The Various Faces of Capitalism

Main IdeaMany countries have moved toward capitalism,although its exact form varies from country tocountry.

Reading StrategyGraphic Organizer As you read the section, completea graphic organizer similar to the one below byselecting one of the nations discussed in the sectionand describing what role the government plays in its economy.

Country Government andthe economy

Key Terms capital-intensive, keiretsu, infrastructure, collateral,transparency

ObjectivesAfter studying this section, you will be able to:1. Explain the factors that encouraged economic

growth in Japan.2. Rank the “Asian Tigers” according to per

capita GNP.3. Describe Sweden’s retreat from socialism.

Applying Economic ConceptsEconomic Growth Have you ever looked at the labelsinside your clothes? If so, you may have noticed thatmany of them were made in Korea, Hong Kong, orTaiwan. Read to find out how different economies experienced economic growth.

C apitalism is a force sweeping the world. It isalso a force that has many different faces. Thecommon element of capitalism is that the fac-

tors of production are privately owned and controlled;there are, however, many variations on this theme.

The sharp financial crisis that swept Asia in thefall of 1997 also demonstrates another feature ofcapitalism—that the welfare of most capitalisteconomies is increasingly entwined. The interde-pendence we often see at the local and nationallevel is beginning to become a feature of the globaleconomy. These are some of the forces that arecausing capitalism in places such as Japan to con-tinue to evolve and expand.

JapanJapan, like the United States, has a capital-ist economy based on markets, prices, and

the private ownership of capital. Unlike theUnited States, however, Japan’s government isvery involved in the day-to-day activities of theprivate sector.

Cover Story

Breaking the BorderIf President George W. Bush and [Mexican

President] Vicente Fox needed an emblem of their

vision of a blurred US-Mexican border, Citigroup has

just provided it. The bank’s $12.5 billion purchase of

Banacci, the leading Mexican bank, is as important

for its symbolism as for its size.

The US financial services

group does not just have

Mexican customers in its

sights. It also wants to use

Banacci’s brand, Banamex, in

the US to attract Hispanics

through its doors…. That a US

institution should go to

Mexico for help to penetrate

its home market shows how far

things have come since the launch of NAFTA in 1994.

—- Financial Times, May 23, 2001

Banamex andCitigroup merge


At the end of World War II, Japan was a devas-tated country. Today, it is the third largest economyin the world, with a GDP about 38 percent of thatof the United States. In the 1970s and 1980s, theJapanese economy was one of the fastest growing inthe world. However, it stalled in the 1990s. Slowergrowth, a currency crisis in 1995, and recessionfrom 1998–2001 added to the economy’s woes—factors that convinced the Japanese that furtherrestructuring was necessary.

Reasons for SuccessOne of the reasons for Japan’s early success was

the workers’ intense loyalty to their employers.Many workers joined large companies for life. Inreturn, the company supplied benefits such aswedding halls, private schools, and even vacationresorts.

Japanese workers traditionally take great pridein the quality of their work. It is not unusual for

a company’s entire workforce to arrive early totake part in group calisthenics and meditationexercises.

Japan’s recent economic crisis has severelytested the historically close employee-employerrelationship. Some firms have actually laid offworkers, and some no longer guarantee lifetimeemployment. Whether or not these changes willbecome widespread depends in large part on thespeed and strength of the Japanese recovery.

Another reason for Japan’s success is the abilityand willingness of the Japanese to develop newtechnology. Because of their relatively small popu-lation, they have worked to boost productivity bydeveloping methods that are capital-intensive—techniques that use a large amount of capital forevery person employed. Today, the Japanese arerecognized as the world leader in the area of indus-trial robots. As a result, most factories require onlya fraction of the workers that similar factories inother countries need.

Most large Japanese firms alsobelong to a keiretsu (ky • reht • soo).This is a tightly knit group of firmsgoverned by an external board ofdirectors from potential competi-tors. The role of the governingboard is to ensure that competi-tion does not get so fierce thatindividual firms are threatened. Asimilar agreement in the UnitedStates among competing firmswould be illegal under our antitrustlaws.

The Role of Government Historically, Japan’s public sec-

tor was relatively small. Spendingon infrastructure—the highways,mass transit, communications,power, water, sewerage and otherpublic goods needed to support alarge population—was low. Thegovernment also had a modest mil-itary capability and was not bur-dened with welfare spending. As a result, taxes were low, which

Japan

Worker Attitudes Japan’s economic success is due in part to itsworkers’ loyalty and pride in their products. What other factorshave contributed to Japan’s success?


510_GLENEPP 11/5/03 8:42 PM Page 510

allowed people to save their money or spend it onconsumer goods.

The Japanese government also worked closelywith businesses to limit foreign competition in thedomestic market. Even today the Japanese govern-ment is more closely allied with businesses thanconsumers, often aiding efforts to keep foreigngoods out of the country in order to protectdomestic producers.

Some of this has changed with the recent eco-nomic downturn. In order to stimulate economicgrowth, the government introduced a number ofKeynesian-type spending packages in 1998 and1999 to stimulate the economy. As a result, thegovernment sector now spends more than ever.

A Closed Economy Despite Japan’s success in international trade,

their economy is partially closed to the productsof foreign producers. When foreign companies tryto sell their goods in Japan, many encounternumerous obstacles ranging from delayed govern-ment permission to huge amounts of paperwork.

Until recently, Japan was even reluctant toimport rice, a food staple, in order to protectdomestic rice producers. As a result, the cost of riceto the Japanese consumer is several times higherthan it would be if Japan imported rice from theworld markets.

The High Cost of Living Protectionism in Japan may help certain seg-

ments of the economy such as the rice farmers, butit does not help the consumer. Because foreigncompetitors supply so few goods, products are gen-erally expensive. Citrus fruits cost four to six timesmore in Japan than they do in the United States.Clothing costs two to three times as much, andeven cameras and electronics cost more in Japanthan elsewhere.

For years, the Japanese have been making elec-tronic consumer goods and selling them abroad.Recently, Japanese citizens discovered they couldpurchase their own goods cheaper in Hawaii thanthey can in their own country. As a result,Japanese cameras, radios, and other electronic

equipment are among the most popular itemsJapanese visitors bring back from trips abroad.

Reliance on Manufacturing and Trade Japan must actively engage in international trade

because it is an island nation with few naturalresources. Consequently, it must import most of itsoil as well as a number of other critical materials.For the most part, the Japanese paid for theirimports with revenues from the sale of cars, cam-eras, and other consumer products.

Much of Japan’s trade success has been attrib-uted to the direction that provides its Ministry ofInternational Trade and Industry (MITI). This is agovernment ministry that identifies promisingexport markets, and then subsidizes industries sothat they can be competitive in this area.

Stagnation and Recession Despite Japan’s economic successes, it experi-

enced stagnation and recession for most of the1990s. Industrial production peaked in 1991 andthen declined until 1994. It recovered to its 1991level in 1997, but then went into its worst recessionsince World War II.

Part of the reason for the poor economic per-formance was the banking crisis in the 1990s.When Japan was growing exceptionally fast sev-eral years earlier, land values soared. Many bor-rowers pledged their land as collateral—propertyor other security used to guarantee repayment ofa loan—against loans that ultimately went bad.Banks had so many bad loans—estimates ranged ashigh as one in four—that banks simply stoppedlending in 1996 and 1997. To make matters worse,banks had been so secretive about their loans that

Student Web Activity Visit the Economics: Principlesand Practices Web site at epp.glencoe.com and clickon Chapter 18—Student Web Activities for an activ-ity on the governments and economies of nations.



banking regulators did not even know whoreceived the loans, making default by the borrowersrelatively easy.

The banking situation made it difficult forqualified borrowers to get loans, and many indus-tries, including construction, came to a halt.Unemployment rose; the government tried to stim-ulate the economy with a number of programs,including “employee adjustment grants” designedto subsidize employee wages. In 1999 alone, thegovernment used �Y 61.1 billion ($532 million) topay two-thirds of the salaries of nearly 2.5 millionworkers in 300 industries. Despite these subsidies,Japan’s unemployment reached record-high levelsin late 1999.

Restructuring and ReformAnother problem facing Japan is that it can no

longer rely exclusively on basic manufacturingbecause many of its neighbors can now produce thesame products at a lower cost. Also, the cozy rela-tionship between government and industry makes itdifficult for incremental change to take place—oneof the features of capitalism. This inflexibility ismade more difficult by the keiretsu, whose purposeis to maintain relationships and to ensure that com-petition does not become detrimental to its mem-bers. Finally, there is the issue of transparency, orthe need to make business dealings more visible toeveryone, especially government regulators.Without more transparency, it will be difficult toprevent another crippling banking crisis.

According to its Ministry of International Tradeand Industry, Japan needs to institute supply-sidereforms. These reforms would redefine government’s

role in the economy and restructure the way firmsproduce and compete with one another. This is anironic turn of events because the world looked toJapan as the very model of growth in the 1980s.Today, Japan looks to the United States for guidanceon restructuring so that it can resume its previousgrowth.

The Asian TigersThree other Asian countries—Singapore,Taiwan, and South Korea—have made strik-

ing economic progress during the last 50 years.The British colony of Hong Kong also experi-enced explosive growth before it was reunifiedwith China. Despite setbacks during the Asianfinancial crisis of 1997, the four are called the“Asian Tigers.” Each has based its growth on cap-italism, but each has taken a slightly differentpath.

Hong Kong When Hong Kong was still a British colony, it

was recognized as the most free market economyin the world, one with virtually no governmentinterference. Entrepreneurs in Hong Kong devel-oped a manufacturing-based economy that usedtechnology other countries had already devel-oped. Their major industrial products includedtextiles, clothing, electronic games, radios, tele-phones, watches, electronic components, andtoys.

At the time of unification in 1997, HongKong’s per capita GNP was nearly 90 percent ofthe United States’s, and nearly 40 times that ofChina. Other factors, however, were beginning tochange. Financial services and tourism had caughtup with manufacturing, and the Asian crisis hadthrust the economy into a deep recession.Furthermore, China’s promise not to interferewith Hong Kong markets for a period of 50 yearsseemed to be in jeopardy. In mid-1999, HongKong’s chief executive Tung Chee-hwa announcedplans to pour billions of dollars into high-techcomputer industries, marking a sharp departurefrom the laissez-faire capitalism that once charac-terized Hong Kong.

INFOBYTEINFOBYTE

International Bonds An international bond is abond that is issued in one country on behalf of bor-rowers that live in another country. An examplewould be a Japanese-issued corporate bond beingoffered for sale on the New York bond market.


Singapore The second Asian Tiger is Singapore, an island

nation about 3.5 times larger than Washington, D.C.,with a per capita GNP about 80 percent of that of theUnited States. More than 1,000 multinational firmshave been attracted to Singapore with the lure of gen-erous tax breaks, government subsidies, and government-sponsored training of employees.Unlike Hong Kong, Singapore made a determinedeffort to develop its own technologies through exten-sive spending on research and development.

The government of Singapore is trying to developa few select industries, including telecommunica-tions services, software, and biotechnology. The gov-ernment has spent millions on laboratories,attracting top scientists from all over the world. Thebiotechnology industry has scored some originalsuccesses, one of which is the transfer of firefly genesto orchids to make them glow in the dark.

Taiwan The Republic of China, also known as Taiwan, is

an island about the size of West Virginia located offthe coast of the People’s Republic of China.Taiwan’s population is about 22 mil-lion, and the per capita GNP is almosthalf that of the United States.

Planning was always a feature ofthe Taiwanese economy. The mostrecent plan identified 10 industriesto receive government assistance—these include telecommunications,consumer electronics, semiconduc-tors, precision machinery, aerospace,pharmaceuticals, and others.

Taiwan was one of the early eco-nomic powers in Asia, but some peo-ple wonder if the centralized planningprocess will hamper future economicgrowth. Another concern is the loom-ing presence of the People’s Republicof China, which regards Taiwan as a“renegade province” and vows even-tual unification. Despite its early start,the per capita GNP in Taiwan hasfallen far behind those of Hong Kongand Singapore.

South Korea South Korea, a country slightly larger than

Indiana, has the smallest per capita GNP of theAsian Tigers, at about 45 percent of the UnitedStates’s. In the past, a group of technocrats gov-erned Korea with the help of the military. The fac-tors of production were privately owned, but asmall number of powerful business families domi-nated the private economy through conglomerates.

South Korea was hit hard by the 1997 Asianfinancial crisis, but it was also one of the firstnations to recover. Many reforms have been under-taken since, but South Korea’s future economicgrowth still depends on whether the private econ-omy can adapt to competition and rely less on itsrelationship with the political sector.

SwedenSweden is a mature industrial nation, onceregarded as the “socialist state that works.”

The reputation was apt because Sweden provided abroader range of social welfare programs for its citi-zens than did any other free-world country. Some

Changes in Sweden

Restructuring Many government-owned businesses inSweden were privatized in the early 1990s. What led to theouster of Sweden’s Socialist party?


of the basic industries were nationalized, butSweden also had a considerable amount of privateenterprise. The country, therefore, was not a modelof pure socialism in the traditional sense.

The Welfare State Many worker benefits were instituted during the

44-year rule of the Socialist party. During this time,wages were high, jobs were easy to find, and unem-ployment was in the 1- to 3-percent range. TheSwedish economy—with its generous maternity,education, disability, and old-age benefits—wasthought to be the model of European socialism.

Because government owned some basic indus-tries, and because many of these industries were notprofitable, the government relied on steep taxes topay for the welfare state benefits. In the mid-1980s,tax receipts were about 50 percent of GNP. In somecases, additional income that Swedish citizensearned was taxed at an 80 percent rate, meaningthat a person who earned an additional $100 wouldkeep only $20. Some individuals even left thecountry to avoid high taxes. When tennis star BjornBorg was at the peak of his career, he resided out-side of Sweden to avoid paying high taxes.

Many others devised ways to avoid paying taxes.Some craft workers resorted to barter. A carpenter

who built some cabinets for an auto mechanic, forexample, might be paid with repair work on thefamily car.

Restructuring Eventually, the heavy tax burden and the addi-

tional costs of the welfare state began to cut intoSweden’s economic growth. Growing inflationadded to the problems, as did a massive govern-ment deficit. Growing discontent with conditionsfinally led to the defeat of the Socialist party in 1976.

A free-market government was elected in 1991,and by 1993 the role of the public sector had beenreduced, although current revenues by all levels ofgovernment exceed 60 percent of GNP. Taxes onindividuals and corporations are also lower,although they are still high by U.S. standards. Manygovernment-owned businesses have been priva-tized, and more are scheduled to be converted.

European nations such as Sweden were rela-tively unaffected by the Asian crisis, so economicgrowth was generally positive from 1990 to 2003.Sweden now has a real GNP per capita about two-thirds of that in the United States. This is higherthan Singapore, Taiwan or Korea, but less than theper capita GDP of Hong Kong.

Checking for Understanding 1. Main Idea Discuss how the approaches to

economic growth differ in Taiwan and SouthKorea.

2. Key Terms Define capital-intensive, keiretsu,infrastructure, collateral, transparency.

3. Describe significant factors that contributeto economic growth and development inJapan.

4. Rank the “Asian Tigers” according to per capita GNP.

5. Explain how Sweden’s retreat from socialismaffected the nation’s tax rates.

Applying Economic Concepts6. Economic Growth How has Sweden’s transi-

tion from socialism to capitalism helped pro-mote economic growth?

7. Making Predictions How might continuedeconomic growth in Asia affect industries inthe United States?

8. Making Comparisons What type of help isprovided to Japanese businesses by theirgovernment that the American governmentdoes not give to its businesses?



514_GLENEPP 11/5/03 8:43 PM Page 514

S e c t i o n 1

The Spectrum of EconomicSystems (pages 491–494)

• The world’s three main types of economic systemsare capitalism, socialism, and communism.

• Under capitalism, productive resources are privatelyowned and operated; capital is obtained throughprofits in the market; supply and demand determineprices; and the role of government is limited to pro-moting competition and providing public goods.

• Under socialism, many of the basic resources aregovernment owned and operated, with prices play-ing a major role in the allocation of resources.

• Under communism, all productive resources aregovernment owned and operated; centralized plan-ning directs all resources; and labor is organized forthe common advantage of the community.

S e c t i o n 2

The Rise and Fall of Communism(pages 496–499)

• In 1917 revolutionists overthrew the government ofRussia and instituted a communist system.

• Utilizing a series of Five-Year Plans, Stalin wanted toachieve rapid industrialization. The plans includedthe collectivization of agriculture and the transfor-mation of industry.

• When Stalin’s brutal regime ended in 1953, theSoviet Union had successfully completed its transi-tion to a major industrial power.

• The command economy ultimately proved to be a miserable failure. Low productivity and the lack of incentives led Mikhail Gorbachev to attempt perestroika, the fundamental restructuring of theeconomy and the government. The restructuring wasnot completed, however, and in the early 1990s, theSoviet economic system collapsed.

S e c t i o n 3

The Transition to Capitalism (pages 501–507)

• The former communist systems face severalchallenges—including the privatization of capitalresources—as they try to move toward capitalism.

• These challenges include privatization, the shift in political power from Communists to elected officials, and the new incentives of a capitalisteconomy.

• Russia and Eastern Europe have had varyingamounts of success in this transition to capitalism.

• Many countries in Latin America and even Chinaare also moving toward a capitalist economy.

S e c t i o n 4

The Various Facesof Capitalism (pages 509–514)

• Japan achieved phe-nomenal economicgrowth with a combi-nation of worker andcorporate loyalty,technology, and lowtaxes until the early1990s.

• Despite Japan’s economic success, it experiencedstagnation and recession during the 1990s.

• The economies of the “Asian Tigers”—Singapore,Taiwan, Hong Kong (before reunification withChina), and South Korea—also owe much of theirremarkable success to capitalism.

• Sweden, once regarded as the “socialist state thatworks,” has restructured in an attempt to move awayfrom socialism.


Identifying Key TermsWrite the key term that best completes the followingsentences.

a. state farm f. Five-Year Planb. socialism g. collective farmc. black market h. communismd. capital-intensive i. perestroikae. privatization j. storming

1. In most former communist countries, state-ownedenterprises are being converted to private owner-ship, a process known as _______ .

2. To direct production, Soviet planners adopted a_______ .

3. Under _______ , the government owns all themeans of production.

4. In the Soviet agricultural system, the state ownedand operated each _______ .

5. Soviet leader Mikhail Gorbachev introduced a pol-icy of _______ , the fundamental restructuring ofthe economy and government.

6. In the Soviet Union, groups of peasant families,each of which was allowed to keep their home andhousehold goods, a few cattle, and a small plot ofland, worked each _______ .

7. Most nations of Eastern Europe had a flourishing_______ , where entrepreneurs and merchants soldgoods illegally.

8. Under _______ , the government owns many, butnot all, of the basic productive resources.

9. In _______ industries, a large amount of capital isused for every person employed in manufacturing.

10. Piecework quotas often led to _______ , whereworkers worked slowly until the last week of themonth and then sped up to meet the unrealisti-cally high quota.

Reviewing the FactsSection 1 (pages 491–494)

1. Explain the role of the government in a capitalisteconomic system.

2. Describe how the people in a socialist economyhelp allocate the use of resources.

3. Describe who answers the basic economic ques-tions in a communist system.

Section 2 (pages 496–499)

4. Describe Stalin’s efforts to implement centralizedplanning.

5. Describe the problems that central planningcaused in the Soviet economy.

6. Explain the impact that perestroika had on theSoviet economy.


7. List the problems that nations may face as they try to make the transition from communism tocapitalism.

8. Name the nations that are currently trying toadapt to a market economy and describe the spe-cific problems they are facing in their transition.


9. Explain the role that the government plays inJapan’s economy.

10. Describe how the approaches to economic growthdiffer in South Korea and Singapore.

Self-Check Quiz Visit the Economics: Principlesand Practices Web site at epp.glencoe.com andclick on Chapter 18—Self-Check Quizzes to pre-pare for the chapter test.



Thinking Critically1. Evaluating Information Do you think five-year

plans could work in the United States? Why orwhy not?

2. Drawing Conclusions What safeguards are inplace to ensure that the United States will notface an economic downturn as severe as the Great Depression? List the safeguards on a graphicorganizer like the one below.

3. Sequencing Information Trace Sweden’s transi-tion from socialism to capitalism.

4. Drawing Conclusions The Communists prom-ised people that their system would lead to work-ers’ paradises throughout the world. By the early1990s, however, communist systems and theircommand economies in most countries had col-lapsed. Why do you think communism was such a failure?

Applying Economic Concepts1. Capitalism Many nations are attempting to

switch from communism or socialism to capital-ism. Often, the transition has been quite difficult.What suggestions would you make to the leadersof these nations to help ease the transition to capitalism?

2. Economic Growth The “Asian Tigers” have experi-enced rapid economic growth and development.Do you think they can sustain this growth rate?Why or why not?

3. Economic Change Why have many countrieschosen to change the mix of socialism and capital-ism in their economies in recent years?

Math Practice Assume that your salary is 500 rubles per month. Thegovernment-controlled price of bread is 10 rubles,and you buy five loaves each month. What percentageof your income do you spend on bread? After thegovernment deregulates prices, bread costs 25 rubles.What percentage of your income goes to buy bread?How does the inflation affect your standard of living?

Thinking Like an Economist Explain why firms in the former Soviet Union couldmake low-quality products and continue to exist yearafter year. What would happen to such a firm in theUnited States economy?

Technology SkillUsing a Computerized Card Catalog For one week,summarize in your journal news articles you readabout events in eastern Europe and other formerSoviet bloc nations. Focus on articles that relate tothose regions working to convert from a commandeconomy to a market economy.

Using a computerized card catalog, find other sourcesdescribing economic events in these areas. Composea journal article analyzing current developments ineither of those regions of the world. Include quotesfrom the sources you found using the computerizedcard catalog.

Building a Database Review recent issues of newsmagazines and current newspapers.Using the steps described on page 495, builda database of information about currentworld developments concerning capitalismand socialism that the newspapers or thenews magazines mention. Explain to a part-ner why the database is organized the way it is and how it might be used in class.


Safeguards


Simulating Tradein VariousEconomies From the classroom of . . .

Danielle DresslerMifflinburg High SchoolMifflinburg, Pennsylvania

The world contains various types of eco-nomic systems. Some countries have mar-ket economies, some command economies,some traditional, and still others havemixed economies. Each type of economyposes its own challenges when it comes tointernational trade. In this workshop, youwill organize into groups and attempt totrade your products for goods produced inanother country.

Setting Up the WorkshopYour teacher will separate you into groups

and provide you with your products. Your groupwill represent a command, market, traditional,or mixed economic system. Read the instructionsfor your economic system. Then, read the stepsof the procedures and begin the activity.

Procedures

STEP 1

Your group has all the “goods” your countryproduces (for example, the command economyhas all the sugar packets). Later, you will useyour goods to trade for the staples you needthat are produced in the other countries.

STEP 2

When your group trades, keep in mind that the trade value of the products are: 100 lbs of sugar � 100 lbs of tea � 50 lbs of cotton �25 lbs of meat.

STEP 3

Begin trading with the other “countries,” payingcareful attention to your restrictions on importsand exports. To satisfy the needs of its popula-tion, the goal of each country is to trade itsproduct in such a way that it comes as close aspossible to achieving the following mix ofgoods:

• 75 lbs of meat

• 250 lbs of cotton

• 500 lbs of sugar

• 300 lbs of tea


Command EconomyYou are citizens of a country under a com-

mand economy. Your country has 1,500 poundsof sugar to trade. Your government has placedmany regulations on both imports and exports. Three regulations are required during sugarproduction in order for sugar to be exported.Also, three regulations protecting your citizensneed to be met in order for products to comeinto the country. Before you begin, organizeyour society (government officials, farmers,etc.) and list your regulations on imports andexports.

Traditional EconomyYou are members of a society that has a

traditional economic system. Your country has800 pounds of tea to trade. You must decide inwhat quantities and with what countries youwant to trade your tea, which is in very lowsupply. Before you begin, describe the charac-teristics of your society (climate, organization,leaders, etc.) and organize your group so thateach member has a part in the economy.

Mixed EconomyYou are members of a country that has a

mixed economic system. You have 400 poundsof cotton to trade. Your government doesnot have complete control over theeconomy, but it places two regulationson the export of the cotton pro-duced in your country and tworegulations on imported prod-ucts. Before you begin,organize your society(government officials,producers, etc.) andlist your country’sregulations onimports andexports.

Market EconomyYou are a member of a country that has a

market economic system. Your main export ismeat—300 pounds in total. (Every member hasan equal share.) You are free to compete intrade against one another. Your task is toexport the meat from your country by compet-ing with the other members of your group.Before you begin, describe the characteristicsof your society and decide if you want toimplement regulations on imports and exports.

Summary ActivityWhen the trading has been completed, discussthe following questions.

1. Which “country” came closest to the opti-mal mix of products? What factors of theeconomic system made this possible?

2. Which types of economies were least ableto achieve a good mix of products? Why doyou think this is so?

UNIT 5 INTERNATIONAL AND GLOBAL ECONOMICS 519

Chap18 Fundamental Economic Concepts

Education

Transcript of Chap18 Fundamental Economic Concepts