CHANGING POLITICAL-ECONOMIC ENVIRONMENT

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP85T00176R001300140006-2
• Release Decision: RIFPUB
• Original Classification: K
• Document Page Count: 13
• Document Creation Date: December 19, 2016
• Document Release Date: February 2, 2007
• Sequence Number: 6
• Publication Date: April 19, 1982
• Content Type: REPORT

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Disk 53/Changing 19 April 1982
Changing Political-Economic Environment
In 1971, two Presidential reports pointed out the sea changes taking
place in the international economic environment and their implications for the
United States. Both reports, "The United States in the Changing World
Economy" (by Peter G. Peterson) and "US International Economic Policy in an
Interdependent World" (by a committee chaired by Albert L. Williams)
emphasized:
-- The increased economic competition from Western Europe and Japan as
a result of their narrowing of the economic and technology gap with
the United States.
-- The much greaten attention policymakers must pay to international
economic matters in making their domestic decisions as a conse-
quence of the growing global economic interdependence.
-- The pressing need to alter international economic arrangements and
to strengthen the domestic economy in order to meet these two
challenges.
In essence, the two Presidential reports indicated the ending of a
quarter of a century characterized by extraordinary economic progress and an
unusual degree of cooperation among industrial countries on economic
matters. The successful 1950-73 era reflected a unique set of fortuitous
circumstances. The post - World War II environment provided an enormous
potential for rapid economic expansion. Western Europe and Japan possessed
the considerable human skills needed to restore their economies. The United
States meanwhile emerging from the war with an extremely strong economy could
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afford to finance the development of the war-torn industrial states and allow
them to grow rapidly by exporting to an open US market.
The governments of the United States and other industrial countries could
easily pursue these growth policies because they served both their national
and the common interest of all parties. Efforts by Western Europe and Japan
to achieve rapid economic growth were strongly supported by the United States
because it met its number one security goal of containing Communism and
because it meant the reestablishment of traditional markets for US goods. The
momentum of the dynamic growth lasted until the early 1970s and provided
sufficient new jobs to absorb workers put out of work by technological
advances and those just entering the labor force. Governments also found they
could afford to meet the increased demands for new social welfare and
environmental programs.
These extraordinary circumstances could not last mainly because:
-- The economic and technological gap between the United States and
other major industrial countries had narrowed to the point where it
was no longer a major force in the post - World War II expansion.
-- The United States no longer could afford or was politically willing
to allow other countries to depend as much as they had on the US
market for boosting their economic growth.
-- The rapidly rising demand for oil as a cheap source of energy had
to end because of supply constraints.
-- The good years had eroded the competitive vigor of the private
economy, generated large and costly government programs, and
institutionalized inflation. Workers learned to press for higher
wages to compensate for rising prices, and firms found it easy to
pass on higher wages to the consumer.
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These changing conditions created the troublesome post-1973 years for the
industrial world. Economic growth slowed markedly, unemployment jumped, and
inflation tenaciously remained at high levels. In addition, the unique
cooperation that resulted from the benevolent use of US post - World War II
power was replaced by the normal state of affairs, where it is necessary to
mesh conflicting national policies. The need to alter attitudes made matters
worse. Countries that had become accustomed to policies and practices that
had served them successfully for so long naturally were reluctant to abandon
them. Some developed countries, especially Japan, were resistent to opening
their markets to foreign goods, and the United States found it difficult to
subject its domestic economic policies to balance of payments discipline and
other foreign concerns, such as high interest rates.
Although adjusting to the new circumstances has been a wrenching process,
the industrial world has done remarkably well. Their economies as a group
expanded at 2.5 percent annually, a rate, while half that of the previous two
decades, is rather reasonable by historic standards. More important, an
economic collapse was averted and political-social tensions were contained.
Much of the credit for minimizing the adjustment pains is due to the
durable political-economic system inherited from the 1950-73 era. On the
national level, the most important achievement has been the fact that the
great majority of people in the developed world and in some less developed
countries have acquired a substantial stake in the survival of their
countries' political-economic system. The extensive income security systems
put in place in the pre-1973 era were expanded, reducing the hardships
inflicted by unemployment. On the international level, we have seen the
steady development of institutions, informal linkages, and codes of conduct
merging into a new kind of equilibrating structure. Although the cooperation
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has been far from perfect, the process has at a minimum greatly inhibited
countries from initiating actions that could severely hurt other countries or
impair the international order. Measured against this criterion, the
international economic structure that has evolved since World War II has been
highly effective. The world economy was able to adapt remarkably well to the
shock of the massive OPEC price increase in 1973-74. By contrast, in the
interwar period of the 1930s, dislocations of far more modest proportions led
to widespread financial default, rampant protectionism, and an economic
depression.
The policy process that the two Presidential reports helped initiate and
the impact of market pressures produced changes in international economic
arrangements that were highly useful in coping with the economic troubles of
the 1970s, especially the OPEC shocks.
-- The replacement of the fixed exchange rate system with a more
flexible regime allowed currency values to fluctuate with changing
economic circumstances rather than have to wait for a political
decision.
-- Elimination of controls on US capital flows in 1974 (later in some
other industrial countries) helped provide a means of achieving the
needed flows of petrodollars and at the same time provided US
commercial banks with a major new source of earnings.
-- Progress toward a more open trading system under the MTN (Tokyo
Round) was instrumental in containing the periodic buildup in
protectionist pressures.
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-- More frequent and more intimate exchange of views through the OECD,
BIS, IMF, and economic summits etc. produced a process that
constrained countries from taking actions that could hurt others.
Among the industrial countries the US economy did rather well in dealing
with the new economic circumstances. The US growth of real output exceeded or
at least matched all other industrial countries except Japan. The sharp
appreciation of foreign currencies against the dollar in the 1970s created the
exchange rate illusion that other industrial countries were still gaining on
the United States. In fact, the exchange rates were merely catching up with
the real changes that had occurred earlier. In real terms, the United States
maintained its relative economic power position through the 1970s.
The US economic gains came mainly from putting people to work rather than
from increasing their productivity. In large part this reflected the much
more rapid growth in its labor force than other industrial countries (except
Canada). Persons in the United States turning 18-25 years old rose much more
rapidly than elsewhere. The United States also moved from a position of
having one of the lowest proportions of females employed in the late 1960s to
having the highest proportion by the late 1970s. Finally, the United States
absorbed the largest rise in immigrant workers.
The Challanges of the 1980s
During the next ten years, the US economy will be confronted with
powerful forces of structural change as pervasive as those it faced in the
past decade, although quite different. Rapid advances in technology, sweeping
shifts in consumer demand, major alterations in patterns of energy use, and
significant reversals in demographic trends are all part of the dynamic
process to which industrial societies must continually adjust. A display of
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the changing nature of these issues since World War II and a glimpse at the
future are shown in figure 1. In this adjustment process, those who stand to
benefit from change are forever at odds with those who stand to lose. The
former seek to alter the rules and structures, while the latter want to
preserve the status quo. The problem for government is how to make the needed
structural adjustments politically palatable while minimizing their socially
disruptive consequences.
As we have seen, the ability of the industrial countries to tolerate the
adjustment process depends to a large measure on the pace of economic
growth. For the next five to ten years, it is certainly possible that
economic growth probably will rise faster than during the 1970s, since
significant progress has been made in coming to grips with oil market
stringencies, inflationary pressures, and surging government spending (mainly
the United States). A return to the halcyon pre-1973 era, however, is highly
unlikely, either in terms of rapid economic growth or the low level of
political frictions. The reappearance of the highly unusual set of
circumstances that characterized those years is very remote, as is a
reemergence of US global dominance in military, economic, political and
technology matters. At best, a sustained growth rate of some 3.5 percent
seems most plausible during the 1980s. Such a one percentage point rise above
the level of the 1970s would go a long way in reducing unemployment and
ameliorating social and political tensions stemming from economic related
adjustments.
Achieving this higher level of economic growth rests more on the success
of US efforts than at any time since the 1950s. The United States is the only
developed country with a major economic recovery program underway. Although
it no longer is the dominant economic power, the United States remains the
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preeminent one. A rapidly growing United States still provides considerable
market opportunities for other countries in terms of size and openness.
Western European nations will likely lag in making the difficult choices
needed to energize their economies. Their problems are only now just
beginning to be recognized in the political realm. Their leaders face many
more barriers to change than elsewhere in the industrial world, and Europeans
tend to place greater value on stability than growth. The Japanese could help
spur economic growth if they were to quickly open up their markets to foreign
competition. But the chances of this occurring are low, because many of their
import barriers are deeply imbeded in social-cultural practices.
Many Roads to Adjustment
The way a society adjusts to secular change is much less a matter of its
conscious choice than it is a function of its cultural-institutional makeup.
There is no right way or wrong way, no single magic formula of social
organization for coping successfully with change. For the most part, we are
talking not about an "industrial strategy," but a set of entrenched
conditions. It may be tempting to single out some particular set of policies
or approaches on some facet of a country's institutions and to present these
as success indicators or exemplars for other countries to emulate. But such
single elements neither typically stand on their own when removed from their
indigenous social context nor lend themselves readily to modification through
social engineering.
Among the elements often cited as "explaining" a country's industrial
dynamism and successful adjustment to change are such things as the way
government interacts with the private sector, the manner in which industry is
structured, the emphasis put on welfarism, and the amplitude of the consumer
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savings rate. But the evidence on the separate or collective impact of these
and other elements is by no means clear. All that can be said is that
industrial societies differ in their institutions, approaches, and policies in
these matters. When they do try to replicate each other's solutions, they
often find that what is good for one is not necessarily appropriate for the
other. While the long-term trend toward internationalization of production
may well narrow the differences among countries, the differences are likely to
remain substantial for some time.
The differences range over a wide spectrum. Some examples:
-- Role of government. Involvement of government with the private
sector is pervasive in Japan and significant in Western Europe, but
quite limited in the United States. Similarly, cooperative
interaction among big government, big business and big labor is
extensive in Japan and well developed in most West European states
while in the United States the relationship among the three groups
has been traditionally adversarial. Hostility, however, is
beginning to break down, with the growing awareness in the United
States that a community of interest exists among them.
-- Industrial organization. US industrial advances and technological
gains depend far more on innovations by small and medium-sized
firms than in Japan, where huge, well-established conglomerates
seek to play the same role.
-- Emphasis on welfarism. Both Europe and Japan are more inclined
than the United States toward preserving internal social stability-
-e.g., by providing income maintenance--and toward cushioning their
industries against disruptive change--e.g., by cartelizing or
nationalizing enterprises in distress. European countries work
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mainly through regulation, such as laws that restrain layoffs,
while Japan adheres to less formal practices, such as the
institution of "lifetime employment." Japan's pursuit of social
stability policies has also been an important factor in insulating
the Japanese domestic market from foreign competition.
-- Methods of investment financing. US firms are heavily dependent
for investment capital on corporate profits and equity financing,
while other industrial countries--most notably Japan--rely more on
a high rate of consumer saving as a source of investment funds.
Whether the notoriously low US rate of private saving has become a
serious impediment to future US growth, as is now widely claimed,
is not clear. Historically, the US savings rate has always been
low.
These divergent institutional approaches and practices do not add up to
any coherent explanation of why industrial countries differ in the degree and
quality of their economic dynamism and adaptability. It seems, rather, that
the variations among them are attributable to some quite fundamental
factors. For the United States, its very high degree of flexibility rests on
an uniquely broad-based economy, a great diversity of political institutions,
and a relatively unimpeded flow of labor, capital, and know-how. Japan's
adaptability springs largely from its social homogeneity that permits a strong
consensus among interest groups. European countries vary considerably from
one to the other, but collectively their societies exhibit less resilience and
greater resistance to change, largely as a matter of social culture and
tradition, including lingering class hostilities and broad adherence to
socialist principles.
The fact that the US economy exhibited great adaptability in coping with
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change during the difficult decade of the 1970s, should give some comfort that
it will adjust equally well to the stresses of the 1980s. The much-touted
adjustment process, however--like the "unseen hand" of the market place--is
invisible and unpredictable. Confidence in its efficacy, thus, is essentially
an act of faith. For economists and public policy activists, however, faith
is a rather shaky foundation. Fortunately, there are other, more tangible
factors at work that bolster the proposition that the US economy should be
doing quite well by the mid-1980s.
US Economic Resurgence
The high degree of flexibility and resilience that characterizes the US
economy will be bolstered by a number of developments that should help to
enhance the level of economic activity. Among these are:
-- In the important energy area, the United States has an enviably
rich resource endownment and will be tapping these resources with
unprecedented intensity. Already, as a result of technological
breakthroughs in exploration and extraction and record drilling
rates, the decade-long decline of the nation's oil reserves has
been arrested and, since 1980, reversed. Also, given its
relatively high per capita energy use, the United States has great
potential for further conservation gains. If soft oil markets and
sagging prices persist, these favorable developments will be
slowed, but real energy costs are likely to remain high enough to
maintain the momentum of development of abundant US coal resources
and of conservation.
-- Capital spending, long repressed by uncertainties about future
market demand, should surge once the economy turns up and interest
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rates decline. The tax incentives already in place could even lead
to a capital spending boom.
-- The present attractiveness of the US economy to foreign investors
is likely to outlast a decline in interst rates. European
apprehensions about political instability, stimulated especially by
events in Poland and concern over domestic economic weaknesses, are
likely to sustain the present large flow of equity capital to the
United States. The Japanese, for their party, are already
beginning to invest increasingly in the establishment of plants in
the United States to assure market access in the event of US trade
actions. The continued flow of foreign investment capital into the
US economy will benefit the economy not only through job creation
but also through increased competition and enhanced absorption of
innovations in technology and management.
-- Demographic trends will induce the US economy to place greater
emphasis on labor saving rather than the job creation it pursued in
the 1970s. A shrinkage of new entrants into the labor force is
already underway and will persist through the decade. Because this
decline comes earlier and is more pronounced in the United States
than in Europe, the United States will be in a better position to
reduce unemployment and increase productivity. Gains in
productivity will also result from this demographic trend because
the average worker will be more experienced.
-- The service sector, which now accounts for more than 70 percent of
the US labor force and for almost 90 percent of its growth, is a
highly dynamic factor both in the United States and in the world
economy. Indeed, a service transformation is taking place in the
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US economy, in which a new set of linkages is being established
through the growth of "intergrative services" that interconnect
firms, units of firms, and industries at different stages of
production or in different locations. The distinction between
goods and service industries is increasingly breaking down, as the
two aspects merge with each other. The most dramatic expansion is
now taking place in this integrative part of the service sector,
that combines high technology with management/marketing know-how.
In this "information economy" that marries computers and
communications and that includes "software" of all types and a
great variety of financial and diagnostic services, the United
States is uniquely strong. It should be able to take excellent
advantage in the 1980s of the lead-it already enjoys in this
rapidly expanding global market.
-- The US performance on the frontiers of technology should continue
to be highly creditable, even though its earlier across-the-board
preeminence has been at least selectively whittled away, as Western
Europe and Japan narrowed the technology gap. But the challenge
mounted by America's major industrial competitors is not
overwhelming. The remarkable Japanese technology drive in some
well-selected areas has forced US high technology industry--which
had long felt secure in its dominance--to take foreign competition
seriously. Major US firms are now developing strategies to capture
leading positions in new areas and to regain market shares where
they have slipped. The Japanese, for their part, will find it
increasingly difficult to move from improving on and applying the
inventions of others to developing epoch-making innovations that
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make possible whole new industries. They will also find it
extraordinarily hard to replicate their innovative successes that
have been concentrated in a few areas, across the much broader
spectrum of technological activity that characterizes the United
States. Finally, a major stumbling block for Japan will be the
tough problem of moving from innovation in discrete areas of
production to the integration of hardware and software into a
customer-tailored service package. The 64K RAM chip success story,
for example, may have been dramatic as a single accomplishment, but
it represents only a speck on the large canvas of the computer-
based knowledge industry.