How Capitalism Will Save Us

Power Ambition Glory
(coauthored with John Prevas)

Flat Tax Revolution

A New Birth of Freedom

To the millions of individuals whose energy, innovation
,
and resilience built the Real World economy
.
Their enterprise, when unleashed, is always the answer
.

H
as capitalism failed? The events of the last few years have left Nicolas Sarkozy, Arianna Huffington, the
Washington Post
, and countless others ready—some might say eager—to write the obituary of our free-enterprise system. Even to those who aren’t declaring its demise, capitalism has seemed on the verge of cardiac arrest. The economy has been roiled by one catastrophe after the next: the failure of financial institutions, the housing-market meltdown, a roller-coaster stock market, decimated 401(k)s, high unemployment, obscene CEO pay, and massive corruption.

As the crisis deepened in late 2008 and early 2009, Wall Street “greed” was blamed daily for the near implosion of the world financial system. Business executives were interrogated like criminals at congressional hearings. For a time, grim economic forecasts and job losses seemed endless. To many people, such events provided proof that “unfettered” markets produce just instability and devastation.

The economic crisis that began in the summer of 2007 produced a momentous crisis of confidence in our free-enterprise system.
Capitalism
and
free markets
suddenly became dirty words. Paul Krugman, the Nobel Prize-winning economist and
New York Times
columnist, ever critical of free markets, seemed to reach an entirely new level of indignation when he excoriated Wall Street for being a “Madoff economy” whose executives are little better than monster Ponzi schemer Bernard Madoff.

Even the faith of some of capitalism’s best-known adherents, including former Federal Reserve chairman Alan Greenspan, had been shaken. A well-known supporter of markets whose friend and early mentor was the late libertarian thinker Ayn Rand, Greenspan testified before Congress in 2008 that he should have done more to regulate the financial system, whose breakdown was bigger than anything he could have foreseen: “Those of us who have looked to the self-interest of lending institutions to protect shareholders’ equity (myself especially) are in a state of shocked disbelief.”
¹

Indeed, the gloom seemed readily justified. In the fourth quarter of 2008 and again in the first quarter of 2009, the U.S. gross domestic product (GDP) declined around 6 percent—back-to-back declines not seen since the late 1930s. The contraction was worldwide. In the first quarter of 2009, Japan’s GDP plunged an astonishing 9 percent. Germany’s crashed 7 percent. Emerging economies were also hard-hit.

It was easy to see how all of this could rattle Greenspan and others. For many, massive spending by both the Bush and Obama administrations on a succession of corporate bailouts underscored the growing perception that the private sector had collapsed. Billions of dollars from the Troubled Asset Relief Program (TARP) and other sources were pumped into banks and insurance companies like AIG, once deemed “too big to fail.” Several of the nation’s leading financial institutions were nationalized in all but name. Then came the auto bailout and the government-forced bankruptcies of General Motors and Chrysler. The
Wall Street Journal
’s banner headline “GM Collapses into Government’s Arms” did not merely convey the humiliating fall of a once-great company. It seemed to suggest, beyond all doubt, that the private sector needed to be “rescued.”

By early 2009, the boundless “irrational exuberance” of recent decades had been replaced by despair that seemed as bottomless as the
ever-sinking Dow Jones Industrial Average. People wondered: What was going on? Could the free-enterprise system have been truly responsible for the near collapse of the American economy?

Noted legal scholar, author, and federal judge Richard Posner wrote that the crisis and the economy’s subsequent “descent into depression” was “a failure of capitalism”—the title of his book. He predicted that the meltdown would result in a modified, more heavily regulated version of our current system—free enterprise, only less free.

Time
magazine columnist Justin Fox, author of
The Myth of the Rational Market
, resolutely insisted that a sea change was taking place: the idea that “financial markets can be relied upon to get things right,” he claimed, had been discredited even among its one-time adherents. The long-standing view of markets as “rational” was not only wrong but “dangerous.”

Are they right?

We originally decided to write this book before the financial crisis, in the summer of 2007, to address the misunderstanding—and frequent hostility—to our system of democratic capitalism expressed by so many affluent, educated people. As we will discuss later, the economist Joseph Schumpeter observed this irony: that the “capitalist class,” which benefits most from free enterprise, has a tendency to “turn against its own.”
²

The financial crisis reached gale force in the fall of 2008. Not only did it amplify classic doubts about our system, but the disaster had been caused to a very great degree by those very misunderstandings, which had shaped many bad government policies.

In her classic novel
Atlas Shrugged
, Ayn Rand famously depicted how this takes place. The public and policy makers blame government-created economic devastation on “free markets” and then pile on still more regulations that only worsen the damage and further increase the blame and recriminations.

This book will illuminate the underlying principles of democratic capitalism that even people sympathetic to free markets can be at a loss to explain, in addition to addressing concerns raised by the worst economic crisis of the past seventy years.

Today’s rage is anything but a new phenomenon. Capitalism has received a bad rap since before the days of Karl Marx. During troubled economic times, the natural impulse is to hold someone responsible.
Throughout history, private-sector “villains” have been pilloried during periods of economic turmoil—from the “evil bankers” who supposedly caused the real-estate bust of the 1830s, to the “speculators” blamed for the 1929 crash and the Great Depression, to the “predatory lenders” and “hedge-fund billionaires” accused of causing the financial crisis and “Great Recession.” This book will show that such perceptions, though understandable, are almost always misguided.

We all know the Rap on capitalism: That it is fundamentally greedy and immoral. That it enables the rich to get richer at the expense of the poor. That open markets are Darwinian places where the most ruthless unfairly crush smaller competitors and where the cost of vital products and services like health care and energy are almost beyond the reach of those who need them. Capitalism has also been blamed for a range of social ills—from air pollution to obesity.

Not only have educated, successful people bought into capitalism’s bad Rap, but the Rap is taught in our schools. It has molded the thinking and analyses of our most influential opinion leaders, writers, thinkers, and policy makers of both political parties. Long before the stock market meltdown, before AIG executives and automotive CEOs were being tarred and feathered by Congress, Democrats and Republicans alike regularly blamed “overpaid” executives and “Wall Street greed” for the problems ailing America’s economy.

Antibusiness bias has long been rampant at our top universities, where Marx occupies iconic stature, where free-market thinkers are seldom taught—and where careers in nonprofit sectors like academia or the arts are widely regarded as morally superior to those in “money-grubbing” private industry. The Rap is pervasive in the entertainment industry. Scheming business executives are a favorite villain in the story lines of television and motion pictures—ranging from films like
Erin Brockovich
to TV programs like
Dirty Sexy Money.
³

Even some of capitalism’s leading beneficiaries have bought into the Rap. Warren Buffett, number two on the 2009 annual
Forbes
list of world billionaires, has asserted that his wealth as the world’s most successful investor is “disproportionate.” At the World Economic Forum in 2008, Bill Gates called for, in the words of the
Wall Street Journal
, a “revision of capitalism.” Gates told reporter Robert Guth that he believed that the fruits of
capitalism—i.e., advances in areas such as health care, technology, and education—were not reaching the world’s poor and primarily helped the rich.

Capitalism’s bad Rap has helped to shape a lot of bad economic policy. People who believe it look to government to “create jobs,” whereas the most powerful job-creating machine has always been the private sector. They believe that the best way to generate more revenues for government is through raising taxes on the so-called rich and on “profit-hungry” corporations. Yet history shows, time and again, that punishing the entrepreneurs and businesses that create jobs and capital is a sure route to economic devastation, while lowering taxes—not with one-shot reductions that politicians like, but by substantially cutting rates—is always the best economic stimulus.

Thanks to capitalism’s bad rap, people bash big private-sector companies like Wal-Mart for supposedly excessive “market power,” while they are blind to the massive market power of government and its role in today’s economic disasters.

The two biggest examples: the central role of government-created mortgage behemoths Fannie Mae and Freddie Mac in the subprime-mortgage meltdown and financial crisis and the mammoth impact of giant government insurers Medicare and Medicaid in shaping today’s dysfunctional health-care market.

Partly because of the Rap on capitalism, many people today are convinced that the way to economic health is protectionist policies that supposedly preserve jobs—when such policies have been shown, not only in the United States, but in nations around the globe, to be job killers.

The emotionally charged rhetoric of the Rap has precluded a clear-eyed understanding of the fundamental principles of economic behavior. People don’t understand, for example, how markets work in the Real World or, for that matter, how wealth is created. They believe “wealth” is solely something “greedy” rich people make for themselves—when it is also the source of the capital that is invested in new businesses that create jobs.

The drumbeat against “greed” and “free markets” on the part of the media and politicians has also served to prevent a clear understanding of just what really constitutes a “free” market. Thus, people blame
capitalism for economic disasters such as the mortgage meltdown and the astronomical cost of health insurance—when they have in fact been caused by government not allowing markets to function.

Because of the Rap, people are blind to the Reality—that far from having failed, democratic capitalism is the world’s greatest economic success story. No other system has improved the lives of so many people.

The turmoil of the past few years by no means mitigates the explosion of prosperity that has taken place since the early 1980s, when President Ronald Reagan enacted promarket reforms to free the economy from the Carter-Nixon stagnation of the 1970s. Those reforms—lowering tax rates and loosening regulations—unleashed job-creating capital. The result: a roaring economy that produced a flood of innovations—from personal computers and cellular phones to the Internet.

Indeed, we may one day look back on the period of 1982 to 2007 as an economic golden age. Many conveniences we take for granted today—from automatic teller machines and DVD players to home computers and CAT scans—did not exist or were not widely used as recently as the 1970s and early ’80s. It’s not just that we have more and better gizmos. All you have to do is watch an old movie from the 1970s. Even when the past is glamorized by Hollywood, it’s obvious—looking at everything from appliances to cars to homes—that living standards back then were lower. We’ve come a long way. Not only “the rich” but people of all incomes today are doing better.

No system has been as effective as capitalism in turning scarcity into abundance. Think of computers. Forty years ago, only business and government could afford the old massive mainframes. A single machine filled an entire room. Today the BlackBerry device in the palm of your hand has even more computing power than those old machines.

Thanks to capitalism, Americans as a nation are living dramatically better and longer than they did at the beginning of the twentieth century. In
The Greatest Century That Ever Was: 25 Miraculous Trends of the Past 100 Years
, noted economist Stephen Moore and the late business professor Julian Simon make the powerful observation that since the early twentieth century, life expectancy has increased; infant mortality rates have fallen tenfold. Major killer diseases—from tuberculosis to polio, typhoid, and pneumonia—have in most parts of the world been, if not eradicated, drastically reduced; agricultural productivity has soared. The environment
is also cleaner in many parts of the world. Air quality has improved about 30 percent in American cities since 1977.

Not only that, Moore and Simon write, “the affordability and availability of consumer goods have greatly increased. Even most poor Americans have a cornucopia of choices that a century ago the Rockefellers and the Vanderbilts could not have purchased.”
⁴

Until the credit crisis, tens of millions of people a year worldwide were joining the middle class. Between 2003 and 2007, the growth of the American economy alone
exceeded the size of the entire Chinese economy
. We grew the equivalent of China in four and a half years. China’s growth rates are higher—but they’re coming from a much smaller base.

Free-market economic reforms—especially since the fall of the Berlin wall—have brought an unprecedented explosion of wealth to India, China, Brazil, and nations in central and eastern Europe as well as in Latin America and Africa. Capitalism has helped to usher in an era of wealth and economic growth that failed foreign-aid programs since World War II were never able to accomplish. In China, for example, over two hundred million people now have discretionary income. The country has a burgeoning middle class. The current recession should be seen historically as an interruption, not an end, of this extraordinary economic expansion.