Shock therapy vs. Gradualism
Hard economic conditions call for a fast course of action. A country can choose to use shock therapy or gradual reforms to revive the economy. Shock therapy entails immediate, dramatic changes in the economic policies resulting in free-market economy. It was notably applied in the Central and East Europe. This technique deals with issues caused by drastic instability in the economy such as extremely high inflation rates, budget deficits, and other impacts of market controls. Notably, shock therapy focuses on stimulating economic growth by reducing unemployment levels in a country and raising the standards of living. On the other hand, the Asian gradualism approach is a method that applies specific strategies to gradually achieve certain economic goals (Rohác 66). This method consists of a development plan with short-term goals that contribute to the overall expected accomplishment. According to some economists, gradual reforms create stability in the company and achieve many economic goals than shock therapy. However, shock therapy is better than gradualism since it results in long-term economic and social benefits thereby developing the economy.
Shock therapy involves privatization which is a tool for increasing the size of the private sector. Privatization is the process through which the government operations, business entities, or properties are transferred to private and non-governmental parties so that they can manage them. The role of the government in the public sector is to facilitate efficiency in business by providing standardized rates of inflation, prices among other economic components. Privatization leaves the government with less control over these factors and the decision-making is entirely done by the private owners (Alam, Nguyen, and Majumdar 5). Not only does privatization affect private sector but also the national markets since it is the initial step of marketization process. Additionally, the government can facilitate privatization by loosening policies that restrict investors in private sector from engaging in business with public entities. Therefore, as compared to gradual reforms, this process transforms the public sector and restructures the private zone in a short period of time. Since many investors in the private sector are small-medium enterprises (SMEs), the process encourages establishment of more SME thus increasing job opportunities in the country. The expected result of this process is increased in size of the private sector since many institutions and operations of the government are under the management of individual owners.
Moreover, shock therapy allows trade liberalization thus increasing operations with other countries. One of the policies associated with this model is opening the country to international economies to exhaust business opportunities in other nations. Trade liberalization involves eliminating trade barriers such as duties, tariffs, sub-charges, licensing policies and rules and taxes on goods traded between various countries. Reflecting on privatization, marketization process is mostly formulated by the private sector. Hence it is possible that privatization in the shock therapy model leads to trade liberalization. When the government increases the size of the private sector, it empowers the individual investors who have visions of expanding their businesses. Privatization without macroeconomic liberalization would lead to more issues in the country since most of the consumable goods and services are provided by the private sector (Marangos, 945). From an economist perspective, privatization will increase the cost of goods and services in a country since there are insufficient public goods and provisions. Therefore, the government has to implement spontaneous policies to prevent these problems. It opens the country to international markets to balance microeconomic and macroeconomic environments. The private investors are able to sell their products and services to other countries and import goods at a low price thus increasing their profits. As a result, the country’s markets are stabilized.
Similarly, the shock therapy model provides solution to high prices during the hard economic times. The steps in the models are subsequent and are implemented to benefit the economy and deal with the disadvantages of the initial step. After the process of privatization has taken place, there will be rapid increase in the prices of goods and services because there will be insufficient government provisions that are used to control prices of goods (Marangos, 953). The private sector can price their goods and services highly to ensure faster gains from the economic situation. However, the government’s action of introducing trade liberalization helps in increasing the flow of money within the country. When many people are involved in business and foreign investments, there will be free flow of funds in the capital markets. In economics, when there is flow of money from households to capital markets, the prices of goods are at equilibrium since many people have the purchasing power. Enterprises are guaranteed that there will be customers therefore; they put the prices at equilibrium where the value of the goods equals the price. Ultimately, transition of prices in the shock therapy model balances the inflation rates in the country.
Correspondingly, as compared to gradualism, this model prevents opposition to the economic reforms by political leaders. Economic issues are always politicized particularly in developing countries (Marangos 963). Each political leader wants their reforms to be implemented since there are some expected gains. Politicizing economic problems contributes to the worst situations in the economy of the country. When the government adopts the shock therapy model, it hinders the individuals who might have own interest from manipulating the process. The model establishes all the reforms at the same time and within the shortest time possible. This ensures a smooth process and analysis of results generated from every policy. As a result, the process produces beneficial economic and social outcomes that benefit the citizens of the specific country.
Although the shock therapy model has more social and economic benefits as compared to gradualism, it has been criticized because of the effects seen in the economies of countries in Central and East Europe (CEE). Since the countries had adopted the model after the recession in 1990s, it was assumed that it contributed to the 2008 Great Recession which started in America. However, according to some statistics of the economic components of these countries, it is evident that the model was not the key driver of the economic fall. In fact, the policies which had been implemented during that time had helped the nations in increasing their production which reflected in the Gross Domestic Products (GDP). For instance, the GDP for most of the CEE countries had shown an upward trend from the recession in the 1990s (Alam, Nguyen, and Majumdar 4). In a particular research, the drastic reforms in the CEE states were linked with a very small fall in output. Thus the CEE economic reforms in the initial years before the Great recession had enabled the countries to revive their economies from the previous crisis. This proves that the shock therapy model is effective in reviving the economy of a country involved in a deep economic crisis.
Equally, privatization has been objected to bringing benefits to the economy. Some economists argue that it brings standstill position and decapitalisation of companies. Since privatization does not guarantee ownership of the business entity or institution, the expected owner may be limited from developing the company. As a result, delay in the operations of the company slows the overall growth of the country. Nonetheless, this only happens in countries where economy has been politicized and the leaders are concerned with staying power. In countries where there is stable government, privatization brings positive effects to the state’s finances. A stable nation allows established institutions that lead to faster completion of privatization process. Indeed the procedure improves the productivity of small-medium enterprises which are many in the private sector (Rohác 72). By increasing the size of the private sector, more job opportunities are created. Therefore, unemployed people are able to secure jobs thus reducing the unemployment levels in a country. Low unemployment rates are associated with increased economic growth since many people can earn an income. The individual earnings increase the purchasing power of consumers thus enhancing trade which generates government revenue.
Correspondingly, the shock therapy model has been associated with short-term negative effects which a country can be unable to bear thus lead to future problems on the economy. The model incorporates faster course of actions in the economic environments to increase productivity of the country. The swift implementation of reforms is expected to cause instability and negative impacts since the country is not ready for all the changes at once. Furthermore, various economic analysts have argued that the rapid reforms lead to more problems since the country is in a lot of economic stress at the time. Nevertheless, the immediate negative impacts are gradually overturned by the many benefits associated with the model. For instance, findings showed that Estonia and Latvia experienced a low GDP between 1990 and 1994 which was at the start of the implementation of the model (Alam, Nguyen, and Majumdar 5). However, this trend changes in the following years where the GDP steadily rises. Considering that GDP is determined by several factors, the increasing trend showed that the short-term depressing effects cannot cause the same effects in the long-run. Therefore, the immediate consequences of the models cannot attract future economic problems of a country.
In a nutshell, the economic crisis requires implementation of various policies and reforms to ensure revival of production. Some of the economic models can result in better social and economic benefits than others. The shock therapy model is associated with rapid reforms executed at the same time. Gradualism theory involves slow policies that are executed in stages to achieve long term goals. Shock therapy is much better than gradualism because it generates great vast range of benefits which include control of prices, market balance through trade liberalization, and reduced unemployment rates through privatization. Although it has several short term effects on the economy, the shock therapy model is able to revive the economy in a short time. Furthermore, it stabilizes the nation’s economy in the long-run. This is evident from the examples of the Central and East European countries before the Great Recession in 2008. Thus, the model is applicable to a country that wants faster re-establishment of the economy after a depression.
Works Cited
Alam, Quamrul., Nguyen, H. Thanh., and Majumdar, Namul. “Shock Therapy versus Gradualism: Central Eastern Europe (CEE) and East Asia Compared-A Review of Literature.” International Business Research, vol. 2, no. 2, 2009, pp. 3-8.
Marangos, John. “Was Shock Therapy Really a Shock?” Journal of Economic Issues, vol. 37, no. 4, 2003, pp. 943-966.
Rohác, Dalibor. “What are the Lessons from Post-communist Transition?” Economic Affairs, vol. 33, no. 1, 2013, pp. 65-77.
