Week 4 Essay

George Giannakopoulos
Word count: 1052

The post WWII economic expansion that took place between the 1950s-70s,
constitutes the Golden Age of modern Capitalism. In this 20 year period,
unprecedented economic growth was accompanied by a constant rise in productivity,
employment levels close to full capacity and acceptable inflation rates. Two distinct
sets of drivers have been identified: exogenous forces that invigorated the outlook of
capitalist economies and the institutional background that allowed the full utilization
of their capacities. In this essay, I support the claim that institutional background was
the determining force, while the exogenous factors had merely a facilitating role
during the process.
Catching up and technological convergence are the two terms that best depict
the positive economic shocks experienced by the recovering European States, in the
aftermath of WWII. The European Nations, with the encouragement of the US, were
quick to incorporate the new production methods in their industries. Methods of mass
production, new materials and advanced logistics, greatly increased labor
productivity. In addition to the technology transfer, the replenishment of capital stock
from its below equilibrium trend (Temin 2002), and the transition from agriculture to
manufacture (ibid.) further vitalized the economy.
Nevertheless, these exogenous factors provide a partial interpretation of the
phenomenon. More specifically, while they are able to interpret a general rise in
productivity in all European States, they fail to explain the different trajectories that
countries followed, that is to say the different degrees in which they utilized these
positive exogenous shocks. This is the point where the institutional component of
economic activity comes into play. It has been underscored by prominent authors
(Eichengreen 1996, Olson 1996) that institutions, both domestic and international,
provide us with an explanation for the rise and the decline of the postwar growth.
Despite the distinct starting point in their analysis Olson claims that the old grid of
entrenched special interests had been eradicated by the war while Eichengreen detects
a linear continuity in the postwar institutions, they both agree that an exceptional mix
of institutions and norms was present at the time.
A brief account of international institutions and a more extensive analysis of
domestic institutions follows: International Institutions had a dual purpose. Their
main task was to facilitate the openness of international trade by removing trade
barriers and keeping exchange rates relatively stable, while at the same time they
monitored the cooperating parties for reneging on their duties and enforced the rule of
the treaties. Their actions made export-led growth possible, as nation states could now
focus on their respective comparative advantages without being limited by the size of
their domestic markets. Therefore, the external conditions were arranged in a way that
allowed individual nations to perform at the most efficient way. It was up to them to
arrange their domestic affairs in a way that would make that possible.
Week 4 Essay

The regulation of the domestic economies in the postwar era was conducted by
the domestic institutions. Empirical studies (Crafts 1996, Eichengreen 1996) indicate
that the most effective arrangement was that of neo-corporatist institutions. The finest
examples of such institutions were met in countries such as Germany, Austria and
Netherlands, where there was established a regime of mutual understanding between
labour and employers. The understanding was the following: The workers would
settle for lower wages in the present, in order to drive down the production costs and
increase the competitiveness of the domestic industries. In exchange, the employers
pledged to re-invest their profits in order to increase investment and boost
productivity, which would respectively lead in a future increase in wages and would
also sustain employment close to the economys full capacity. Mutual Agreements
such as these are characterized by dynamic inconsistencies (Eichengreen 1996), in a
way which often resembles the Prisoners Dilemma. Although both parties, in the long
run, would be better off if they stuck to the agreement, in the short-run they have
incentives to renege. In the postwar settlement it was the role of the state authority to
make these pacts credible, by coordinating the actors, resolving information
asymmetries and providing incentives against shirking.
The coordination took place mostly by centralized bargaining in sectoral level, in
order to achieve agreements between encompassing parties and resolve issues related
to Collective Action. The information asymmetries were resolved with co-
determination, i.e. workers representatives were present at the directors boards of
major firms and monitored the rate of re-investment of profits. The issue of
countering shirking was more convoluted. The governments tried to form a bond
between workers and employers and rendered the dissolution of this bond costly for
both parties. To achieve this, states promoted a form of welfare state linked to growth,
while at the same time subsidized firms as long as they kept their end of the bargain.
It is evident that, this nexus of institutions established after WWII allowed to
the countries that utilized them more efficiently, to experience high investment rates,
increased productivity (hence higher wages), favorable terms of trade and
consequently export led growth. On the other side, countries that abstained from the
opening of trade (Ireland), or were experiencing fragmented industrial relations (UK,
Belgium and France) were laggards, despite the positive external shocks that they
were experiencing.
Thus, it is now possible to extract a conclusion on whether the exogenous
factors or the institutions were the drives of economic growth. In my understanding,
the rate of investment was the catalyst of growth. In any given time, present
investment is a function of the expectations investors had in the past for the returns of
their investment. Exogenous factors facilitated in many cases a high return of
investment, but in other cases such as in UK or Belgium, institutional rigidities forbid
the realization of rapid growth, despite the general positive outlook and the enabling
shocks in the economy. The reason behind this paradox is that problems of collective
action rendered these economies unable of either assimilating foreign technology or
preserving their external competitiveness, as they were experiencing upward wage-
prices spirals. Institutions were the determining drivers that allowed the efficient use
of existing resources and the successful adjustment to external shocks. Europes
Week 4 Essay

Golden Age is the result of the institutional framework that was prevailing at the time,
and the compatibility that this framework had with the contemporary conditions.
When this compatibility came to an end, the decline of the era of growth started.

Bibliography

Crafts N. (1996) Postwar growth: an overview In Crafts N. and Toniolo G. (eds.)

Economic growth in Europe since 1945, New York, Cambridge University Press

Eichengreen J. Barry (2008) The European economy since 1945: coordinated

capitalism and beyond

Eichengreen J. Barry (1996) Institutions and economic growth: Europe after World
War II. In Crafts N. and Toniolo G. (eds.) Economic growth in Europe since 1945,
New York, Cambridge University Press

Olson M. (1996) The varieties of Eurosclerosis: the rise and decline of nations since
1982. In Crafts N. and Toniolo G. (eds.) Economic growth in Europe since 1945,
New York, Cambridge University Press

Temin P. (2002) The Golden Age of European growth reconsidered European

Review of Economic History 6 (1): 3-22