No Third Way Out

info@reason.com (John Fund) — Fri, 01 Jun 1990 00:00:00 EDT

The rapid rush toward freedom in Eastern Europe has brought with it some spectacular stories of individuals who have gone from being obscure dissidents to leaders of their countries in the space of a few months. A journalist is the new prime minister of Poland. A former musician is now set to become president of East Germany. Playwright Vaclav Havel is now president of Czechoslovakia. One of the more interesting tales involves a friend of Havel's, Vaclav Klaus, now finance minister of Czechoslovakia. Klaus is an economist who became a devotee of free-market economics by reading the work of Nobel laureates Milton Friedman and F.A. Hayek. For nearly 20 years, Klaus was relegated to obscure jobs for his persistent criticism of his country's socialist system. Now he is the point man for what he hopes will be a free-market revolution in Czechoslovakia to accompany last November's successful political revolution.

Klaus has jokingly referred to himself as the "Milton Friedman of Czecho- slavakia," and he sometimes sounds more like an economist than a politician. Certainly, he could teach most U.S. congressmen a thing or two about how markets work.

Klaus is a slim, energetic 48-year-old with a dry sense of humor. He has admired the United States and its traditions of freedom and opportunity since his six-month stint as a graduate student at Cornell University in the 1960s.

John H. Fund, an editorial writer for the Wall StreetJournal, interviewed Klaus in New York in late February, when Klaus accompanied President Havel on an official visit to the United States.

Reason: Dr. Klaus, what is the message you want to bring Americans about the new Czechoslovakia?

Klaus: The message is the same for whatever group. We want a market economy without any adjectives. Any compromises with that will only fuzzy up the problems we have. To pursue a so-called Third Way is foolish. We had our experience with this in the 1960s when we looked for a socialism with a human face. It did not work, and we must be explicit that we are not aiming for a more efficient version of a system that has failed. The market is indivisible; it cannot be an instrument the hands of central planners.

Reason: At a Council on Foreign Relations breakfast you were asked about what kind of economic system you planned for Czechoslovakia.

Klaus: Yes. I told the questioner that he did not fully understand what a market economy is. I often use the line by F. A. Hayek that the world is run by human action, not by human design. To talk about planning an economic system is to talk in old terms, and I find myself sometimes having to teach Westers about what the market really means. They often don't realize that they might need a little of a market revolution in their own countries. You cannot predict the outcome of the market process; you can only set the conditions for a challenging competition.

What we want is to establish the rules of a market economy--not to plan its outcome.

Reason: How will you bring about the transition to a market economy?

Klaus: This is the key question. It is what makes the reform process an art, not just a science. You have to develop a strategy that tells you what reform measures you should follow and in what sequence.

The sequence of reforms is a legitimate question for debate, but not, I think, the speed and direction they take. I fear that our neighbors--Hungary and Poland--may be falling into what I call a "reform trap," in which partial reforms can turn out to be worse than none at all.

Reason: But you have also indicated that you think it is wise to wait on cutting subsidies for such things as rent until the June elections bring a government with a popular mandate. Is that slipping into the reform trap?

Klaus: My budget [released on March 8] will be very tough. Subsidies will be cut at least 15 percent everywhere. This government recognizes that when you are dealing with the daily expenses of people, you need some kind of mandate. Remember, no one has elected us. This is a govemment that was called in to fill a vacuum.

Reason: You and President Vaclav Havel were quoted as telling President Bush that you wanted lower barriers to trade and investment in Czechoslovakia, but not foreign aid. Why are you the only Eastern European country that is not asking for foreign aid?

Klaus: Well, of course, we are applying for admission to the International Monetary Fund. I think there are some problems with their economic prescriptions for developing countries, but it is important for us to have the kind of credit rating that IMF membership would indicate. But as for classical foreign aid, this is the last thing on our agenda. I know what it has done to other countries. For us, it would bring inflation and a certain timidity in the making of economic policy. It could allow us to delay needed economic treatments and send us into the reform trap.

Reason: Your colleague Valtr Komarek [Czechoslovakia's deputy prime minister] recently said that "If a market economy were imposed immediately on Czechoslovakia, economic agony would result." He claimed at least a third of the country's production would be destroyed. This sounds like there is a real disagreement within your government about how much of a market economy the country should have.

Klaus: It is true that the move to a market economy has to sometimes be tempered by considerations of power. I share with my colleagues a broad consensus on what needs to be done, although there are issues where I want to move faster than they. We all agree on what things should be done, but there is the political problem of selling it to the public. Privatization of the state-owned economy is not yet on the agenda. We cannot do it immediately; my colleagues would not agree to it. But we must put all forms of ownership on an equal footing immediately and let different types of ownership compete with the state firms.

Reason: Are you happy with the pace of reform so far?

Klaus: I think we have moved a good distance quickly. This week, we created a Board for the Temporary Administration of State Property that will look into selling government-owned assets. We will also allow state companies to sell shares to their workers and will pass a law allowing citizens to start companies of their own with no limits on the number of employees or on the firm's output. We will also propose a law on share-holding companies to allow foreigners to own up to 100 percent of a Czech company.

Reason: Will Czechoslovakians welcome foreign investment in their country or will they resist it?

Klaus: I had a long interview with a trade union paper on this issue a few days ago. They asked me whether I would allow a money-losing, old plant in Slovakia to be sold to foreigners. I laughed and said, "Do you know what you are saying? A money-losing, run-down plant and a foreigner wants to buy it? We should be lucky if we find a fool in the West who wants to buy it and try to make it profitable. Everyone will benefit from that, except perhaps the Westem investor." They had to agree.

Reason: Are you getting a lot of inquiries from potential Westem investors?

Klaus: We are flooded with hundreds and hundreds of requests and ideas from Westem investors. The problem is that we have no rules set up for them to follow yet. We must have the time to create strict rules so that property is not sold by Communist managers for a low price. They often get payments under the table to sell to the first bidder. This does not build public support for a market economy.

Reason: You mention that Westemers have some common misconceptions about Czechoslovakia. What are they?

Klaus: First, there was this belief that the Czechs were satisfied with communism and would not rise up as the East Gemmans and Poles did. What is not known is that there was a quiet revolution going on for months before the end of November [1989]. Civil disobedience, bureaucrats ignoring orders, soldiers resolving not to shoot at demonstrators- -the Communists had lost control before November. New thinking was going on in many places. The Westem press concentrated on the brutality of the police, which was important, but it missed the changes from below. People like me who were engaging in brinkmanship with the party economic bosses and the open dissidents who were being arrested were pursuing a common goal in different ways.

Reason: Are you getting what you consider bad advice from some Westem economists?

Klaus: Some, but only because they misunderstand the Czech economy. They think we had a classic centrally planned economy and therefore must decentralize economic decisionmaking within the govemment. But a centrally planned economy implies very powerful central planners and weak state managers of enterprises. That is perhaps how the country started in l948 when the communists took over, but now we have giant, powerful state monopolies and very weak central planners. These economic giants were almost totally independent. The task is not to give them more power, but to break them up. Our philosophy can be summed up as demonopolization. That means following a very restrictive fiscal and monetary policy which will squeeze the monopolies and cut their subsidies. On the micro level we will allow other economic agents, both domestic and foreign, to compete with them.

Reason: You and I first met at an August 1989 conference in North Carolina on competitiveness sponsored by Liberty Fund. How were you able to secure permission to attend?

Klaus: I had met Albert Zlabinger [the head of the Carl Menger Institute in Vienna] at a conference in Budapest in early 1989. He was very excited to find someone in the Eastern bloc who knew about Hayek and [Hayek's mentor] Ludwig von Mises. He gave me a list of Liberty Fund conferences and asked if there was one I could attend. I said the one on competitiveness because that would sound like something my superiors would approve.

I very much enjoyed sharing ideas with people at the conference such as Robert Poole, George Gilder, and Alvin Rabushka. That was very intellectually stimulating.

Reason: How did you first become interested in the ideas of classical liberalism?

Klaus: I was 25 years old and pursuing my doctorate in economics when I was allowed to spend six months of postgraduate studies in Naples, Italy. I read the Western economic textbooks and also the more general work of people like Hayek. By the time I returned to Czechoslovakia, I had an understanding of the principles of the market. In 1968, I was glad at the political liberalism of the Dubcek Prague Spring, but I was very critical of the Third Way they pursued in economics.

I worked in a department of the Economics Ministry that was meant to criticize non-Marxist economic theories. I was paid to read Western economic texts. In a way, the regime paid for their own undermining.

Then in 1969, I spent the spring term at Cornell University in New York. The invasion of August 1968 had already happened, but the hardline regime took several months to crack down on dissidents.

Reason: Did you remain quiet and hope the regime would not punish you?

Klaus: No, I remember very much enjoying the entries I wrote for the first Czechoslovakian Encyclopedia of Economics in 1969 and 1970. I prepared an entry on John Kenneth Galbraith that dismissed him as a social critic, rather than a serious economist. I was criticized for that. I also wrote the entry on "economic liberalism," and I enjoyed making that a dramatic and stirring attack of the role of government.

Eventually, they found me. In 1970, I was identified as the leading counterrevo- lutionary in the ministry and fired. They took special pains at my hearing to point out I was the worst one in the whole place.

Reason: What did you do then?

Klaus: I worked in very menial jobs for a while at the state bank. Gradually, the clirnate changed, and by the 1980s I was the unofficial adviser to the chairman of the state bank.

Reason: How did you come to know Vaclav Havel?

Klaus: We served on the editorial board of a literary monthly called Face in 1968 and 1969. He was a young writer, and I was also interested in broad cultural issues. We agreed on all major issues and became friends.

Reason: What was your role in the revolution of November 1989? How did you become involved?

Klaus: On November 17, the revolution began when the police beat demonstrators in Wenceslas Square. It galvanized the nation. I had been in Austria that day, giving lectures attacking government economic policy. You see, the regime already could not control its critics. I returned to the train station in Prague about 11:00 that night, unaware of what the police had done. As I walked up to my house, I met my 20-year-old son, Vaclav, Jr., coming from the other direction. He had been a victim of the evening's events and had barely escaped. He was white with fright.

We had a discussion right outside the house. "I saw you on Austrian television," he told me. "You make very good sense as a literary playboy, talking about what needs to change. But we students were beaten in the square tonight. We children did our job, and now it is the role of the parents to do somethinsg." The events in the square, of course, made a deep impression on me and many other parents. Two days later, Civic Forum [the umbrella political opposition group that overthrew the Communist regime] was started.

Reason: Were you active from the beginning?

Klaus: Oh, yes. I worked with Havel for 20 hours a day. I spoke at the main rallies. I was on the strategy committee for Civic Forum.

Reason: Offering economic advice?

Klaus: No, political advice. I also helped write the five-page statement of principles that Civic Forum issued in late November. That was the first public expression of what the new government wanted to do.

Reason: How did you become finance minister?

Klaus: I wanted instead to be head of the state bank, but I was told there was no one else who could do the job of finance minister. There is, sadly, a real shortage of human capital in the country. I have to both run the Finance Ministry now and also serve as the ministry's chief economist. It is an impossible situation.

Reason: What are your chances of remaining as finance minister or holding another post in government?

Klaus: I never intended to be a politician or office-seeker. But the Civic Forum has put me in a very visible position, and I expect that I will be in the parliament after the June elections. Whether I will be in my current job, I cannot say.

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No Third Way Out