The new role of the state and the emergence of the development paradigm

The emergence of an official development cooperation agenda also required a change in the economic role of the state. First, wealthy states had to have the capacity to collect significant amounts of tax. Second, they had to have the will and ability to spend some of these taxes on systematic aid to independent poor countries. Third, they had to expect that such aid would help to generate development; that is, a development paradigm was needed.

On the eve of WWI, these conditions were not yet in place. Although the Great Powers were already preparing for war, the average tax intake had only increased to 12 per cent of gross domestic product (Tanzi & Schuknecht, 2000, p. 5). These relatively low tax revenues reflected the limited economic role played by the 19th-century liberal state during the rise of the capitalist industrial system. This was the heyday of the “night-watchman state”, which focussed on reinforcing law and order and the protection of property rights and which flourished mainly in the United Kingdom (UK). This typical liberal state contributed little to education and practically nothing to health, pensions and other social issues. Even large infrastructure projects, such as railways, trams and metros, were undertaken by the private sector. This kind of state was not in a position to handle loans or investments, let alone systematic aid to other states. Economic relations among countries were also mostly a matter of private trade and investment, and even colonial ventures were often entrusted to private companies (e.g., the East India Company).

The state itself usually stepped in only to defend its nationals’ property rights when in danger, thus extending its night-watchman role to other countries such as weak Latin American ones that were easy to manipulate (Halperin Donghi, 1969; Lajous Vargas, 2012). Spending of a social or humanitarian nature, which would today be considered domestic or external aid, again came mostly from the private sector, either individuals or non-governmental organisations including foundations, which began to appear during the 19th century.

The transformation of this night-watchman liberal state into the interventionist state of the mid-20th century was driven by two factors: (1) the need to tackle the inherent social instability of industrial capitalist societies and (2) the perceived need to use the state as an instrument not only to stabilise economies but also to foster economic development and growth.

As Karl Marx argued, the emerging industrial capitalist system of the 19th century relied on historical processes that moved workers away from their traditional means of subsistence (agriculture or artisan crafts) and transformed them into wage-earners in factories and other establishments (Marx, 1976). As Karl Polanyi observed, however, this system made no provision to protect them from the vagaries of the market, which, although supposedly “self-regulating”, was in fact quite unstable (Polanyi, 1944).

The combination of this market-based industrial system with the night-watchman liberal state produced massive agglomerations of wealth in the midst of unemployment, destitution and dislocation, phenomena described by 19th-century authors such as Charles Dickens and Friedrich Engels. Such a productive but inherently unstable social system could hope to survive in the long run only if the state stepped in to protect the masses against this massive “market failure”. To survive, industrial capitalism needed not a liberal but a social state.

The foundations of this new type of state were laid during the interwar period.

Pressured by rising socialist parties throughout Europe, and in some cases by paternalist traditional forces, governments had slowly begun to increase social spending in the late 19th century. This trend was accelerated by the impact of WWI, “which changed forever the contract between citizens and subjects, and the governments that ruled over them” (Clavin, 2013, p. 13).

It was further cemented in the 1930s with the measures that rescued the capitalist system from self-destruction during the Great Depression. These came in four different forms: the New Deal in the US; the Popular Fronts and labour governments in Western Europe; fascism in Germany and Italy;

and more interventionist states in Latin America. The economic historian Peter Temin refers to these movements as “socialism in many countries”, for in different ways, they all went against the grain of the liberal state, and involved, in varying doses, strong state intervention: planning, budget deficits, spending on new social programmes and industrial policies, protectionism and infrastructure investment (Temin, 1989; Thorp, 1984).

The foundations of the welfare state that took shape after 1945 were laid in the 1930s. Once the state had accepted that generating aid for its own citizens (by redistributing tax income) was one of its basic duties, the notion that it also could and should do so for citizens of other (developing) countries could take hold. Only a social state could assume a development aid agenda.

The second driver of greater state intervention was of a “developmental”

nature. From the mid-19th century onwards, states actively began to support

economic growth (a) to boost their geopolitical power and (b) to foster what came to be known as development.

Industrial capitalism emerged during the heyday of the “Great Power system”, the competitive pattern of international relations that emerged from the Peace of Westphalia in 1648. As this new economic system began to demonstrate its astounding capacity to generate wealth, the link between economic and military power, which had always been important, became even more crucial. The strong independent states that fell behind in generating industrial capitalism risked falling behind in the international political arena as well.

Generally speaking, industrial capitalism flourished as an endogenous system in Western European and North American countries, which by the early 19th century had already developed a network of market institutions (Pollard, 1981). But in countries that lacked this institutional framework, the challenge was much greater. If these latecomers wanted to protect their sovereignty and evade the fate of the weak, they needed an active state;

the lean and liberal night-watchman state that was believed to support the smooth functioning of a self-regulating market would not do. As Alexander Gerschenkron suggested, the larger the market-friendly institutional gap, the larger the development role that the state was expected to play to close it (Gerschenkron, 1962). In reaction to the humiliation inflicted by Western powers, Japan, during the 1868 “Meiji Restoration”, was the first country to implement successfully a large-scale institutional transformation from above to foster industrial capitalism. Late tsarist Russia, humbled by the West and then humiliated by Japan in the Russo-Japanese war of 1904-1905, followed a similar path, though it used the state not only to create institutions but also to manage large chunks of the economy directly (Gatrell, 1986). The Soviets, as we shall see, would go much deeper.

While aspiring strong states turned to dirigisme, established strong capitalist ones, as well as weak independent and colonial states, generally continued to be night-watchman liberal states up to the 1920s. As we have seen, the Great Depression marked the end of these laissez-faire governments and paved the way for more active social and developmental states. This was also true in weak countries. Although the latter had little to do with the outbreak of the crisis, they were particularly hard-hit. Operating within the liberal creed of

“comparative advantage”, weak countries had developed one-dimensional economies heavily dependent on the export of a few commodities. As the recession expanded, commodity demand and prices plummeted, and their

populations were left in misery. These countries were thus ready, and in a way forced, to embrace heterodox public policies and ideas (Thorp, 1984).

In the historical context of the Great Depression, the first building blocks of what later came to be the development paradigm and a new branch of economics, namely development economics, came into being. Policy-makers and economists, influenced by John Maynard Keynes and/or the ongoing statist experiments in different parts of the globe, were arriving more or less independently at similar conclusions. Many came from the weak independent states of Eastern Europe and Latin America (Love, 1966;

Arndt, 1987; Rist, 2007). They all started from the same basic idea that economic liberalism had failed to realise its promise, particularly in “weak”

or “small” countries, which they began to label underdeveloped – a shift in terminology that classified countries according to their socio-economic profile rather than their geopolitical power. In their view, the state – rather than the market – should be the driving force towards development, which was now increasingly equated with industrialisation.

This new paradigm of state-led import-substitution industrialisation, which became dominant in the first decades after WWII, was by nature more receptive to the concept and practice of official development aid. In the liberal creed, from Adam Smith to Alfred Marshall, the inflow of foreign private capital played an important role in spreading market relations and wealth – a view backed by the historical experience of the US, among other countries. In this view, there was no room for systematic public development aid as different from humanitarian aid because (1) free markets were considered as allocating private capital efficiently not only within countries but also among them and (2) because night-watchman liberal states were not geared to give or receive development aid systematically. Indeed, in the liberal view, aid distorted markets (and politics) and was therefore more likely to harm development than to promote it (Bauer, 2000). In contrast, the new statist paradigm argued that underdeveloped countries suffered from a lack of domestic savings and hence needed foreign capital to supplement them. The market by itself, however, was unlikely to attract enough foreign investment. Even if it did, foreign direct (and indirect) investment did not always produce good development results. As a result, official aid was needed to counteract all these market failures (Griffith-Jones & Sunkel, 1986). In sum, the emergence of a developmental state and a development paradigm prepared the way for the eventual emergence of an aid system.