Category: Economics
Economic Transformation

The evolution of capitalist economies is one of the most controversial issues nowadays. The discussion is centered not only on whether it is desirable or not, and what the ultimate outcome will be. There are different opinions about the essence of transformation and the role of the state as well as markets in it. The current paper deals with Polanyi’s argument about the current transformation. His ideas and their relevance to the current events will be specified.

The changes in the roles of markets and states will be examined. It will be demonstrated that Polanyi is correct in stating the following issue. The influence of both these institutions tends to increase. However, it will be proved that this correlation does not correspond to logical relationships as Polanyi contends. Moreover, different outcomes produced by markets and states will be evaluated. Polanyi’s ultimate conclusion about the necessity of separation of all social interactions into political and economic spheres as well as the neglect of self-regulating forces of the market will be criticized. Markets and the state do not lead to similar long-term economic and social effects and the prevalence of any of these factors will determine the subsequent civilization progress.

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Polanyi’s Interpretation of Transformation

Karl Polanyi presents a unique approach to examining the evolution of capitalist economies. He distinguishes two primary periods: the pre-market and market ones. He describes the current economic system as The Market Society. He proves that it is very different from the previous system. Polanyi claims that people’s behavior has fundamentally changed. In the previous periods, people relied primarily on redistribution and reciprocity. Nowadays, all social members are more rational from a neoclassical perspective. They aim at maximizing their total utility and try to choose the most efficient means to reach this objective. Polanyi states that these changes have not occurred spontaneously but have been affected by the changes in the role and functions of markets.

Previously, markets have played a secondary role in society. They were not central in determining consumer behavior as their impact on prices was minimal. Thus, people were primarily oriented on their traditions and barter relations rather than market institutions. After the transformation, people had to rely on markets because they offered unprecedented opportunities for them. However, it was possible only due to the influence of states. They changed the previous mode of production and social cooperation. They created the foundation for developing a complex industrial economy. Polanyi believes that the evolution of human nature and social institutions are mutually determined processes.

He recognizes the existence of the self-regulating essence of the market but claims the following thing. It is possible only due to the support of the state. Therefore, all examples of free-market capitalism were planned by national governments that controlled the entire process. If some changes were needed, they introduced protectionist tariffs or other restrictions. Polanyi considers economic and social spheres to be interrelated and mutually dependent. If free-market reforms try to separate social and economic issues, the necessary protectionist tendencies follow.

Polanyi explains that modern developed markets have emerged due to the influence of states. Nowadays, markets influence social life by determining prices for the majority of goods and services. Thus, consumers tend to become more oriented on their price signals and adjust their behavior accordingly. However, markets cannot expand their power without corresponding changes in society. If this balance is disturbed, people and the government use protective methods to reach the status-quo. He believes that in the long run, society will reach the stage of democratic socialism.

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Analysis of Polanyi’s Position

Polanyi is successful in integrating economic problems with broad social issues. His analysis contains a large number of unique insights and correct observations. However, his ultimate conclusions are incorrect. In order to analyze his social and economic system in detail, it is reasonable to investigate all its crucial elements. First, all economic issues are closely related to social ones. Polanyi is correct in stressing these relationships. Second, the roles of states and markets have substantially increased recently. However, it does not mean that states are necessary for the formation of markets.

They constitute social processes that allow people satisfying their needs through cooperating with each other. These interactions typically involve trade and exchange. Markets are not strictly dependent on states as they originate spontaneously in all spheres of human actions. As all people are different and have different skills and productivity, there is always an area for a mutually beneficial exchange. Even if some disputes originate in a process of trade or exchange, they may be effectively solved without state involvement. There are numerous examples in the history where private agencies or courts were efficient in fulfilling these functions.

The importance of markets tends to increase because the industrial development creates additional opportunities for large-scale exchanges. People cannot adequately satisfy their needs through barter or direct interactions. As a result, they try to find an efficient institutional framework that may help them to organize this process. It seems that Polanyi understands markets from an abstract and mechanistic perspective. In reality, these ones are the results of human interactions. They are not designed or created by any authority. Thus, the presence of states is not necessary for the markets’ functioning or their efficiency.

At the same time, it is necessary to explain the trend associated with an increase in the states’ power. As the total amount of production increases, the power elite emerges. Some groups of people try to obtain wealth not through production or exchange but through political means. It includes both a larger government’s involvement in all social spheres as well as finding corresponding social support of government expansion through the network of intellectuals.

Although these tendencies coexist, their influence on social well-being is very different. The existence of markets contributes to a more effective organization of exchange between various individuals. As a result, consumer satisfaction and the level of social opportunities tend to increase. Thus, markets are beneficial for all social members as any market transaction may occur only if it is beneficial for all its participants. The states have a very different effect on society. The state does not produce anything and receives its revenues only through expropriation from social productive members (the most widely used form of such expropriation is taxes). Consequently, consumer satisfaction does not increase as the rights of some fractions of the population are systematically violated.

Moreover, the state expropriation is beneficial only for some members who constitute the government’s apparatus or are being the direct beneficiaries through the system of exclusive privileges. It is also evident that this system may exist only if the number of beneficiaries is much smaller than the number of the rest of the population. It means that the effects of markets and states are the opposite. Initial ones are voluntary and beneficial for all. The state intervention is coercive and beneficial only for a comparatively small group of people at the expense of the rest of the population. Therefore, the expansion of the state always negatively affects the development of markets as these forces are opposite in relation to one another. Therefore, Polanyi’s claim that the state is necessary for creating modern complex markets does not seem to be well-grounded.

Polanyi is correct in stating that modern people rely on markets in obtaining reliable price signals from them. Markets provide an objective system for efficient resource allocation. They demonstrate what resources tend to become scarcer and should be economized. They also show which ones are comparatively abundant. Their consumption may be increased. In fact, people optimize their social cooperation with the help of markets.

Polanyi's claim about people’s irrationality in the previous historical periods is also debatable. It is correct that their behavior cannot be adequately described through models and concepts of neoclassical economics. However, it does not mean that their behavior was not purposeful or meaningful. All people always aim at reaching the most desirable ends in the most efficient way. Previously, people also tried to maximize their utility through barter and direct exchange were more appropriate tools for achieving this purpose than undeveloped markets. Thus, it seems that only the methods have changed while the whole framework of utility maximization has remained the same.

Polanyi also favorably describes the previous social system because it was more natural. Nowadays, people are more oriented toward acquiring wealth and cooperating through market systems. As a result, their natural balance is disturbed. However, all human beings possess a reason that helps them to analyze events and select the appropriate means for the realization of their plans. Therefore, individuals do not only adjust to the external environment but transform and improve it. The fact that the majority of people have chosen civilization shows that it better satisfies their needs and allows improving their standards of living. Moreover, the world’s population has increased dramatically due to a rise in productivity. The return to the previous system means not only a decrease in productivity and wealth but also starvation of the large fraction in the world’s population. Therefore, Polanyi’s recommendations do not seem to be well-supported.

There are also some problems with Polanyi’s presentation of transformation. He believes that all free-market changes are planned while all protectionist policies are natural responses. However, if states are able to plan everything including free-market reforms, then they may also introduce these protectionist elements into the system. There is no need for different stages of social development. Moreover, if these natural responses actually exist, then the state does not control everything in a social sphere, and spontaneous forces also have some impact.

The correct interpretation of these tendencies seems to be as follows. Industrialization and free-market forces contribute to a rapid decrease in wealth. The power elite becomes more interested in increasing its status through expropriation. It uses both its power and ideological influence. During this period, the impact of protective tariffs and interventions increases. However, it cannot last very long as the scope of the productive sector diminishes. As a result, new free-market reforms are needed. This cycle may repeat many times.

Finally, Polanyi’s idea that democratic socialism is the ultimate stage of this process does not seem to be correct. Socialism neglects several important aspects of modern civilization. First, it ignores the fundamental role of free-market prices in the process of resource allocation. If the state interferes in price formation, economic agents cannot develop optimal strategies and adjust their behavior to the changing conditions. Second, socialism leads to much lower standards of living and cannot be associated with progress and its ultimate stage. Therefore, people need the existence of free-market elements in the economy. In order to reach this objective, they need to maintain the current market institutions and understand the logical relationships between markets and their prosperity. Thus, both objective and subjective aspects are needed for the evolution of the social and economic system.

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Relevance for the 21st Century

Polanyi’s analysis and discussion are highly relevant in relation to the current state of affairs in the global financial markets. The individual maximization behavior may be also applicable in their high interest in debt capital. An extraordinarily high level of indebtedness is attributed not only to cultural changes of the modern generation but to a complex of cultural and economic factors. Due to massive government intervention in the process of price formation, the current level of interest rates is much below its free-market level. As a result, people receive additional incentives for increasing their indebtedness. It becomes more rational to increase their consumption through higher debts rather than higher savings.

Although it is rational on an individual level, it creates substantial problems at a global one. The problem comes from the fact that any sustainable investments may be financed only from real savings. In other words, the consumption may be increased in the future only if the current one is restricted, and the level of savings increases. In the present period, people are misinformed by the interest rates and try to increase their consumption even if the amount of savings is constant. Consequently, this unsustainable boom cannot be long-lasting. It necessarily results in a recession. The most recent example is the financial crisis of 2007/08.

This instance demonstrates two aspects. First, Polanyi is correct in stressing the interconnections between economic and social factors. The current indebtedness and over-orientation to the present are a result of state influence that has both economic and social implications. From an economic point of view, people may acquire additional benefits through higher indebtedness. From a social point of view, it encourages irresponsibility and short-sightedness. Therefore, the economic and social aspects are interrelated and affect one another.

Second, Polanyi’s claim that the presence of the state is necessary for developing an efficient market system and infrastructure is incorrect. The state creates some incentives and motivational elements that are not based on the mutual consent of economic agents. All market prices are mutually beneficial for all parties. However, government intervention presupposes the use of coercion and violence in relation to people. For example, the imposition of artificially low-interest rates directly violates the rights of creditors. It also negatively affects the production cycle and potential investors. In fact, entrepreneurs are unable to make correct predictions about the future and may incorrectly determine the optimal length of their investments. The existence of the business cycle is also one of the consequences of state involvement in current market operations.

It seems that the future of modern civilization depends on the people’s understanding of its main forces and balance between market forces and the state. In the short run, markets help to optimize production structures and harmonize the interests of all consumers and producers. In the long run, this economic development creates additional incentives for the political elite to spread its power. At the present moment, market forces are dominant in the US as a majority of the population desires to improve its financial and economic well-being after the global financial crisis. As the rates of economic growth are comparatively high, it may be expected that the influence of political factors may increase in the near future.

However, political factors cannot remain dominant for a long period of time. They lead to the inefficient use of scarce resources and negatively affect general economic growth. Therefore, in the long run, they will be substituted for economic means. In this way, this cycle may repeat many times. It is very stable because economic development creates additional incentives for the political elite while the application of only political methods creates economic scarcity. People are ready to adopt free-market policies. Each stage reinforces another one, and social factors are closely interrelated with economic ones. However, Polanyi is incorrect in claiming that the spread of the state influence is a natural response to market forces. It seems that markets are the responses to the state’s expansion because they are spontaneous. Meanwhile, all actions of the power elite are designed by some people in power.


The existence of large-scale government intervention is neither necessary nor beneficial for the development of market forces. However, state influence is significant. It is the most powerful institution nowadays. Polanyi is correct in selecting the state and markets as two basic factors affecting the lives of the population. He suggests that the state and markets produce the influence in the same direction. Moreover, the state guarantees and enables the effectiveness of markets. However, the above analysis shows that they operate in a different direction. The state opposes markets.

It is especially relevant nowadays. On one hand, modern technological development leads to an unprecedented increase in decentralized structures. On the other hand, all national governments try to expand their power and control new spheres of private lives. Even democratic governments tend to become more interventionist. It is especially evident in relation to such questions as national security. The state typically suggests that security and liberty may contradict one another. It is necessary to sacrifice some individual liberties in order to guarantee the necessary level of security. The same rhetoric is applied to the control over financial institutions and economic processes, in general.

Thus, Polanyi’s analysis is very insightful, and it successfully integrates the main economic and social aspects. It demonstrates the mutual influence of economic development and social factors. At the same time, Polanyi incorrectly confuses the spontaneous forces of the free market with the deliberate actions of the state and power elite. This separation is especially relevant in the 21st century for understanding the dominant social tendencies and preventing subsequent economic crises.


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