The Link Between Open Economies and Open Societies

10.21.2021 | CIPE Insights | Kim Eric Bettcher

 

Editors’s note: This article was first posted on The Foreign Policy Centre website and is part of a larger publication with Westminster Foundation for Democracy. Title: “Global Britain for an open world?”


The challenge of defending and advancing democracy around the world is intertwined with economic challenges facing the UK and other societies:

“Open and democratic societies like the UK must demonstrate they are match-fit for a more competitive world. We must show that the freedom to speak, think and choose – and therefore to innovate – offers an inherent advantage; and that liberal democracy and free markets remain the best model for the social and economic advancement of humankind.”

– Foreword from the Prime Minister to the Integrated Review.1

Indeed, while the enduring strength of democracy lies in the legitimacy of near universal values, democracy must deliver tangible benefits to citizens to be sustained and demonstrate its superiority over other forms of government. Citizens expect their system of government to enable or provide economic growth, individual opportunities, public goods, and social services. Open economies—based on individual liberty, rule of law, and equality of opportunity—help make democracy deliver on these expectations, giving citizens a stake in their society. At the same time, the dynamics of open economies serve as a check on authoritarian tendencies.

To overlook open economies in a democracy assistance strategy would be at best to limit reform space and demand for accountable government, and at worst to risk succumbing to populist pressures, authoritarian interference, or corrupt interests. Much as policymakers in the development field have been exhorted to ‘think politically’, policymakers in the democracy assistance field should consider the economic influences on political life. They should take into account how the values and institutions of open economies reinforce democratic values and institutions, how private sector interests and organisations relate to civil society and power structures, and how models of economic governance shape the rule of law, rights, and democratic governance.

This chapter summarises the relationship between open economies and open societies, illustrates strategic opportunities to support democracy with an open economy approach, and recommends actions to respond to current challenges and integrate economic development into democracy assistance. The chapter is informed by the experiences of the Center for International Private Enterprise (CIPE), which was founded on the idea that political and economic rights are mutually reinforcing, and that private sector participation in policy discourse enlarges the constituency for democracy.

 

Contributions of open economies to open societies

The connections between economic growth, prosperity, and democracy have been extensively studied. Although there remains debate about causal relationships, meaningful patterns have been established. Recently for example, the Heritage Foundation illustrates how its index of economic freedom correlates well with the Economist Intelligence Unit’s democracy index.2 One of the takeaways from the literature is that open economies are more closely linked to democratic development than is raw economic growth, which can be initiated by state-driven industrialisation or natural resource rents under different types of regime. Another takeaway is that the conditions for democracy must be cultivated; one cannot assume that democracy is the necessary outcome of economic development.

There are several lines of argument about these connections, beginning with modernisation theory. Seymour Martin Lipset observed that a number of socioeconomic aspects of development were supportive of democratisation, namely education, rising income, urbanisation, and industrialisation.3 Similarly, the emergence of a strong middle class has historically been associated with rising demand for democracy. As Barrington Moore noted, “No bourgeoisie, no democracy.”4 The “third wave” of democratisation since 1974 was actively led by participation from the urban middle class.5

Open economies are distinguished from extractive economies by their normative basis. “The concepts that underpin a free society are fundamental to free markets, too: values like transparency, open competition, and the rule of law.”6 Constituencies for change can coalesce around these values. The competitive private sector (unlike crony capitalists) has a stake in liberal, democratic systems that respect rights, manage conflicts, and invest in public goods and human capital. Therefore, business has often led the way in seeking accountable government.7

Peter Berger observed that an open economy, also referred to as a market economy or capitalist economy, “provides the social space within which individuals, groups, and entire institutional complexes can develop independent of state control” and “creates space and opportunity for civil society.”8 Authoritarian and statist growth models do not tolerate this space, nor do they tolerate economic competition which may generate autonomous sources of power and pluralism.9 Indeed, democratic theorist Robert Dahl argued that competitive politics requires a pluralistic social order, which in turn requires a decentralised economy.10

 


What is a market economy?

A market economy (as an ideal) is a competitive economic system where the rules are the same for all participants.

  • A private sector economy is not necessarily a market economy. If the behaviour of private economic actors revolves around rent-seeking, corruption, and cronyism, it is not a market economy.
  • A laissez-faire policy is not adequate for markets to function. A market economy can emerge when the government guarantees consistent, fair laws and rules.11

 

The logic of competition explains the persistent relationship between open economies and open societies:

“Open access orders maintain their equilibrium by allowing a wide range of economic and social interests to compete for control of the polity. Creative economic destruction produces a constantly shifting spectrum of competing economic interests. The inability of the state to manipulate economic interests sustains open political competition: politicians cannot cripple their opponents by denying them economic resources.”12

Market economies, by permitting and encouraging open competition, stimulate greater pluralism and regular renewal. A competitive, responsible private sector in an open economy provides an important counterweight to the state, injects dynamism into political discourse, and makes possible a vibrant civil society.

Finally, economic rights and governance constrain the uses and abuses of authority. “Private ownership of the means of production is a crucial bulwark against an overweening state and eventual political tyranny.”13 The same government that could arbitrarily seize private property could violate civil liberties and repress opposition. Market economies and sustainable growth require institutional structures that protect property rights, enforce contracts, ensure open competition, and facilitate access to information, all within a system of rule of law. Once in place, these institutions serve to uphold a political order based on constitutional, not arbitrary rule.

Critics of modernisation theory point out that the causal relationships are unclear and that not all good things go together. One famous study by Przeworski et al. concluded that development, as measured by per capita GDP, was important to sustaining democracy but not to its emergence.14 Notable cases of capitalist systems that were not associated with democracy include Singapore and pre-democratic Chile (which made the transition in 1990). China adopted elements of a market economy, though the state sector remains privileged and state influence over the private sector has been reasserted. All in all, the body of evidence for synergies between development and democracy holds up well but the critiques draw attention to diverging country experiences and the need to identify mechanisms of change.15

If not all things necessarily go together, would it be better to sequence reforms in order to focus on ‘preconditions’ for democracy, such as economic development and state capacity? Thomas Carothers has cautioned against this version of sequencing, noting that enlightened autocrats who promote economic development and rule of law are actually quite exceptional. Instead, policymakers would do better to adopt gradualist, iterative strategies to expand competition and choice.16 More important than sequencing may be the adoption of integrated governance and growth strategies that “work with the grain” in each country.17

 

 

Strategic Opportunities

Fortunately from a strategic standpoint, there are multiple avenues to promote open economies that are conducive to democratic openings or transitions. Five broad areas of opportunity are described below. The best opportunities in each case will be a function of local conditions and demand.

Fighting corruption

Corruption holds back democracy by undermining public systems, sapping public trust, and subjugating citizens’ will to private interests. It prevents business from thriving by rendering contracts arbitrary and hard to enforce and exposing business to extortion and legal risk. If one views corruption as an institutional problem rather than a moral problem, effective responses involve reducing incentives and opportunities for corrupt behaviour, as well as improving institutions of governance. Such an anti-corruption strategy would tackle underlying causes of corruption: unclear, complex, and frequently changing regulations; lack of transparency and accountability; barriers to competition (and exemptions for cronies); and implementation gaps between laws on the books and their de facto application.

Business can be the source of corruption or the victim, but it can also be the solution. Private sector initiatives for collective action set a higher standard that rewards the participating companies and reduces the vulnerability of companies that resist paying bribes. The B20 Collective Action Hub contains many example initiatives and resources.18 Across Africa, CIPE’s Ethics 1st initiative sets a governance and corporate ethics compliance benchmark, adapted for emerging markets from internationally recognised standards, to de-risk investment into African economies and better integrate companies across the continent into global value chains.

Bolstering democratic governance and defending against authoritarianism

Although democratic legitimacy begins with the people’s choice of representatives through elections, it is sustained when governments deliver on promises. Between elections, citizens need avenues to participate in decision-making, offer feedback, and hold government accountable for its performance. For instance, structured public-private dialogue (PPD) enables participatory policymaking, improves the quality of representation, and builds transparency and accountability into policymaking and policy implementation.19 In Kenya, PPD platforms exist at all levels from the Presidential Roundtable to county budget forums.20 Participation by groups like the Kenya Private Sector Alliance, Kenya Association of Manufacturers, and Kenya Association of Vendors and Traders shaped numerous laws, among them the Transition to Devolved Government Act, Bribery Act, and Micro and Small Enterprise Act, and helped improve local services such as roads, sewage systems and street lighting.21 Donors such as the World Bank, GIZ, SIDA, USAID, and UNDP have supported dialogue platforms on a wide range of topics from business competitiveness and inclusive growth to the green economy, Sustainable Development Goals, responsible investing, and governance.

Increasingly, democratic governance must be defended against external authoritarian influence. In 2018, CIPE identified the challenge of “corrosive capital” originating in China, Russia, and other countries, which lacks transparency, accountability, and market orientation.22 When opaque finance enters recipient countries through governance gaps, it commonly has negative impacts on human rights, the environment, small business, and labour, not to mention exacerbating governance challenges. CIPE has reported on these financial flows and associated problems in the Western Balkans, Southeast Asia, and other regions. Counter-measures to neutralise corrosive capital include: enacting policies that clearly govern foreign investment, strengthening public procurement systems, increasing transparency of public budgets, and enabling civil society monitoring, and potentially tapping new sources of development finance. Enabling well-governed, “constructive” investments can drive the creation of a more transparent and market-oriented business culture, leading to a virtuous economic cycle that augments the efficiency of markets and fosters greater social inclusion.23

Promoting ethical practice and respect for human rights

Business and human rights and responsible business conduct are topics of growing interest in the democracy and development communities. While relevant standards have largely been focused on multinational enterprises, there remains scope to assist local businesses in adapting international best practices (United Nations Guiding Principles on Business and Human Rights) to their context and adopting compliance systems, as well as having a voice in emerging human rights legislation.24 Corporate governance initiatives, anchored in stakeholder governance models and risk management, provide a solid framework for raising standards at the firm or industry level.

The United Nations Global Compact assists companies to “move from commitment to action” on human rights through five areas of business engagement: awareness raising, capacity building, recognising leadership, policy dialogue, and multi-stakeholder partnerships.25 Resources on these topics are also available from the Business and Human Rights Resource Centre and from BSR (formerly Business for Social Responsibility). The International Finance Corporation has related resources on corporate governance, stakeholder engagement, and risk management.

Supporting civic values and civil society

Business increasingly recognises that liberal values are being challenged, and that it cannot be passive in the defense of values. The US Chamber of Commerce Foundation has established a Civics Forward initiative to convene business leaders around civic education and civil discourse, declaring, “informed and active citizens make for a stronger country, a stronger economy, and a stronger workforce.”26

Not to be forgotten, non-profit business associations represent significant constituencies within civil society—including small business and diverse entrepreneurs. Alexis de Tocqueville, in Democracy in America, recognised the important roles of associations in preserving political independence and pursuing common aims. Independent, organised business can resist arbitrary government action and provide space for plurality of expression. In closed regimes, advocacy for economic reform is often one of the few avenues available to exercise freedoms of association and speech. Donors that support public-private dialogue toward policy reform commonly include association capacity building as a component of their programmes. In Ethiopia, CIPE has worked with more than 50 membership-based organisations and established a Civic Engagement Hub for civil society organisations.

Opening pathways for new groups to access opportunity

Most thinkers on democracy, starting with Robert Dahl, would agree that extreme inequality is harmful to democracy because it limits citizens’ ability to participate effectively and reduces their trust in the regime. Thus, economic inclusion, typically part of development work, should be paired with strategies for democracy assistance. One important dimension of inclusion, women’s economic empowerment, can change the status of women within households and communities, and even increase their ability to participate in politics. To empower individual women in Papua New Guinea, CIPE, supported by Australia’s Department of Foreign Affairs and Trade (DFAT), established a Women’s Business Resource Centre for women of all backgrounds to access business services, training, and support, with childcare services provided.27 To lower systemic barriers and reduce inequities, collective action through CIPE’s Women’s Business Agenda process has been employed in South Asia and Africa. In Nigeria, a coalition first formed in 2013 now has 52 member organisations representing more than four million women entrepreneurs and businesswomen and updated its platform in 2020 to raise issues of security, access to electricity, infrastructure, gender equality and access to finance.28

 

Recommendations for UK strategy

In order to support open economies in ways that reinforce democratic development and open societies, the UK can take a leadership role by shaping foreign assistance in line with its values while learning from the experience of other development partners.

The adaptability of democracy will depend on finding satisfactory solutions to current challenges:

  • Restoring trust in open markets and free enterprise: This will require assuring citizens that market institutions fairly apply the same rules to everyone, that corruption is under control, and that businesses operate ethically.
  • Reducing inequality within countries: This will require expanding economic opportunities and ensuring access to opportunity by disadvantaged groups in addition to democratising services and providing social safety nets.
  • Countering the erosion of democratic institutions by domestic and external forces: This will require constraints on authoritarian finance, anti-corruption measures, and new roles for business in defending the pillars of open societies.

By the nature of these challenges, as Thomas Carothers as argued, economic concerns should be integrated into democracy support, replacing the typical silos of development and democracy within foreign assistance programmes. This does not entail adding new programmes or detracting from rights-based approaches so much as identifying complementary resources and approaches. Integration could include: focusing on contributions of economic governance to rule of law and respect for rights; engaging grassroots business constituencies and supporting women entrepreneurs and business leaders to engage in politics; treating economic inclusion as a path to enfranchisement; and handling issues of development policy within countries as opportunities for participatory governance. On the development side of the equation, integration could include: embracing democratic governance as part of improving human welfare; enhancing governance as a means to improve performance management or the legitimacy of country ownership; and applying politically smarter methods in development programmes.29

Depending on a country’s conditions with respect to freedom, institutional development, and civil society, UK strategy can target interventions that leverage economic drivers of change and business constituencies who share a stake in competitive, rules-based, and value-based reforms. Once the strategic opportunity has been targeted, the UK can select modalities from its repertoire that fit the purpose. Many widely used modalities for private sector engagement, as identified by the OECD, are quite amenable to democracy assistance, namely: knowledge and information sharing, policy dialogue, technical assistance, capacity development, and finance. Of these, finance tends toward transactional activities, but more broadly construed could involve support for civil society and democratic institutions.

Country-level strategy for open economies should be informed by high-level discussion and co-creation with the private sector, civil society, economists, and others. Too often, donors take a top-down approach to engaging partners.30 In democracy assistance, it is even more vital to engage varied interests—as in open access orders—and not confine assistance to the technical aspects of institution building and governance. A coherent strategy for open economies must support inclusive, market-driven approaches based on positive incentive structures; establish robust partnership frameworks (such as the Kampala Principles);31 and nurture the development of broad reform coalitions that sustain the political economy of reform.

 

Conclusion

Open economies and open societies have delivered tremendous human progress, yet in recent years have not fully lived up to expectations. The resurgence of competing models signals three things. First, the institutional ‘infrastructure’ of market economies and the liberal order must be restored to be more resilient, responsive, and equitable. Second, the enabling environment for technological, economic, and social innovations must be improved to develop new markets, business models, and governance mechanisms that expand opportunity and meet today’s challenges. Third, defenders of open societies and open economies should come together to counter authoritarian, illiberal, populist approaches and show that their model offers effective, more legitimate, and more sustainable solutions to citizens’ needs.

The UK has existing capabilities for private sector engagement, business climate reform, and anti-corruption, all of which could be paired effectively with democracy assistance mechanisms. The purpose of this integration would not be to redirect democracy support but to reinforce democratic values, rights, and institutions with corresponding values, interests, rule of law, and pluralism in the economic sphere. The targeted application by the UK of mutually reinforcing strategies, in support of locally driven change, will help sustain both democratic openings and more inclusive growth. This new focus on the economic dimension of democracy assistance can bolster democratic legitimacy and performance in democracy that delivers. 

Kim Eric Bettcher leads the Center for International Private Enterprise’s (CIPE) Policy and Program Learning department, including knowledge management and applied research. PPL facilitates the international exchange of good practice, lessons learned, and policy options for democratic and market transitions. Dr. Bettcher has created numerous programme resources for CIPE on democratic governance, private sector engagement, entrepreneurship ecosystems, public-private dialogue, and other themes. He also manages the secretariat of the Free Enterprise & Democracy Network. Previously a research associate at Harvard Business School, Bettcher holds a Ph.D. in political science from Johns Hopkins University and a bachelor’s degree from Harvard College. 

 

Photo by  Alex Tai on Unsplash

 


 

[1] HM Government, Global Britain in a competitive age The Integrated Review of Security, Defence, Development and Foreign Policy, March 2021, https://www.gov.uk/government/publications/global-britain-in-a-competitive-age-the-integrated-review-of-security-defence-development-and-foreign-policy

[2] Heritage Foundation, Economic Freedom Around the World: The Key to Human Progress, in the 2021 Index of Economic Freedom, https://www.heritage.org/index/pdf/2021/book/2021_IndexofEconomicFreedom_CHAPTER03.pdf

[3] Seymour Martin Lipset (1981). Political Man: The Social Bases of Politics. Baltimore, Maryland: Johns Hopkins University Press.

[4] Barrington Moore, Jr. (1966). Social Origins of Dictatorship and Democracy: Lord and Peasant in the Making of the Modern World. Boston: Beacon Press.

[5] Samuel P. Huntington (1991). The Third Wave: Democratization in the Late Twentieth Century. Norman, OK: University of Oklahoma Press. pp. 65-68.

[6] Andrew Wilson, Business Values Are Democratic Values, Voice of America, May 2016, https://blogs.voanews.com/us-opinion/2016/05/17/business-values-are-democratic-values/

[7] Larry Diamond, Democracy and Economic Reform: Tensions, Compatibilities, and Strategies for Reconciliation, in Economic Transition in Eastern Europe and Russia: Realities of Reform, ed. Edward P. Lazear (1995). Stanford: Hoover Institution Press. pp. 111–112; Ben Ross Schneider (2004). Business, Politics, and the State in Twentieth-Century Latin America. Cambridge: Cambridge University Press. pp. 246–250; Didi Kuo (2018). Clientelism, Capitalism, and Democracy: The Rise of Programmatic Politics in the United States and Britain. Cambridge University Press.

[8] Peter Berger, The Uncertain Triumph of Democratic Capitalism, in Capitalism, Socialism, and Democracy Revisited, eds. Larry Diamond and Marc F. Plattner (1993). Baltimore: Johns Hopkins University Press.

[9] Note that Scandinavian-style welfare state systems still have high levels of economic freedom. Heritage Foundation, 2021 Index of Economic Freedom.

[10] Robert A. Dahl (1971). Polyarchy: Participation and Opposition. New Haven: Yale University Press. p. 60.

[11] Kim Eric Bettcher, CIPE Guide to Governance Reform, CIPE, August 2014, https://www.cipe.org/resources/cipe-guide-governance-reform/

[12] Douglass C. North et al., Limited Access Orders in the Developing World: A New Approach to the Problems of Development, World Bank Policy Research Working Paper 4359, September 2007, p. 19, https://openknowledge.worldbank.org/handle/10986/7341

[13] Larry Diamond, Political Freedom and Human Prosperity, Hoover Institution Essay Series on Socialism and Free-Market Capitalism: The Human Prosperity Project, Stanford University, 2020, p. 2.

[14] Adam Przeworski et al. (2020). Democracy and Development: Political Institutions and Well-Being in the World, 1950–1990. Cambridge: Cambridge University Press.

[15] Carles Boix and Susan C. Stokes, Endogenous Democratization, World Politics 55 no. 4, July 2003, https://www.jstor.org/stable/25054237; Julian Wucherpfennig and Franziska Deutsch, Modernization and Democracy: Theories and Evidence Revisited, Center for Comparative and International Studies, ETH Zurich and University of Zurich, Living Reviews in Democracy 2009, https://ethz.ch/content/dam/ethz/special-interest/gess/cis/cis-dam/CIS_DAM_2015/WorkingPapers/Living_Reviews_Democracy/Wucherpfennig%20Deutsch.pdf

[16] Thomas Carothers, How Democracies Emerge: The ‘Sequencing’ Fallacy, Journal of Democracy 18 no. 1, January 2007, https://journalofdemocracy.org/articles/how-democracies-emerge-the-sequencing-fallacy/

[17] Brian Levy (2014). Working with the Grain: Integrating Governance and Growth in Development Strategies. Oxford: Oxford University Press.

[18] Basel Institute on Governance, B20 Collective Action Hub, Baselgovernance.org/b20-collective-action-hub

[19] Kim Eric Bettcher, Benjamin Herzberg, and Anna Kompanek, Public-Private Dialogue: The Key to Good Governance and Development, CIPE, January 2015, https://www.cipe.org/resources/public-private-dialogue-key-good-governance-development/

[20] KEPSA, Public private dialogue, https://kepsa.or.ke/public-private-dialogue/

[21] CIPE, Kenya Cumulative Assessment Report, September 2017.

[22] John Morrell, Channeling the Tide: Protecting Democracies Amid a Flood of Corrosive Capital, CIPE, September 2018, https://www.cipe.org/resources/channeling-the-tide-protecting-democracies-amid-a-flood-of-corrosive-capital/

[23] Eric Hontz, Building a Market for Everyone: How Emerging Markets Can Attract Constructive Capital and Foster Inclusive Growth, CIPE Insights, October 2019, https://www.cipe.org/newsroom/building-a-market-for-everyone-how-emerging-markets-can-attract-constructive-capital-and-foster-inclusive-growth/

[24] OHCHR, Guiding Principles on Business and Human Rights, April 2011, https://www.ohchr.org/documents/publications/guidingprinciplesbusinesshr_en.pdf

[25] United Nations Global Compact, Human Rights: The Foundation of Sustainable Business, 2018, https://www.unglobalcompact.org/library/5647

[26] U.S. Chamber of Commerce Foundation, Civics Education, https://www.uschamberfoundation.org/civics-education

[27] PNG WBRC, see website: https://www.pngwbrc.com/

[28] Association of Nigerian Women Business Network, Women National Business Agenda, https://www.anwbn.org.ng/women-national-business-agenda-2/

[28] Thomas Carothers and Diane de Gramont (2013). Development Aid Confronts Politics: The Almost Revolution. Washington, DC: Carnegie Endowment for International Peace.

[30] Donor Committee for Enterprise Development, How Donors Can Make the Transition to Strategic Private Sector Engagement: Programming Innovations and Organisational Change, DCED Briefing Note, March 2017. https://www.enterprise-development.org/wp-content/uploads/DCED_Making_the_Transition_to_Strategic_Pivate_Sector_Engagement.pdf

[31] Global Partnership for effective Development Co-operation, Private Sector Engagement, https://www.effectivecooperation.org/landing-page/action-area-21-private-sector-engagement-pse