Basic Principles of Neo-Liberalism
Neo-liberalism revolves around two central principles:
(1) that the factors of production get paid what they are worth and
(2) that free markets will not let factors go waste.
The Neo-liberal economics emphasizes on the neoclassical assumption that all economic agents are rational beings who act upon their own rational expectations. They argue that excessive unemployment is the result of government intervention into an otherwise perfectly self adjusting system and hence the state should restrain itself from intervening.
The Phrase Washington Consensus was originally coined by John Williamson, Senior Fellow at the Washington based Institute for Economic Development. The policy instruments which were the principles of operation of the Washington Consensus and which applied mainly to the third world (mainly the borrowing countries) was described by John Williamson(1990:18) as including:
1. Fiscal Discipline: Large and sustained fiscal deficits by central and provincial governments are a main source of macroeconomic dislocation in the forms of inflation, balance of payments deficits and capital flight. These deficits result from lack of political courage in matching public expenditures to the resources available.
2. Reducing public expenditures:When the government expenditures have to be reduced, the view is that spending on defense, public administration and subsidies, particularly for state enterprises, should be cut rather than primary education, primary healthcare and public infrastructure investment.
3. Tax Reform: The tax base should be broadened, tax administration improved, and marginal tax rates should be cut to improve incentives.
4. Interest Rates: Financial deregulation should make interest rates market determined rather than state-determined, and real interest rates should be positive to discourage capital flight and increase savings.
5. Competitive Exchange Rates: Exchange rates should be sufficiently competitive to nurture rapid growth in nontraditional exports but should not be inflationary-the conviction behind this is that the economies should be outward oriented.
6. Trade liberalization: Quantitative restrictions on imports should be eliminated, followed by tariff reductions, until levels of 10-20% are reached – the free trade ideal, however, can be temporarily contradicted by the need for protecting infant industries.
7. Encouraging Foreign Direct Investment: Foreign investment brings needed capital, skills and knowhow. Barriers impeding the entry of foreign firms should be abolished. Foreign and domestic companies should be allowed to compete on equal terms.
8. Privatization: State enterprises should be privatized. Private industry is more efficient.
9. Deregulation: All enterprises should be subject to the discipline of competition- this means deregulating economic activity in the sense of reducing state controls over private enterprise.
10. Securing Property Rights: Making secure and well defined property rights available to all at reasonable cost.