Martin Wolf is the chief economics commentator for the Financial Times. He is the author of The Crisis of Democratic Capitalism.
In this week’s conversation, Yascha Mounk and Martin Wolf discuss the symbiotic relationship between democracy and capitalism; the reasons for the crisis of democratic capitalism; and the dire consequences should it fail.
The views expressed are those of the speakers, not those of Persuasion. The transcript has been condensed and lightly edited for clarity.
Yascha Mounk: You have a new book out and the most interesting thing about it to me is how you connect the political and economic stories of the last few decades. How should we think about integrating those two narratives about how to understand the world at the moment?
Martin Wolf: Unlike most people who write about democracy and the future of our politics, I come from an economics background, not from a politics background. I did some political science and political history when I was at Oxford, but that was more than half a century ago. Though, as I've been going around the world in my various jobs, when I was at the World Bank and subsequently working on trade, I was aware that politics was very central. Nonetheless, economics was the core of what interested me, and I focused on that pretty well exclusively until about 20 years ago, and particularly until 15 years ago, when the financial crisis happened. Most of the time, like most economists, I was quite comfortable with compartmentalizing: the political system does what it does; we've got a democratic backdrop here, it works more or less and we can just discuss policy and how the economy unfolds. And then reality crashed into this neat compartmentalization.
The immediate impact was to make it clear that a big financial crisis is a political event, not just an economic event. The response to the crisis, the understanding of the crisis, and the consequences of the crisis are all political events. But then I realized something broader which should have been obvious to me all my life—the way we compartmentalize our thinking about the economy and society more broadly is extremely peculiar. It's academically convenient because it's intellectually convenient. But it doesn't make any sense. Contrast what we do in the social sciences with what we do in the physical sciences, or in the sciences broadly: each of the major scientific specializations we have, as it were, lies on top of the one below. At the bottom, there's physics, which is the fundamental forces of the universe; then you get to chemistry, which is the more complicated relations governed by physics; then we get to biology and biological relations—then we actually start getting to behavior at a very crude level of living things. But when we look at society, we don't lay them well one on the other. They're all side by side—sociology, politics, and economics—and they interact like mad.
I saw that not only had the financial crisis meant that economics had crashed into politics but that the crash hadn't gone away; that it was pretty obvious that something had happened in recent years which undermined the confidence of a broad part of our population in the economic and political systems together, leading them to listen to voices which I simply hadn't expected to be listened to, particularly in sophisticated, advanced democracies like the U.S. and U.K. I then started to analyze what had gone on and why they lost confidence. Plenty of people were pointing to cultural and social developments of the previous 40 years, but it seemed to me pretty obvious that that was very clearly insufficient, and that what had been going on in the economy has created very profound changes in the social position, the economic position, obviously, and the cultural position of important groups in our society. These economic changes had actually generated a profound social, and then political, revolution. One of the consequences was that the people who had not been doing very well started jumping out of the constraints of the standard political system,and wanted something completely different from their political leaders. That, I thought, was the cause of the rise of populism.
Mounk: The title of your book is “The Crisis of Democratic Capitalism.” From how you’re talking about it, it sounds like the crisis of capitalism is driving the crisis of democracy.
What is the crisis of capitalism at this point in history and what is its connection with the crisis of democracy?
Wolf: To answer this, I first had to decide what the relationship is between these two things. Why do they go together? Why are the world's most advanced capitalist societies democracies? To understand the breakdown, I had to understand why it happened in the first place. And to summarize it very, very, very briefly, I learned that democracy, in our sense, was a child of capitalism, was a product of capitalist societies, that it hadn't existed before. And then I could trace reasons why there was this relationship; why capitalism created processes, both directly and indirectly, that led to the demand for democracy. I could see some accidents in that, but it seemed to me very fundamental.
Mounk: Why should we think that the relationship between capitalism and democracy is more than accidental? Why is it that you need capitalism in order to have democracy?
Wolf: Well, it would be a very strange accident if it were an accident. Prior to 1800, there were essentially no democracies anywhere. The dominant way we structured societies in all the more advanced ones was a small number of people owning all the resources and controlling all of the politics. Wealth and power were essentially the same thing and that was the normal way we ran societies. Now, why would capitalism have created something different? Because it clearly did produce enormous demands for greater rights. They actually both rest on a liberal foundation, which is the idea in capitalism that each individual and collections of individuals have the right to do their best in the economy. They depend on the rule of law to be safe and to invest and make innovations and start new businesses and all the rest of it (which is Adam Smithian, if you like). In such a society, wealth isn't defined by inheritance or ascribed status but by what you do yourself. It’s profoundly individualistic.
In a society like that, people will say, “I'm entitled to a say in politics, too, because I'm a valid and valuable human being who's allowed to do what I like.” The demand for democratic participation grows quite naturally from an ideological point of view—and it did very, very quickly, actually, which is very clear in England, the first industrial nation, already early in the 19th century. Now, the demands could have been resisted forever (and in some places they were), but the big reason it worked is because capitalists needed to reach an agreement with workers. Capitalism generated urbanization, mass industrialization, and huge concentrations of workers, on whom capitalists depended, who had huge power because they could stop the factories in which the capitalists invested from working. They were very vexed, very confrontational, but capitalists had to accommodate them. More importantly, still, in the late 19th century capitalists found they needed educated workers. The ruling classes more broadly started supporting mass education. If you've got a highly educated or increasingly educated, literate population, organized in cities, in industry, accounting for a huge proportion of the population, you can't treat them like serfs. It's a completely different social relationship: we're all equal in some sense, so you should give us political rights. That became completely irresistible. Of course, there were societies that did resist it, but it took an immense amount of coercion.
It's a natural outgrowth. Both capitalism and democracy demand constraining institutions, the rule of law, a limited state, but all of it is fragile. You are trying to separate power from wealth and wealth will always try to get back into power. Indeed, that's what we've been seeing. The reaction is, I think, part of the populist upsurge we're seeing.
Mounk: Can capitalism survive without democracy?
Wolf: It would be difficult. Without democracy it is almost inevitable that it will become a plutocratic or oligarchic form of capitalism, and the natural tendency of an oligarchy controlling the political process is to preserve its own wealth by eroding competition. We see this all over the world. If you look at autocratic systems, they tend to become crony systems, not competitive systems. If, on the other hand, you try to have a socialist economy in which the government controls everything, then it's almost impossible to have genuine democratic competition because one party, the party that controls the state, essentially controls all resources and can't be defeated politically. You need both together for a fully functioning system. And I think we'll see that in China. Indeed, I think we're already seeing it in China. And it's why Taiwan will be richer than mainland China. And is.
The battle for creating democracy was long and hard. The 1930s were a much bigger crisis than the present crisis. It took quite a bit of luck and a great deal of determination for democracy to survive the interwar period. But why have we gone through another period of erosion? I think there are, broadly speaking, two things that interact: one is the inevitable transformation of our economy, which undermined the relative position of groups in our economy and society; and then there are the political policies which reinforce those changes. The inevitable change underlying this was the decline of the industrial working class, which I think played a very big part in the evolution of modern democracy in the most advanced economies.
Mounk: There’s something ironic about this, right? Because when you go back to the 19th or the 20th century, it seemed as though a mass-scale working class was one of the things that would undermine capitalism and, perhaps, democracy. Liberal democratic capitalists at the time were worried about the ways in which the agency of the working class could bring about the overthrow of capitalism and the arrival of communism. Why is it that the industrial working class, which for a long time observers assumed would undermine democracy in retrospect actually seems to have been one of the factors stabilizing it?
Wolf: Well, my sense of the history—I wouldn't claim gigantic expertise—is actually that the industrial working class, as a mass force, never created a Communist revolution; the Communist revolutions all came from almost pre-industrial societies with a very weak industrial working class. Marx's theory that it would be the industrial working class that will generate the end of capitalism turned out to be historically completely false. In fact, to the extent that it did go authoritarian, it tended to support the authoritarianism of the right, the famous example being when the Social Democrats in Germany went with the war aims of the German state in the First World War. The working class supported the war—it went nationalist. That's always been an important part of this.
But the basic point is that in sensible societies the politics and the economic role of the working class meant that, like it or not, the capitalists had to make a compromise with them. They were too important and too potent in society to be ignored. They couldn't be forever repressed or suppressed. They had to be bought out, as it were. There were two ways of buying them: one is the creation of the welfare state, famously started by Bismarck in Germany, and giving them ever-increasing political rights, extending the franchise and allowing them into politics, which is what happened in Britain, for example, in the early 20th century. The Labour Party very soon, once it had been allowed a share of power, became a stabilizing force in democracy. It was consistently anti-Communist, the same with the Democrats in America when the unions became an enormous part of their base. They wanted a stable society, they wanted to get more prosperous. They wanted welfare. But they didn't want revolution. That created the welfare democracies of the mid-20th century. It was a solution to the conflict that Marx had described but a solution that he didn't envisage. And they became incredibly prosperous by historical standards, a level of prosperity that the serfs and peasants of old could not have even begun to imagine. It was a pretty good deal.
Mounk: How is it that technological changes undermine the persistence of that kind of industrial working class? And why is it that that becomes the first problem for the stability of democracy?
Wolf: Two things happened. First, productivity growth hit manufacturing in a very profound way. We have found that of the big sectors of our economy, there are two in which it's easiest to use machinery to replace people. The first and most striking is agriculture. Two hundred years ago, 60-70% of the labor force was in agriculture. Now it's less than 1% in our countries. And then manufacturing. We have found, over time, that we can produce more and more with fewer and fewer people in manufacturing. Manufacturing's price has fallen, its share in GDP in nominal prices is falling all the time, and its share of employment has fallen. In the U.S. and U.K., manufacturing is about 10% of the labor force now; it used to be 40%. That's a massive decline. Not all of that happened in the last half century, but it's been going on for a long time and it will continue. The industrial labor forces of old have just disappeared—part of that is trade. But it's also diminished very rapidly in countries with giant trade surpluses, like Germany—not as low, but the decline is as fast. The second thing that has happened is an immensely powerful skill bias in new employment. The next stage in our economic revolution, deindustrialization, was the growth of new services and new sectors in all sorts of service activities, but above all in everything tech-related, which demand highly skilled information workers, knowledge workers, all of whom went to university. We created a new, very powerful working class of university graduates who had very little sympathy or engagement with the old working class and who tended to have rather different values. This is a social revolution. It's an immense thing.
The final thing that happened was a liberalization revolution of which free trade was a part. But the biggest part was the release of the financial sector, increasingly, to dominate the economy, including the management of corporations and the allocation of resources; an enormous expansion in credit and debt (a really fundamental revolution); and, on top of that, the emergence of the new dominant tech sector that shifted a lot of income and wealth to the very top of our society, generated vast inequalities in wealth, and very significant inequalities of income at the top—essentially, it’s the emergence of a new plutocracy. All of this was going along fairly well until the financial crisis hit, which destabilized this economically and destroyed the legitimacy of this new system, creating the political upheavals we've seen. Why did the old free market, free trade, banking sort of conservatives get replaced by nationalist, protectionist, would-be autocrats? The financial crisis played a huge role—the sense of injustice and the sense that the elites had rigged the system against ordinary people. That's what Donald Trump so brilliantly exploited.
Mounk: Within the economic explanation, it seems to me that there are two slightly different ways of accounting for the roots of populism. One puts its emphasis on the more recent crisis, saying that what we're dealing with are still the aftereffects of the very deep economic crisis that came to a boil in 2008. There's some good historical evidence for that. Then, in a different strand of what you've talked about, you emphasize these more long-term structural changes, the decline of the industrial working class and so on. Now, if we think that the problem in the main originates from the recent economic crisis, then perhaps it's just a question of waiting it out. But if you think that this is not just dealing with these relatively long-lasting aftereffects, and it really is that the structure of our economy is no longer conducive, in the way that it once was, to stable mass politics that adheres to basic democratic values and norms, then we might need a much more radical restructuring of the economy to withstand or overcome the crisis of democratic capitalism.
How do you put these two different causes in conversation with each other? What do you think is the right description of what the likely future of the crisis of democratic capitalism is?
Wolf: This is a wonderful question which I don't address directly in my book. I probably should have, but the book is already long enough. The answer is that I don't know, as is always true about the future. There is an argument that not only because the financial crisis is fading into the distance, but because the populists in power mostly tended to be very unsuccessful, that people will say, “Well, we've had enough of all this noise, this disruption and absurdity, and we're going to go back to more sensible, middle-of-the-road people.” You could say that Biden's election, the overthrow of Johnson, the way that the new prime minister of Italy, despite the fact that she's from a Fascist party, is actually ruling—all this reinforces the view that we're actually going back to a politics where people want normal, reasonable policy done by normal, reasonable people—back to, as it were, the establishment, with people like Sunak and Biden. I hope that this is correct. It's perfectly possible that this will be correct. But the thing that worries me is that the establishment (this applies to me too) doesn’t really know how to generate the rising, widely-shared living standards on which the post-war settlement fundamentally rested. And our parties do not represent the economic interests of the bottom 50% of our population very well. They represent their cultural and social interests on the right; on the left they represent a bit of their economic interests in a welfare state sort of framework. But neither has anything that says, “Here you are, people without university degrees—you have a bright, blossoming, and burgeoning future in our society and our economy as it's developing.” Because the truth is, they don't.
I fear there may be a populism cycle: we may move out of populism now, these people will ultimately fail to deliver what people want and hope, and then there will be a return to new populist leaders. And our politics will start looking, with this huge plutocratic element, a bit like Latin American countries.
Mounk: Is this a crisis of economic knowledge or political representation? When you say you worry that we don't know how to bring about a situation in which there will be these broadly-rising living standards which helped to stabilize democratic capitalism in the past, is the primary obstacle towards achieving that that we don't know how to sustain that kind of growth? Or, perhaps, is it just much harder to sustain that growth once you are a fully developed economy and a lot of low-hanging fruit has been picked and eaten? Are there actually policies which, in theory, we could easily implement, but at the moment there isn't the political coalition, the political will, to implement?
Wolf: I do genuinely think it's very difficult. The technological and economic forces that created this widely-shared prosperity in the economy were, I think, temporary. If you look at where growth and demands are coming from now, most of them are coming from, and in, sectors which reward the most educated and the most skilled and generate enormous profits for the benefit of these people. I point out in the book the difference between Apple and General Motors, for example, the two most valuable companies of their age. In the United States, Apple basically doesn't invest anything in physical terms. It doesn't employ many people. It's a tiny labor force compared with what GM had. All the people it does employ are very skilled university graduates. It is a completely different sort of business. Finance is the same. It doesn't need clerks anymore. It just needs highly-skilled people to manage IT, relationships, and all the rest of it. So the high income-generating activities, by and large, don't generate working-class jobs, and most of those kinds of jobs that have been developed are in sectors like caring, which have no real economic power because they're paid for, to a very significant extent, by the state. Construction is weak because we don't have lots of children to build houses for. We're not building huge amounts of infrastructure because, again, we have moved into an economy which doesn't require lots of new infrastructure except in the energy case, which may be an exception.
For all sorts of reasons, it doesn't look as though the economy is going to go back to creating the sorts of structures you used to have. Trade is a bit of a factor but it's not the decisive one. I think there are two ways of thinking about what we should do: one is to really do our best to generate new growth and at the same time insist that the terms on which people are employed, directly and indirectly by the new growth, are decent—that will probably mean high minimum wages, lots of labor subsidies and so forth.
But in the limit, if this goes on enough, we may have to start thinking about radical policies on how ownership is shared—how the rental income generated by innovation and so forth is shared within our societies if we're not to go back, as many fear, to a sort of quasi-feudal structure; a society in which a small proportion of the population own not only all the means of production but generate from it such a vast income stream (this is not what we're seeing yet, at all) that they completely dominate society. What we're seeing now is that they, with this new professional middle class, completely dominate society. But I think we have to be agnostic on whether the economy is really going to help us. At the moment, it isn't.
Mounk: I admire your honesty about the difficulty of knowing exactly what to do. But is there nevertheless a prescription? For listeners who agree with you about the crisis of democratic capitalism, and the way in which the economic dimension is crucial here, and the way in which these two different crises reinforce each other, what are the prospects for success? And what can all of us do in order to maximize the likelihood that democratic capitalism may survive?
Wolf: Well, I do think there are low-hanging fruit here. We should try, so far as we can, to have a politics that focuses on broadly-shared welfare rather than fundamentally divisive cultural issues. The big problem with cultural issues is they really are zero-sum; they're war to the death, as it were. And that's not necessarily true if you focus on giving people opportunities for a better life. You have to pay more tax—that I accept. But if you give people childcare, better education, better chances, greater equality of opportunity, better health care in the U.S. (which is crucial), start attacking some of the new monopolies that we are seeing emerging across a whole slew of sectors where in different ways the regime allows essentially for monopolization, a very big point in health in the U.S. and also in the new tech sector. Insist that the tax system is much fairer and is actually implemented—there are all sorts of loopholes that have cultivated this new plutocracy. It is true that the average tax rate of the richest people in the US is below that of the other groups in society. That seems monstrously unjust. You can reintroduce death duties to prevent the creation of a hereditary plutocracy.
You can go back, in other words, to many of the policies that were introduced in the middle of the 20th century and subsequently abandoned. You can change corporate governance. I think there's a strong case for saying that there should be greater involvement of workers in corporate governance; the shareholder value–maximizing model has not been really as effective as we would hope. There are lots of things you can do to make the system fairer. You're going to have to follow the sort of active labor market policies you see in countries in Northern Europe which have been remarkably successful. If you combine it with training, people who you wouldn't think you could get to do completely different jobs actually do learn how to do so. This all requires, of course, an active state with some greater level of tax support. So it is a political revolution. But it seems to me that those things are feasible and, conceivably, are things that most people will recognize as worth doing if the alternative is a political breakdown. What I'm arguing is that the alternative might be a political breakdown. What that will look like, we can look around the world to see—it's going to be really very unpleasant.
Mounk: That's actually exactly what I was going to ask you as a last question. What would be lost if the crisis of democratic capitalism cannot be remedied? What are the stakes here that should motivate us?
Wolf: The stake is that the angry and disaffected of various kinds—cultural and economic (we can discuss the interaction between them)—will end up installing somebody who subverts the norms and rules of democracy and basically creates what we've now come to call an “illiberal democracy,” which is what Sergei Guriev calls a spin dictatorship. Essentially, they erode the rule of law, they put their own cronies in the principal positions of power in the legal system, the judiciary, the police forces, the army, and so forth; they effectively ensure that the media are controlled by their friends; they use the legal system and the tax system to persecute their enemies, including many rich people. They basically create a state which is dominated by them and those whom they choose. It's a complete subversion of democracy from within and it's the principal way democracies are disappearing around the world. In emerging countries it's happening all the time. We might remember that 23 years ago, when Putin was elected leader, we thought that maybe Russia was going to become a democracy—not exactly what has happened. The danger is that that is what will happen. We're seeing it now in places I would never have imagined it would happen—Israel, for example. I think Trump, some of his supporters, and some of the people behind him have similar tendencies.
Now, what do you lose? What you lose, ultimately, is your freedom and your security. You may be allowed to be rich, but you live at the whim of the ruler. And the economy will not work well because the ruler will use his whims to favor those he wants to favor and penalize those who are against him, which is not compatible with a proper or decent market economy. But it will also have political and social impact: people will stop saying what they think. People will have to be careful about what they say. Now, we're seeing that on the left, in one way, and we will be seeing that on the right. In that sort of society, what I think of as core liberal values will erode and disappear.
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Martin Wolf on the Crisis of Democratic Capitalism