Markets, Human Capital and Inequality: Evidence from Rural China

Beginning in the 1980s, almost all of the socialist countries replaced their planned economies with economic systems that relied heavily on market forces to determine the production and allocation of goods and services. This transformation has affected the lives of nearly two billion people. Historically, the two main arguments in favour of planned economies were that they are more productive in the long run (because they avoided the inherent instability of market forces, and were able to mobilize more resources for investment than a decentralized system), and that they provide a more equitable distribution of income. The experience of both socialist and market economies in the twentieth century decisively rejects the first argument; it would be hard to find observers of almost any persuasion who claim that planned economies are more productive or more efficient than market economies. Yet the second argument may well be valid; planned economies may indeed be more equitable than market economies. This raises the possibility that some societies may wish to retain at least some of the policies of planned economies, despite their inefficiencies, to maintain a more equitable distribution of income. Consequently, for countries that abandoned planning in favour of the market an important policy issue is the extent to which this policy shift has increased inequality.