233
See also: Free market economics 54–61 ■ Marxist economics 100–05 ■ The competitive market 126–29 ■ Central
planning 142–47 ■ Economic liberalism 172–77
POST-WAR ECONOMICS
Attempting to understand the
problem, Hungarian economist
János Kornai hit on the concept
of the “soft budget constraint.”
In competitive markets, firms’
decisions are normally subject to
“hard” budget constraints: their
revenues must at least cover their
costs, or they will face financial
losses. This disciplines firms to
economize on inputs and sell
output in a way that maximizes
profits. Kornai noticed that in
planned economies such as
Hungary’s, firms were not subject
to this discipline: they faced soft,
not hard, budget constraints. The
state cushioned firms from the
threat of bankruptcy—firms that
produced essential goods would
never be forced to close. Even
after some market reforms were
implemented, the state continued
to bail out failing firms. In addition,
firms could use political bargaining
to get away with underpaying for
supplies, or avoiding taxation.
Soft budget constraints mean
that firms do not have to cover
costs with revenues. They tend to
demand excessive amounts of
inputs relative to production levels.
This leads to excess demands
for particular inputs, and then
shortages arising from inefficiency.
Shortages eventually trickle down
to consumers, who find shop
shelves bare. Kornai argued that
shortages would mean that
consumers would be subject to
“forced substitution,” the necessity
of having to purchase the next best
available good, given a shortage.Bailouts
Inefficiencies such as these added
up to serious weaknesses in
planned economies. Guaranteed
bailouts and a lack of budgetary
discipline meant firms had little
incentive to supply goods and
services efficiently.
Kornai describes soft budget
constraints as a “syndrome” of
central planning that cannot be
cured, because only a complete
systemic change would bring
a solution. The problem is not
confined to socialist countries—
Kornai has argued that major banksin the West face soft budget
constraints, since they expect to be
bailed out by their governments,
leading to inefficiently high levels of
risk-taking in the banking system.
On the other hand introducing hard
budget constraints into every state
or local-authority decision—such as
sending an insolvent family to
jail—might be seen as unjust. In
practice, even the most free market
economies contain a mix of hard
and soft budget constraints. ■János Kornai János Kornai is a Hungarian
economist best known for his
work on the planned economy. He
experienced the horrors of fascism
firsthand—his father died in
Auschwitz—and this drove him
to communism. He studied
philosophy in Budapest, but
changed to economics after
reading Marx’s Capital. In 1947,
Kornai began working on the
Communist Party newspaper,
but he broke with the Party in
the early 1950s, shaken by the
regime’s torture of an innocent
friend. His critical articles resulted
in his dismissal from the paper in- Refused permission to
leave Hungary, he worked at the
Hungarian Academy of Sciences
until 1985, when he took up a
post at Harvard. Kornai returned
to Hungary in 2001. He has
criticized neoclassical economics
for preferring abstract theorizing
to addressing and answering
the “big questions.”
Key works1959 Overcentralization in
Economic Administration
1971 Anti-equilibrium
1992 The Socialist SystemShortages were a feature of life in
centrally planned economies. If a line
began forming, shoppers would often
join it, because it meant that some
essential good was briefly available.