From Ian Bremmer, president of Eurasia Group and author of The End of the Free Market: Who Wins the War Between States and Corporations?, who is presenting at the CFA Institute 2010 Annual Conference, which begins on Sunday in Boston…

America has now moved beyond a sense of financial crisis and into the game of assigning blame. Books like “The Big Short” and “13 Bankers” have hit the shelves. Goldman Sachs heavies have been hauled before Congress to explain themselves. Our eyes are fixed firmly on the rearview mirror.

But this contest of personalities obscures something important: The past 20 months have shifted the world’s balance of political and economic power on a scale we haven’t seen since the end of the Cold War—perhaps since the aftermath of World War II. Free markets now face an extraordinary challenge.

First, the free-market capitalists themselves are struggling these days. French President Nicolas Sarkozy kicked off 2010 with a warning at Davos that globalization had “skidded out of control.” Europe’s weakest links have since pushed the union into turmoil. Japan’s indebted and dysfunctional government has made few friends within the country’s industrial elite. In an America burdened with nearly 10 percent unemployment, the bankers are now the bad guys, and no one is pushing a trade agenda.

Elsewhere, the power of the state is back.

The end of the Cold War did not mark the triumph of free-market capitalism because it did not mark the end of authoritarian government. The collapse of Communism made clear that government cannot simply mandate lasting economic growth. To fuel the rising standards of living on which their long-term political survival will depend, most authoritarians have accepted that they must embrace markets. But they know that if they leave it entirely to market forces to determine winners and losers, they empower some who might use the new wealth to challenge the state’s political monopoly.

To maximize control over how (and for whom) wealth is generated, authoritarians have embraced state capitalism. In China, Russia, the Arab monarchies of the Persian Gulf and other non-democracies, the state now dominates entire domestic economic sectors. They use state-owned and politically loyal, privately owned companies to intervene in global markets for energy, aviation, shipping, power generation, arms production, telecommunications, metals, minerals, petrochem­icals, and other industries. (The oil companies they own now control more than three quarters of the world’s crude oil reserves.) They finance state capitalism with the help of increasingly large sovereign wealth funds.

In the process, the state uses markets to create wealth that can be directed as political officials see fit. The ultimate motive is not economic (maximizing growth) but political (maximizing the state’s power and the leadership’s chances of survival).

This new system, made more attractive for would-be imitators by China’s robust recovery from the global slowdown, undermines free markets in several ways. Many of these state-owned companies and investment funds are as opaque and inefficient as the state bureaucracies to which they ultimately answer. This inefficiency—and the problem that political motives often trump economic objectives in their decision-making—lowers the trajectory of global economic growth.

In addition, Western companies and investors operating inside China, Russia and other state capitalist countries are discovering that once domestic companies develop the technical, management, and marketing expertise to begin to compete with outsiders, governments can use a variety of legal and administrative tools to favor the locals. Assumptions about openness to foreign investment in these countries must be continually revisited. Finally, multinationals operating in Africa, Latin America and throughout the developing world now find themselves competing on an unprecedented scale with Chinese and other state-owned companies armed with substantial material and political support from their governments.

In other words, those who believe in free markets can’t afford to look in the rearview mirror. Not with so many obstacles blocking the road ahead.

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The CFA Institute is running a blog for the Boston conference, which is available here.

This entry was posted by Guest writer on Thursday, May 13th, 2010 at 14:50 and is filed under Capital markets, People. Edit this entry.