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OPINION June 6, 2012, 6:44 p.m. ET

By LUIGI ZINGALES

As Greece sinks toward a financial abyss—and Portugal, Italy and Spain sit on the edge—can we in the United

States consider ourselves safe?

Fundamental economic numbers offer little reassurance. At 8.6% of gross domestic product, the U.S. budget

deficit is just under Greece's (9.1%) and equal to Spain's. U.S. debt, at 103% of GDP, is just below Portugal's

—which first asked for a European Union bailout in 2011—and 58% larger than Spain's, which might soon need

one.

Yet Americans should be concerned for a deeper reason. High deficits, high debt and unsustainable entitlements

are symptoms of a common disease infecting Southern Europe and the U.S. That's crony capitalism, a problem

with which I, having lived in Italy, am unfortunately familiar.

Cronyism has a long history in Italy, where historically the Catholic Church enjoyed tremendous influence.

Popes and other members of the hierarchy wielded—and often abused—enormous power, including that of

placing their children and friends in positions of influence, regardless of merit. A truly competitive market has

no place for favoritism, but when one company or institution dominates a market, such practices become

inevitable.

In Italy today, even emergency-room doctors gain promotions on the basis of political affiliation. Instead of

being told to study, young people are urged to "carry the bag" for powerful people in the hope of winning favors.

Mothers push their daughters into the arms of the rich and powerful, seeing it as the only avenue of social

promotion. The nation's talent-selection process is broken: One routinely finds highly intelligent people

employed in menial jobs while mediocre people often hold distinguished positions.

Once an incompetent appointee finds himself in a powerful position, he tends to hire only subordinates of equal

or lower quality, since more talented people pose a threat to him. After a few years, a firm's human capital will

become so eroded that it won't be able to compete without some form of protection. The more protection it can

gain from government, the greater the scope of the cronyism, which in turn makes protection even more

necessary. Crony capitalism creates a vicious circle.

Between 2001 and 2011, Italian per capita GDP dropped 4%. A low—or in Italy's case, negative—growth rate

makes it difficult to meet basic social obligations. When growth is high, it's much easier to satisfy everyone

without burdening future generations. But when the pie shrinks, the temptation to shift the burden onto

someone else is irresistible—hence growing future entitlements and expanding budget deficits. During the 10

years of negative growth, the Italian debt-to-GDP ratio increased to 120% from 109%.

The worst consequence of crony capitalism is political. The more a system is dominated by cronies, the more it

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Crony Capitalism and the Crisis of the WestIn Italy and Greece, the most talented don't get ahead. That's also increasingly true in the United States.

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generates resentment. To maintain consensus, the insiders must distribute privileges and subsidies—and the

more they dole out, the greater the demand becomes.

Traditionally, the U.S. has enjoyed a relatively honest democracy and transparent form of capitalism, which

encouraged robust economic growth and contained the hunger for entitlements. This is less and less true. The

U.S. tax code is filled with loopholes and special exemptions. Political connections increasingly count more than

innovative ideas; young entrepreneurs often learn to lobby before they learn how to run a business.

Seven out of the 10 richest counties in the U.S. are in the suburbs of Washington, D.C., which produces little

except rules and regulations. Even worse, the slow growth and decreased social mobility of the last decade have

damaged the free market's reputation as a creator of prosperity. The hundreds of millions of dollars awarded for

disastrous economic performance—from Robert Rubin's salary as chairman of almost-bankrupt Citigroup to

government loans for the actually bankrupt solar company Solyndra—have in turn weakened public belief in the

system's fairness.

For the U.S., the moment to act is now, before the cancer of crony capitalism metastasizes. The tax code needs

an overhaul that eliminates special treatment and bans any form of corporate subsidy—starting with too-big-

to-fail banks. We must find ways to introduce more competition into sectors such as education and health care,

while expanding economic opportunity for those at the lower end of the income spectrum. And we must curb the

political power that large industry incumbents have over legislation. Not only does it distort legislation, it also

forces new entrants to compete on lobbying instead of concentrating on making more innovative and cheaper

products.

It is not too late for the United States, but the clock is ticking. We have already begun to look like Italy. If we

don't do something to stop that soon, we will end up like Greece.

Mr. Zingales is a professor at the University of Chicago Booth School of Business and a contributing editor to

City Journal. His book, "A Capitalism for the People: Recapturing the Lost Genius of American Prosperity,"

was published this week by Basic Books.

A version of this article appeared June 7, 2012, on page A19 in the U.S. edition of The Wall Street Journal, with

the headline: Crony Capitalism and the Crisis of the West.

Luigi Zingales: Crony Capitalism and the Crisis of the West - WSJ.com http://online.wsj.com/article/SB10001424052702303665904577450071...

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