Links of Interest (2012-02-18)

Industrial policy works for smaller firms (If governments must provide investment subsidies to domestic firms, there is a much larger bang for their buck if they target small businesses rather than larger ones.)

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Demand composition and the trade collapse of 2008–09 (The Great Trade Collapse was mainly caused by the crash in global demand.)

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Non-tariff measures and supply chain (NTBs may add many trade costs along the supply chain and, in a world where production is fragmented across countries, they are associated with development traps.)

The figure below shows traded goods prices along the supply chain. Different policies apply to each part of the supply chain. Market distortions in international shipping specifically affect the difference between the free-on-board and cost-insurance-and-freight prices; import customs procedures then affect the landed duty-paid price; and restrictions on the size or hours of retail operations affect the difference between the wholesale and retail price.

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The impact of natural disasters on developing countries' trade flows (Due to natural disasters such as earthquakes, floods, and volcanic eruptions exports of disaster-hit small developing countries decline by 22 percent and the observed impact tends to last for about three years. Exports of larger developing countries, on the other hand, are not significantly affected.)

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What explains high unemployment? The aggregate demand channel (The decline in aggregate demand driven by household balance sheet shocks accounts for almost 4 million of the lost jobs from 2007 to 2009, or 65% of the lost jobs.)

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Preferential trade agreements and the world trade system

• Despite the proliferation of PTAs in recent years, the actual amount of liberalization that has been achieved through PTAs is actually quite limited.
• At least a few studies point to significant trade diversion in the context of particular PTAs and thus serve as a cautionary note against casual dismissals of trade diversion as a merely theoretical concern. Equally, adverse effects on the terms-of-trade of non-member countries have also been found in the literature.
• While the literature has found mixed results on the question of whether tariff preferences help or hurt multilateral liberalization, the picture is different with the more elastic tools of trade policy, such as antidumping duties (ADs); the use of ADs against non-members appears to have dramatically increased while the use of ADs against partner countries within PTAs has fallen.
• Despite the rapid expansion of preferences in trade, intra-PTA trade shares are relatively small for most PTAs; multilateral remain relevant to most member countries of the WTO.

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Conditional versus unconditional cash transfers in Burkina Faso

Compared with control group households, conditional cash transfers significantly increased the number of preventative health care visits during the previous year, while unconditional cash transfers did not have such an impact. For the conditional cash transfers, money given to mothers or fathers showed beneficial impacts of similar magnitude in increasing routine visits.

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China's Growing Role in Africa: Myths and Facts

China’s emergence as a major player in Africa’s trade, investment, and aid has led many to question the nature of its involvement. Critics say that China is only interested in resources, its exports to Africa threaten local industries, and it is displacing Africa’s traditional partners, like the United States. True, China is a large user of commodities and has a vital interest in developing Africa’s natural resources, but it is not just on a resource hunt. Moreover, the adverse impacts on Africa of China’s increased exports, both in internal and external markets, appear to be limited to specific industries such as garments. And despite their differences in priorities and approaches, China and the United States can complement each other in some areas. Africa has much to gain if it uses its leverage wisely.

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Beyond Keynesianism : Global infrastructure investments in times of crisis

As the world recovers only slowly from the 2008 financial crisis and Europe is facing a looming debt crisis, concerns have increased that the "new normal" -- a period of high unemployment, low returns on investment, high risks, and low growth -- may become protracted in advanced economies. If growth remains weak, unemployment rates and debt levels will be slow to recede. Consequently, the global recovery may continue to be fragile for years to come. What the world needs now is a growth-lifting strategy. This strategy could take the form of a global infrastructure initiative. Since debt levels are high, governments in the United States and Europe could increase demand and support growth through investments in bottleneck-releasing infrastructure projects that are self-financing. An infrastructure initiative should, however, go beyond the borders of advanced countries and include developing countries. Economic and social returns to infrastructure investments tend to be high in developing countries, which have become increasingly important drivers of global growth. At the same time, infrastructure investments require capital goods, most of which are produced in high-income countries. Scaling up infrastructure investment in developing countries could therefore help generate a virtuous cycle in support of a global recovery.

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Competitiveness of Nepal’s services sector

People usually focus on merchandise trade while analyzing trade performance because it is easier to access data at the most disaggregated level. But, what about the services sector of Nepal? There are many studies that have superficially looked  at services trade potential. But, the dynamism of this sector and its potential to ensure structural transformation are studied less than it is for merchandise trade (two recent studies that look at India’s services sector are here and here). Here is last year’s blog post about the relative competitiveness of services trade in comparison to merchandise trade.

Nepal is bearing negative trade balance in services trade since 2005 (see figure below). The total services trade deficit in 2010 was around US$199 million, up from US$137 million in 2009. Out of the six services sub-sectors that Nepal exports and imports, there was positive trade balance in communication services, government services, and other business services only in 2009 and 2010. Even among these three, notice that trade surplus in two sub-sectors is decreasing, but it is increasing in other business services (see table below). Surprisingly, in travel sub-sector, the trade deficit was US$58 million (US$344 million export and US$402 million import). I think due to the Nepal Tourism Year 2011 campaign and record number of visitors, trade balance in travel sub-sector might be better in 2011.

Now, how competitive is Nepal’s services sector? Let us look at the relative comparative advantage (RCA) index, which is simply the ratio of the share of a country’s total exports of a particular product of interest in its total exports to the share of world exports of the same product in total world exports. A country is said to have revealed comparative advantage if the RCA index is greater than unity. It is calculated as RCA_ij=(x_ij/X_it)/(x_wj/X_wt), where x_ij and x_wj are the values of country i’s exports of product j and world exports of product j, and X_it and X_wt refer to the country’s total exports and world total exports. Computing RCA index for Nepal’s exports of each services sector category reveals that Nepal actually enjoys comparative advantage in all of them (this despite the fact that there is trade deficit in three of the six sub-sectors).

	2008	2009	2010	2008	2009	2010
Product name	RCA index			Trade balance (US$ million)
Total services	1.52	1.47	2.23	-128.09	-136.86	-199.07
Transportation	0.37	0.59	0.63	-304.62	-233.07	-241.42
Travel	4.23	5.00	4.55	-45.93	-20.56	-58.09
Communications services	5.59	4.54	8.62	40.91	16.11	3.13
Insurance services	0.10	0.19	0.06	-29.79	-25.41	-29.59
Other business services	1.11	1.31	1.87	-6.41	35.79	63.25
Government services, n.i.e.	26.73	11.46	10.63	217.75	90.28	63.65

Source: Author’s computation based on ITC’s Trade Map database

Clearly, Nepal is unable to exploit the services sector market potential despite having comparative advantage in its trade. The problems faced by exports sector in general are:

• Inadequate supply of infrastructure, including power outages
• Political instability
• Labor militancy and rising cost of production
• Lack of innovation, R&D and overdependence on market concessions
• Inadequate supply of required human capital
• Policy implementation paralysis

In terms of employment, 65.7 percent of total employed are in agriculture sector, 13.4 percent in industrial sector, and 20.1 percent in services sector (data as of 2001). The value addition of agricultural sector, as percent of GDP, was 33.8 percent in 2009, with annual value added growth of 2.2 percent. The industrial sector value added ( percent of GDP) was 15.9 percent with annual value added growth of 1.78 percent. The manufacturing sector value added ( percent of GDP) was 7 percent with annual value added growth of –0.5 percent in 2009 (it was 2.6 percent in 2007). The services sector value added was 50.2 percent with annual value addition growth of 5.9 percent in 2009. Now, look at the employment being generated. Though the services sector contributes more than 50 percent of our GDP, it employs only 20 percent of the total employed.

Water and energy consumption in Nepal

The information is derived from from a recent report on green growth in Asia and the Pacific. The domestic water use per capita (471 cubic meters per capita in 2000) in Nepal is below the estimated minimum requirement. Leakage, inadequate water quality, inefficient domestic water use, and underinvestment in providing access to basic services are common features in countries with low water use per capita. No surprise that people in major urban centers can run their taps just for few hours each week. The work to channel water supply from Melamchi is yet to be realized ever after so many years of commencement of its construction.

Domestic material (including energy) consumption is pretty low (fifth lowest—2.64 tons per capita in 2005) compared to other countries in the continent. It signals potential for future growth by exploiting the available materials for consumption and production. Furthermore, per capita energy use is the third lowest (14.36 gigajoules per capita), followed by Myanmar and Bangladesh, in Asia and the Pacific. Note that countries with high energy use per capita tend to have high HDI value.

Recommendations for green growth and resource sustainability:

• Infrastructure investments should be guided by the principles of sustainability, accessibility, and social inclusiveness.
• “Natural infrastructure” provides valuable but undervalued economic inputs. Natural capital investments will help to secure critical ecosystem services (such as water regulation and flood control), achieve cost savings on infrastructure development, improve human and environmental security and can strengthen climate adaptation efforts through ecosystem-based adaptation approaches. Sustainable management of natural capital also enhances the potential for ecosystem services for economic transformation—for example where eco-tourism potential is developed as an economic development strategy. Investments should be targeted at key ecosystem services that hold particular value for their economies and societies.
• Sustainable agriculture is a critical aspect of maintaining and building natural capital.
• Greening of growth requires integrated strategies that support systemic change in integrated, complementary and mutually reinforcing ways. The complexity of challenges faced means that a clear vision, targets and monitoring approach are required. Also needed are targets and indicators that give policy-relevant information on the extent to which the economy is “growing green.”
• To ensure greater resilience, domestic policies should also encourage diversification in key sectors, such as industry, agriculture and energy.
• Approaches that enhance the capacity of communities and economies to resist initial shocks and to self-organize and adapt to changing conditions will be increasingly important.
• A transition to a green economy requires governance that is effective, fair and
  inclusive.

Job guarantee vs. income support program in Argentina

Pavlina R. Tcherneva argues that job guarantee program and income support plan should be combined to bring out an employer-of-last-resort programs in Argentina. Tcherneva argues: “An examination of the Argentine experience based on survey evidence and fieldwork reveals that poor women overwhelmingly want paid work opportunities, and that a policy such as the JG or the ELR cannot only guarantees full employment and macroeconomic stabilization, but it can also serve as an institutional vehicle that begins to transform some of the structures and norms that produce and reproduce gender disparities.”

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Tcherneva evaluates the transformation of Argentina's Plan Jefes, a job guarantee program, to Plan Familias, an income support plan, and finds that it represents a step backward for women by removing a number of benefits and reinforcing gender stereotypes. Paid work matters to women, says Tcherneva, and public employment plays a special role in providing an opportunity to work outside the home, especially for the poorest and most vulnerable of this group.

Employer-of-last-resort (ELR) programs can enhance individual well-being, so the role of fiscal policy extends beyond the goals of full employment and economic stability. The best way to combine the goals of basic income and job guarantees is to design a universal program in the form of an ELR, supplemented by a universal child allowance and income support for the sick and the retired.

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Major constraints faced by firms operating in Nepal

Though based on data from 2009, here is a snapshot of the major constraints faced by firms operating in Nepal. These problems are still persistent. See all of the survey results here and the Enterprise Survey report here.

A majority of the firms identified political instability as the main constraint to sound business environment in Nepal. For firms in South Asia and low income countries, political instability is not that big of a constraint as it is to Nepalese firms. However, electricity is a bigger constraint to firms in South Asia than it is for Nepal (as perceived by firms). Interestingly, for other constraints the proportion of surveyed Nepalese firms think the constraints faced by them are not as pressing as those thought by firms in the region.

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Now, the surveyed firms think that power outages is eating up their strength and revenue. Manufacturing firms are losing 28.2 percent of annual sales due to power outages. For retail sector, it is 25.6 percent. A recent study by the central bank found that the average capacity utilization of industrial sector in the last fiscal year was 54 percent, thanks to persistent power outages and labor problems.

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Pure hogwash: Improved state of Nepalese economy and the present government’s role

This article is published in today’s Republica. It has generated strong (also interesting) response.

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Pure hogwash

Desperate to give a positive message to public that the government is doing the needful to spur growth and job creation, the concerned authorities are echoing a similar line these days: The economy is back on track and investment climate is getting better. The officials at the prime minister’s office, the central bank and the finance ministry argue that growth will be 5 percent this fiscal year and the economy will see a surge in investment. Furthermore, they are asserting that the improvement in select macroeconomic indicators will entice foreign investment and spur jobs creation.

Nonsense. The fact is that the economy is still stuck in the same quagmire of low growth, low job opportunities, fledging industrial sector, high prices, low savings, high imports and consumption, and remittances-fueled impact-less investment cycles. The said rosy outlook is due to favorable exogenous factors. There is hardly any real policy change to induce structural transformation required to put the economy on a high growth path. All we have got is hastily designed grand plans and hollow promises to implement them.

The main source for the claim of 5 percent economic growth, which is likely to be not achieved, comes from the estimation by Ministry of Agriculture and Cooperatives (MoAC) that there will be bumper agriculture production, especially record paddy harvest. Agriculture sector constitutes about 33 percent of GDP and engages 83 percent of the population. Paddy is a major part of daily food consumption and contributes 21 percent to agricultural GDP. The officials have estimated that a 13.7 percent increase in paddy production will be enough to satisfy domestic demand, export surplus, and push up economic growth to 5 percent. Now, looking at the cheerful faces of ministers and policymakers, one wonders about their contribution in all this. Well, it is not because of any substantial policy change that agriculture production has increased; it is due to timely monsoon. The Bhattarai-led government cannot claim credit for this. A blip in agriculture production this year like it happened in 2007/08—when agriculture sector grew by 5.8 percent, leading to GDP growth of 6.1 percent— and its impact on growth does not mean that our economy is set on a track of high growth.

Furthermore, the main source for the claim of a favorable macroeconomic situation is a recently released macroeconomic update of the first five months of this fiscal year, which was misconstrued by leaders who are eager to show that economic indicators are sound during their tenure. The central bank’s figures reveal a huge balance of payments (BoP) surplus—an accounting record of all monetary transaction made between Nepal and all other countries—which reached Rs 61.19 billion. Similarly, current account—which is the aggregate of balance of trade (exports minus imports of both merchandise goods and services), net factor income (such as interests and dividends), and net transfer payments (such as remittances, foreign aid and pensions) — registered a surplus of Rs 24.89 billion. Another noticeable improvement was in foreign exchange reserves, which reached US$ 4.31 billion and is enough to finance imports of up to 9.3 months.

This definitely sends a good message about the state of our macroeconomy to absorb external shocks and repayment ability. Again, it was achieved not because of any sudden miraculous change in policies, but because of external factors. The increase in BoP surplus has to do more with massive increase in remittance inflows and improved services sector earnings. Remittance inflows increased by 37.9 percent between the first five months of this and last fiscal years. Transfers increased by 29.5 percent, including substantial excise refund by India. Services sector earnings increased by 46.4 percent. Some of these transfers are cyclical and some are just flukes in the account sheet. Meanwhile, forex reserves have improved mainly because of the increase in remittance inflows and depreciation of Nepalese currency against the dollar by approximately 17 percent. During the same period, reserves in Nepalese rupee increased by 35.4 percent, but in dollar terms the increase was just by 12.4 percent.

Just by looking at these numbers it defies logic to argue that investment environment has improved and economy is back on track. In fact, quick estimate based on the level of merchandise exports and imports so far this year shows that the total annual figures will hover around Rs 65 billion and Rs 400 billion respectively. Trade deficit will increase more than last year because of massive rise in imports of petroleum products, but it will be countered by rising remittance inflows and transfers, resulting in positive current account.

The very problems that have been plaguing the economy for a decade now are continuing to eat away its strength. There is nothing noteworthy the Maoist-led governments have done to address them after 2006. The average growth rate in the last decade was just 4.1 percent, with agriculture and non-agriculture growth rate averaging 3.18 percent and 2.34 percent respectively. Imports have reached about 32 percent of GDP and exports are merely 9 percent of GDP. Gross domestic savings are just 7 percent of GDP, signaling the dearth of domestic investment needed to launch big infrastructure projects. It is still very much a consumption fuelled economy, where increasing domestic production deficit is comfortably filled in by imports, which is financed by remittances. Development budget is heavily dependent on foreign aid and domestic revenue is inadequate to finance even recurrent expenditure. Many farmers in Terai and Hilly regions are short of adequate fertilizers needed to increase agriculture production, progress in repairing old and completing new irrigation projects has been frustrating, and food insecurity in remote areas remains as problematic as it were before due to weak distribution mechanism.

Meantime, domestic industries are gradually perishing. The power woes are stubbornly persistent and the grand plan of reducing load-shedding by importing power from India and by operating diesel plants never fructified. Rationing of electricity and persistent labor problems have forced industries to operate at barely 45 percent capacity. Labor unions have again started to show indifference and irresponsible attitude towards industrial development by shutting down manufacturing plants owned by both domestic and foreign investors (the latest saga being the closure of Unilever Nepal, one of the few remaining MNCs after 1996). Firms are unable to secure enough fuel to run their generators. Restaurants are pulling their shutter down due to shortage of cooking gas. Following the moderation in prices for a few months, inflation has started to creep up due to rise in prices of petroleum fuel, persistent supply-side constraints, and rise in retail prices of daily consumable goods and services. The threat to private property and forceful land grabbing by Maoist party’s cadres are still there. Safe appropriation of returns to investment is getting increasingly tough. Interest rates are high despite liquidity surplus in the banking sector. Enthusiastic entrepreneurs are dejected due to the lack of appropriate physical and regulatory infrastructure along with a supportive bureaucracy. In such a situation, one wonders how PM Bhattarai is aiming to entice US$1 billion of foreign investment, let alone investment commitment, in six months time when the total FDI in 2010 was barely US$39 million.

The claim of economic revolution by this government is pure hogwash. The economy is stuck in the same mess as it was before. The government has done nothing substantial to put it on the path of high growth, let alone address the short term constraints. The recent good news about bumper agriculture production, improved reserves and BoP surplus has nothing to do with policy changes by this government. Importantly, improvement in these indicators alone does not indicate an improved macroeconomy set to welcome more investment and ready to brace growth rate of over 5 percent.

[Published in Republica, February 11, 2012, p.6]

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Paul Krugman vs. the World

Source: Bloomberg Businessweek