Skidelsky on economics and Keynes

The FT interviews Robert Skidelsky, the biographer of Keynes. Some interesting perspectives:

Skidelsky on if economists failed to foresee the dangers posed by uncontrolled capitalism hinged on mathematical models and detached from reality:

Skidelsky believes economists missed the danger signs ahead of the financial crisis. They were preoccupied with sophisticated mathematical models – a serious weakness, he says, in academic teaching of the discipline – and they were over-confident in self-regulation of the market.

He blames this mindset on the revival of anti-Keynesianism in the 1970s when government intervention in the economy made way for supply-side theory of tax cuts and labour market deregulation. But Keynesians, too, were guilty of overreaching: they assumed the state was capable of fine-tuning demand to mitigate the effects of the economic cycle. Today, Keynesianism has reasserted itself through multi-billion pound government interventions to stimulate the economy and recapitalise the banking system. Skidelsky is no statist but he says the crisis has exposed serious weaknesses in economic policy, from the Bank of England’s inflation targeting (“They did not have the tools”) to the Labour government’s belief in light-touch regulation.

A famous quote from Keynes:

The long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy a task ... if they can only tell us that when the storm is past the ocean is flat again.

Hans Rosling’s new presentation

Hans Rosling gave a fantastic presentation (combining academic substance plus technology) at a talk show. Watch the interesting presentation about growth, healthcare, and infant mortality.

 

Equally interesting are his 2006 talk and 2007 talk.

Chang calls for constructive debate on industrial policy

Ha-Joon Chang has a new paper on industrial policy (I think it is still a draft), which he presented at ABCDE conference in South Korea recently. He tries to push the debate over industrial policy in a constructive path, i.e. how to make industrial policy work better rather than wholly criticizing it despite knowing that every country in one way or the other, even under the WTO rules, engages in industrial policy. Below is a summary of main point of the paper.

Chang argues for "selective industrial policy", which basically is a policy that deliberately favors particular industries over others, against the dictates of market, to enhance (not necessarily) efficiency and promote productivity growth. Almost all industrial policy measures involve selectivity and targeting; the real difference lies in the degree of targeting. A more targeted industrial policy would mean easier monitoring and lesser "leakages".

He argues that the state can sometimes “beat the market" because it designs policies based on a national and long-term perspective, rather than sectional, short-term perspective. This is close to the development experiences of Japan, South Korea, Taiwan, and Singapore in the post WWII period. [Rodrik also makes a similar argument for selective intervention to clear information externalities and coordination failures in the market. For instance Brazil directly aided its steel, aircraft and shoe industries (high levels of protection and public ownership, R&D investment and subsidized credit); Chile aided its grape, forestry, and salmon industries (R&D investment), and Mexico aided its motor vehicle and computer industries (ISI initially followed by preferential tariff policies under NAFTA)].

Chang shows evidence that industrial policy had been practiced for a long time, even in the existing bastions of free market economy. The US government ran a huge industrial policy-- between 1950 and 1980, 47-65% of national R&D spending was financed by the US government as against approximately 20% in Japan and Korea and 30% in Europe. The US and Britain had the world's highest levels of tariff protection during their respective catch-up periods (45-55%). The successful countries right now provided subsidies to promote targeted industries, set up state-owned enterprises or public-private joint ventures for risky projects and regulated FDI, among other measures. In the post-WWII period, Japan was the first country that used the term industrial policy (sangyo seisaku) to mean selective industrial policy.

According to Chang, industrial policy measures in East Asia included:

1. coordination of complementary investments (Big Push)
2. coordination of competing investments through entry regulation, "investment cartels", and (in declining industries) negotiated capacity cuts
3. policies to ensure scale economies (e.g., licensing conditional upon production scale, emphasis on the infant industries starting to export from early on, state-mediated mergers and acquisitions)
4. regulation on technology imports (e.g., screening for overly obsolete technologies, cap on technology licensing royalties)
5. regulation on FDI (e.g., entry and ownership restrictions, local contents requirement, technology transfer requirements, export requirements)
6. mandatory worker training for firms above a certain size, in order to resolve the collective action problem in the supply of skilled workers due to the possibility of "poaching" [It is like reducing information externalities by publicly investing in industries-oriented/job-oriented education.]
7. the state acting as a venture capitalist and incubating high-tech firms
8. export promotion (e.g., export subsidies, export loan guarantees, marketing help from the state trading agency)
9. government allocation of foreign exchanges, with top priority to capital goods imports (especially for export industries) and the bottom priority to luxury consumption goods imports.

He maintains that industrial policy cannot be measured purely in terms of financial transfers because the effect of many of industrial policies (especially at the sectoral level and the economy-wide level) are not quantifiable. Also, the impact of a country's industrial policy cannot be fully measured in few years because of "super-sectoral" policy measures that address issues like complementarities, linkages, and externalities-- all of these take years, even decades, to come to full shape. For instance, Korea's resurgence in steel trading took years after Heavy and Chemical Industrialization (HCI) was launched in 1973. Chang rejects the notion that the East Asian countries could have grown even faster if there were no industrial policies. He also dismisses the argument that East Asian countries were more productive because of culture (high savings rate, strict work ethic, high-quality bureaucracy).

These countries must have had some country-specific "countervailing forces" that were so powerful that they cancelled out all the harmful effects of market-distorting industrial policy and still generated the highest growth rates in human history (6-7% annual growth rate in per capita income over four decades). I find this highly implausible. Are these skeptics really seriously suggesting that, without industrial policy, these powerful countervailing forces would have made the East Asian countries grow at- what?-9%, 10%, or even 12%, when no country in history has ever grown at faster than 7% for an extended period, industrial policy or not?" [...] "Korea's savings rate on the eve of its economic miracle was barely 5% and started rising after growth took off. At the end of colonial rule, literacy rate in Korea was only 22% and its industrial base was smaller than that of Ghana. After 1950s, Korea and Taiwan did not get an exceptionally high amount of foreign aid.

He believes that industrial policy did work in East Asia and its relevance has not died yet.

If industrial policy is so bad, how is that in every era, the fastest growing economies happen to be those with a strong industrial policy- Britain during the mid-18th century and mid-19th century, the US, Germany, and Sweden during the late 19th and the early 20th century, East Asia, France, Finland, Norway, and Austria in the late 20th century, and China today.

Chang argues that industrial policy should be taken as a standard policy measure rather than an extreme argument intended to generate a fear of government takeover of industries. Rather than wholly rejecting or criticizing it, it is helpful to debate on how it can be improved and really targeted at reducing market inefficiencies. For this to happen, developing countries need the institutional reforms that would aid the objectives of a good industrial policy. This way industrial policy can be disassociated with past ISI policies , which did not produce as good a result in Latin America as the selective industrial policy produced in East Asia. In order for industrial policy to work, there has to be some experimentation at home (Chang calls it "trying at home"), i.e. policies should be tried at home rather than copying from somewhere else. Even if bureaucratic capability is weak, industrial policy can be tried, i.e. you don't have to wait for first-order conditions to implement industrial policy.

He opines that export-oriented industrial policy helps to inculcate better discipline in bureaucracy because the “objective, hard-to-manipulate” performance indicator is pretty much free of lobbying and special interest pressure, i.e. export performance indicators are less open to manipulation by the recipients of state support than domestic performance indicators.

Economic development is impossible without good export performance. He argues that the failure to promote enough exports is one of the reasons why Latin American stint with ISI was not successful as those in East Asia. Balance of payments could be a strong constraint to economic growth.

Even if a country can export some goods with comparative advantage, industrial policy is still needed because there might be other sectors that could turn out to be more favorable if productive capabilities are built in time (with state support). For long run growth, it is not enough to rely on comparative advantage-conforming industries. For instance, a small rise in wages, which in turn could be caused by rise in exports of narrow set of goods, could undermine the balance of an economy. Avoiding this would require upgrading from export industries to comparative advantage-defying industries, which requires even stronger industrial policy. Example: Heavy and Chemical Industrialization (HCI) program in South Korea. He thinks that globalization has not diminished the role of industrial policy as some form of tariff structure, however minimal, always exist in WTO rules.

Export policy would require a mixture of free trade, export promotion, and infant industry protection—all part of an industrial policy. He argues that many proponents of industrial policy do not fully appreciate how critical export is for the success of industrial policy, while many opponents do not fully appreciate how export success also requires industrial policy.

After over 8 years, where does AGOA stand?

Africa Growth and Opportunity Act (AGOA), signed in May 18, 2000, provides Sub-Saharan African exports (mostly textiles and apparel) duty and quota free entry into the US markets and also provides for trade facilitation and technical assistance to African producers. After more than eight years, how much has African countries actually benefited and if it is helping them achieve what AGOA was supposed to. Mwangi Kimenyi, Brookings Institution, argues that though trade volume has increased multiple folds, the AGOA's impact on stimulating growth and increasing employment have been limited. It is not good news since AGOA is usually touted as one of the best trade and investment strategies offered by US to the Sub-Saharan African countries. At present, 37 countries are AGOA-eligible.

What's the impact of AGOA? First, there is always an increase in volume of trade whenever there is free trade or trade under preferential trading agreements. The imports to US from Sub-Saharan Africa (SSA) increased by multiple folds-- in 2008, the US imported $81 billion of duty free goods from AGOA-eligible countries, up from $7.6 billion in 2001. Kimenyi argues that though there has been an increase in trade volume, the African countries have not been able to exploit fully the opportunities given to them by AGOA. The share of African countries' exports in global trade is very low.

In 2008 total apparel imports to the U.S. were valued at $93 billion, of which SSA accounted for $1.1 billion (1.26 % of the total market). In the same year, Bangladesh alone exported $3.5 billion worth of apparel (3.79 % of total market)—more than double the entire exports from SSA. Also of concern is that African exports under AGOA have declined in recent years. For example, African AGOA exports in 2004 and 2007 accounted for 54.5% and 36.5% of total exports to the United States respectively.

Also, AGOA has not fully helped the African countries diversify their production structure. Some of the goods that are exported now are the same covered under Generalized System of Preferences (GSP). Importantly, almost 96 percent of the exported items are energy related, which would have been exported anyhow due the continuing rise in demand for energy in the global market.

Of the AGOA exports, $52.8 billion of exports (95.7 percent) consisted of energy related products (mainly crude oil). Thus, the real benefits of AGOA to African countries are much lower than what aggregate numbers show—about $3.5 billion of exports.

He argues that since the African countries have been unable to exploit the opportunities provided by both GSP and AGOA, emphasis should be put on helping the countries overcome their trade-related shortcoming. Two important recommendations are:

-Cutting down the cost of doing business: SSA countries are not competitive because of a lack of infrastructure, ports, electricity; regulatory burden and licensing procedure. The Doing Business Report shows that the ease of doing business in SSA is the lowest when compared to other regions.

-Investing in value addition: Economic transformation is required for development and policies should be designed to help in diversification of production and export goods so that increased production also means increased value addition.

Other recommendations include simplifying the approval process (especially on health and safety standards while importing to the US); evaluating proposed preferences to less developed countries (providing similar access to other developing countries that are already established in the field destroy SSA investment and exports); revocation of status (investors might pull back investment if there is a possibility that a given AGOA-eligible country could be stripped off the AGOA benefits due to political reasons); harmonizing member positions (African countries should have a collective, concerted voice through the African Union so that they are well represented and well heard during trade negotiations).

A demand-determined economy

A country-specific policy package that recognises economies to be demand-determined would have the following components: (i) an expan fiscal budget, consistent with the rule that the overall deficit not exceed public investment; (ii) an accommodating monetary policy that tolerates moderate inflation in order to achieve higher growth by providing subsidised credit for poverty reduction programmes (the target could be that the real interest rate equals the sustainable growth rate of per capita income—the Golden Rule); and (iii) a managed exchange rate regime that seeks to promote exports and alter the relative price of tradeables and nontradeables without causing unmanageable inflation spirals.

That's from Degol Hailu and John Weeks on IPC's One Page#92. The point is that low income countries can implement counter-cyclical economic policies if they adopt a demand-determined economy framework instead of price-determined economy framework.

Quality of education and economic growth

Here is a short piece about why the quality of education matters more for growth than just quantity of education (high enrollment rates). The authors argues that this (quality of education) might provide answers to the Latin American puzzle-- despite high school enrollment (partly also due to quantitative goals set by MDG--to ensure universal primary education by 2015), why Latin American is lagging in terms of economic growth. Good quality of human resource with high cognitive skills matter more to economic growth than simple quantitative goals. Not a very surprising result but they do statistical tests to provide more validity to this line of argument.

What has been missing is a focus on the quality, rather than quantity, of education – ensuring that students actually learn. While Latin America has had reasonable school attainment, what students in fact know is comparatively very poor. Latin American countries have participated infrequently in worldwide student achievement tests, but their students always rank near the bottom of worldwide comparisons.

Source: Hanushek and Woessmann (2009b). Added-variable plot of a regression of the average annual rate of growth (in percent) of real GDP per capita in 1960-2000 on the 1960 level of real GDP per capita and average scores on international student achievement tests (mean of the unconditional variables added to each axis). Region codes: Asia (ASIA), Commonwealth OECD members (COMM), Europe (EURO), Latin America (LATAM), Middle East and North Africa (MENA), Sub-Saharan Africa (SSAFR).

As the figure makes patently clear, considering this low level of cognitive skills is sufficient to reconcile the poor growth performance of Latin America with outcomes in the rest of the world over the past four decades. Our interpretation is simple. Even though many things enter into economic growth and development, the cognitive skills of the population are extremely important for long-run growth.

The crucial missing link in explaining why Latin America went from reasonably rich in the early post-war period to relatively poor today is its low cognitive skills. […] Our results using the regional test data support the important role of cognitive skills in understanding Latin American growth. These test scores are statistically and quantitatively significant in predicting economic growth differences in intra-regional growth regressions. They increase the explanatory power of standard growth models considerably and render the effect of years of schooling insignificant. In sum, schooling appears relevant for economic growth only insofar as it actually raises the knowledge that students gain as depicted in tests of cognitive skills.

Why China is growing faster than India?

Why are China and India growing faster than other countries? Also, why is China growing faster than India? T.N. Srinivasan argues (via Chris Blattman) that it is because of:

First, productivity growth is king. Sustained growth in both countries comes from learning to make better things more efficiently.

Second, reforms stimulate productivity growth. In both nations, a period of intense economic and political restructuring (mostly towards markets) led to takeoffs in growth.

Third, the reforms followed major crises. In China, reform followed the failures of the Great Leap Forward and the Cultural Revolution, while in India it was the balance of payments crisis in the early 1990s.

So why did China take off sooner and faster than India? Because the crisis hit earlier. Today’s fruits of prosperity grew from the seeds of Mao’s disastrous policies.

Srinivasan asserts that in the future India has higher potential for higher growth than China does because (contingent on right reforms in India):

India is younger, more rural, and engaged in lower productivity activities. A shift into higher productivity activities will only accelerate their growth.India’s economy is more market oriented, has a more efficient financial sector, and more experience in domestic innovation and entrepreneurship. China has less room for improvement; the population is aging, is already better educated and healthier than India, and has less capacity to innovate. Growth will continue, but it may have peaked.

Interesting perspective!