Trade and Skilled Wages in Developing Countries

Most trade theories suggest that an expansion of trade raises wages of skilled workers and lower those of unskilled workers in developed countries. But what about the impact of international trade on wage premium of skilled workers in developing countries? Mitcher and Yan argue that wage skill premiums have increased in developing countries though wage premiums in China narrowed during the first two decades of the twentieth century. Their analysis is focused on the Chinese experience with wage and trade.

The reasons for wage premiums to go up: Trade in intermediate inputs, increases in capital flows, and capital for use with skilled labor increases wage premiums.

Using empirical evidence, as well simulation results from a general equilibrium model of trade, we show that the growth in Chinese trade and the price shock of World War I largely account for the flattening out of the skill premium in the 1910s and the subsequent 8% fall in the skill premium between 1920 and 1928.

Real wage premium in China (1900=100)

Our findings suggest that, when trade is dominated by the movement of relatively homogenous goods across borders, it may have a considerable effect on wages. The declining wage inequality in China during the second two decades of the twentieth century stands in contrast to studies examining the recent period of globalisation, which emphasise how trade and globalisation have widened skill premiums in developing countries.

The growth in Chinese exports during the first three decades of the twentieth century was centred on products that used unskilled labour intensively and this earlier era of globalisation was less influenced by trade in intermediate inputs (i.e., outsourcing), increases in capital flows, and capital for use with skilled labour. It is these factors that have likely played a role in widening skill premiums today in developing countries.

Financial Risk and Banks Explained in 3 Minutes

Costs of Nepal banda (Nepali version)

No, I did not write the article (बन्दको मूल्य)in Nepali language! My friend Bijaya Babu Shiwakoti translated my previous article “Costs of Nepal bandas” into Nepali language. It was published today in the most popular Nepali language daily (Nagarik) in Nepal.

If you understand Nepali language, read the article here :)

Botswana versus USA

The U.S. financial system was clever in figuring out how to exploit poor Americans, but it was unable to figure out how to serve them well. In Botswana, one of the more successful countries in Africa, I have seen how banks reach out to poor villages to provide basic financial services to people whose incomes are but a fraction of those of even the poorest Americans. (Botswana’s average per capita income is still only $13,604.) But in poor parts of America, individuals turn to check-cashing services to cash their checks, paying a fee as high as 20 percent of the value of the checks. It is a major industry-- another way that the poor are exploited.

That is from page 178 of Stiglitz’s new book Freefall: America, Free Markets, and the Sinking of the World Economy. It is fascinating book about the financial crisis, the role of the government, and the need for a “New Capitalism”.

In the innovative economy of the twenty-first century, government may need to take a more central role-- in providing the basic research on which the whole edifice rests; in shaping the direction of research, for instance, through grants and prizes to incentivize research directed at national needs; and in achieving a better balance in the intellectual property regime so that society can get more of the benefits of the incentives that it can provide without the associated costs, including that of monopolization. (pp.206)

There is an interesting discussion about the role of government and how it has been crucial in saving the economy and the private sector at times of crisis. He argues that one of the key roles of the government is to write the rules and provide the referees. “The rules are the laws that govern the market economy. The referees include the regulators and the judges who help enforce and interpret the laws. The old rules, whether they worked well in the past, are not the right rules for the twenty-first century.” More on next blog post!

Intro to National Rural Employment Guarantee Act (NREGA)

NREGA is a flagship rural employment generation and livelihood program of the UPA government in India. This social welfare program guarantees one hundred days of employment per year at the prevailing minimum wage rate for unskilled labor.

The Act[1] came into force on February 2, 2006 with an aim to “directly touch lives of the poor and promote inclusive growth.” Along with the objectives of boosting rural economy and enhancing overall (inclusive) economic growth, this public works program was also designed to prop up purchasing power of poor people; stabilize their household income; assure livelihood security to the most marginalized groups; accelerate the pace of meeting the MDGs; and strengthen natural resource management through works that address causes of chronic poverty like drought, deforestation and soil erosion. One of the objectives of the program is to make the process of employment generation sustainable.

It started with a pilot project in the state of Maharashtra in 1965 with an aim to provide relief to poor farmers during famine and drought. An Employment Guarantee Scheme (EGS) Act was passed in 1979 by the state legislature, widening the reach of the pilot program to the entire state. The federal government picked upon the success of the program and implemented (under Phase I) it in 200 of the most backward districts on February 2, 2006. It was expanded to cover an additional 130 districts in 2007/2008 (under Phase II) and the remaining (under Phase III) 285 districts (in total 615 rural districts) on April 1, 2008.[2] In 34 states, a total of 45,019,215 households (as of September 2, 2009) were provided employment in 2008/09.[3]

Main features:

• It guarantees employment within 15 days if a qualified person applies for employment application at a local administrative authority. The person should be willing to work on a piece-rate basis, which is fixed so that an average person working diligently for seven hours a day would earn an amount equal to the minimum wage.
• Adult members of a rural household willing to do unskilled manual work should have to apply for registration to the local Gram Panchayat, which, after verification, will issue a Job Card to the household. The Job Card has photographs of all adult members of the household who are willing to work under the Act. The Job Card holding household has to submit a written application for employment (with time and duration of work sought) to the Gram Panchayat, which then provides employment for up to at least 15 days.
• Work has to be provided within 5 km radius of the village or else extra wages of 10 percent have to be paid to workers. Moreover, working and living facilities (safe drinking water, shade for children and periods of rest for workers, first-aid box for emergency treatment and minor injuries, and safety equipments and measures for health hazards connected with work) have to be provided.
• The cost structure is designed in such a way that state governments have an incentive to offer unskilled manual work to qualified applicants; else they have to cover unemployment allowance if they fail to provide work within 15 days of application for work. The central government covers wage payment of unskilled manual workers, and three-fourths of material cost, wages of skilled and semi-skilled workers. The central government also bears administrative expenses, salary, and allowances of Program Officers, his supporting staff and worksite facilities. State governments should meet the cost of unemployment allowance, one-fourth of material cost, wages of skilled and semi-skilled workers, and administrative cost of State Employment Guarantee Council.
• One-third of the work is reserved for women.
• Works should be specifically geared toward rural development: water conservation and harvesting, affforestation, rural connectivity, flood control and protection, repair of embankments, construction of drinking water facilities like digging new ponds/tanks and building dams, and micro-irrigation facilities, among others.
• Wages have to be consistent with the Minimum Wages Act 1948 for agricultural labors in the State, unless the federal government notifies a wage rate, which should not be less than Rs 60 per day. The average daily wage of agricultural labors under NREGA has risen from Rs 65 in 2006 to Rs 83 in 2008. Wages are paid on a weekly basis and should not exceed a fortnight in case of delay in payment.
• Each district is allowed to prepare a shelf of projects (see below for the list of permissible works). At least 50 percent of works have to be allotted to Gram Panchayats for execution and a 60:40 wage to material ratio has to be maintained. The use of contractors and labor displacing machinery are prohibited. The Gram Sabha is responsible for social audit.

Permissible works:

• Water conservation and water harvesting
• Drought proofing (including afforestation and tree plantation)
• Irrigation canals including micro and minor irrigation works
• Provision of irrigation facility to land owned by SC/ST/beneficiaries under Indira Aawas Yojana (which was launched in 1997-78 with the aim to help construction of new dwelling units as well conversion of unserviceable weak houses to solid houses for use by the marginalized sections of the society who are living below the poverty line)
• Renovation of traditional water bodies including desalting of tanks
• Land development
• Flood control and protection works including drainage in water logged areas
• Rural connectivity to provide all weather access
• Other works notified by the Central/State government

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[1] On October 2, 2009, NREGA was renamed as Mahatma Gandhi Rural Employment Guarantee Act.

[2] "Employment guarantee quickening India’s march towards MDGs." UNDP. www.undp.org.in/index.php?option=com_content&view=article&id=536&Itemid=593 (accessed September 3, 2009).

[3] NREGA Implementation Status Report for the financial year 2008-2009 (http://nrega.nic.in/writereaddata/mpr_out/nregampr_0809.html). A total of 45430187 households demanded employment in 2008-2009.

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Impact of NREGA:

• The increase in wage earning has led to strengthening of livelihood resource base of the rural poor. A total of 45112792 households were provided jobs in 2008-2009 and 21632.48 lakhs persondays of employment were generated. Women participation equaled to 10357.27 lakhs persondays of work.

• Some states saw rise in minimum wages after the implementation of NREGA (see below).

1. -Maharashtra (Rs 47 to Rs 72)
2. -Utter Pradesh (Rs 58 to Rs 100)
3. -Bihar (Rs 68 to Rs 81)
4. -Karantaka (Rs 62 to 74)
5. -West Bengal (Rs 64 to Rs 75)
6. -Rajasthan (Rs 73 to Rs 100)
7. -Madhya Pradesh (Rs 58 to Rs 85)
8. -Himachal Pradesh (Rs 65 to Rs 75)
9. -Nagaland (Rs 66 to Rs 100)
10. -Jammu & Kashmir (Rs 45 to Rs 70)
11. -Chhattisgarh (Rs 58.73 to Rs 72.23)

• The program has high work participation of marginalized groups like Scheduled Caste/ Scheduled Tribe (SC/ST) and women. In FY 2008-2009, the SCs, STs, and women were provided with 6335.9 and 5501.64 and 10357.27 persondays (in lakhs) of work respectively.

• It has strengthened natural resource base of rural India. Water conservation and water harvesting, provision of irrigation facility to the land owned by labors, and rural connectivity were the top physical assets constructed in FY 2008-2009.
• The central government has tried to include the poor into the financial system by encouraging states to make wage payment through bank and post office accounts of wage seekers. A total of 33027094 and 5361037 individual and joint bank accounts respectively were opened in FY 2008-2009. Similarly, a total of 28137985 and 2073898 individual and joint post office accounts respectively were opened last fiscal year. In total, Rs 1083270 lakhs were disbursed through bank and post office accounts.
• The government claims that NREGA has led to enhancement of agricultural productivity (through water harvesting, check dams, ground water recharging, improved moisture content, check in soil erosion, and micro-irrigation), stemming of distressed migration, increased access to markets and services through rural connectivity works, supplementing household incomes, increase in women workforce participation ratios, and the regeneration of natural resources.

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Concerns about NREGA:

• Assets created by the poor people might be used primarily by elites, thus benefiting the poor little from the projects they themselves created.
• Public assets created by the program might simply crowd out or substitute private investment, thus net benefit might be very small.
• Participation rates are low because of the nature of projects undertaken, elaborate registration procedures, long distances to work-sites and low financial outlays[4].
• Potential benefits of assets may not be fully realized because there is no follow-up maintenance.
• A larger funding allocation to the poorest regions would help improve targeting, as well as confer substantially larger income stabilization benefits.

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[4] ODI, Inter-Regional Inequality Facility. "The Maharastra Employment Guarantee Scheme." ODI Policy Brief 6 (2006): 1-4.; Note that if employment place is not within a radius 5 km, transport allowance and 10 percent extra living allowance is provided. This also deters women from actively participating in the program.

Tackling The Last Mile

Very interesting talk by Sendhil Mullainathan.

Costs of strike/shutting down Nepal (bandas)

In my latest Op-ed I estimate the costs of strike or closing down a country. It is called banda in Nepali. Political parties, student unions, ethnic populations and anyone trying to show discontent over government policies call for banda and disrupt normal live and economic activity. There is only loss and pain (and no gain) from bandas.

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Costs of Nepal bandas

Organizing strikes (popularly known as bandas) have been the easiest way to either show discontent over government policies or to press for one that serves the interest of a certain group. The people dislike bandas because it never serves their interest. It costs them their freedom, vocation and income. Frustrated by the disruption of normal life, youths have initiated a campaign DIE Nepal Bandh DIE. Even Mother’s Groups in various cities have protested against bandas.

It has been a cancer to the industrial sector, whose contribution to the GDP has nosedived in recent years. A World Food Programme survey conducted last year in Tarai showed that 93 percent of food traders identified bandas as a major constraint to do business. Almost 14 percent of traders were forced to close down their businesses. According to Enterprise Survey 2009, 62 percent of enterprises think instability is the biggest constraint.

What are the costs of bandas to the country and importantly to the public? By looking at the cost incurred by each sector if it is shut down for a day, I did a quick back-of-the-envelope calculation. The numbers are startling: On an average, one day banda would cost Rs 1.96 billion, which is around 88 percent of the total value of goods and services produced in the country in a day. The industrial sector alone would suffer over Rs 346 million per banda day. Yes, you read it right. The country bleeds enormous amount in lost production and revenue.

The economy is divided into three major sectors: Agriculture, industry and service. The agriculture sector consists of two sub-sectors: Agriculture and forestry, and fishery. The industrial sector consists of mining and quarrying; manufacturing; electricity, gas and water; and construction sub-sectors. The service sector is composed of nine sub-sectors: Wholesale and retail trade; hotels and restaurants; transport, storage and communications; financial intermediation; real estate, renting and business; public administration and defense; education; health and social work; and other community, social and personal services. Each sub-sector’s contribution to GDP is different. Depending on the level of market integration, bandas impact these sub-sectors either fully or partially.

I look at two scenarios to estimate the cost of bandas. In the first scenario, agriculture and forestry; public administration and defense; education; and health and social work sub-sectors are not affected by bandas. In the second scenario, all sectors except 40 percent of agriculture and forestry sub-sector are affected by bandas. This is a reasonable assumption because bandas do not affect market transactions of all agricultural goods. No matter what, people do trade and consume bare minimum goods for survival. The rigidity value, which I define as the responsiveness of agricultural sector to bandas and assume it to be 40 percent, varies depending on the intensity and breadth of bandas. The less responsive the agricultural sector (i.e. the more rigid), the less it is affected.

Under the first and second scenarios, the cost would be at least Rs 1.23 billion and Rs 1.96 billion per banda day respectively. The second scenario is most likely when there is a nationwide strike. The first scenario is likely when there is a strike in certain parts of the country. Though these numbers might differ from other estimates with different assumptions, they nevertheless give a fairly good picture of the costs associated with bandas.

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On an average, one day banda would cost Rs 1.96 billion, which is around 88 percent of the total value of goods and services produced in the country in a day. The industrial sector alone would suffer over Rs 346 million per banda day.

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Based on the second scenario, let me put the costs in perspective. On average, one hour of banda would cost at least Rs 82 million to the economy. In other words, each person in the country would lose Rs 69 per banda day. If we consider the working population only, i.e. 15-64 years, then the cost would be Rs 117 per banda day. Furthermore, if there were a rural employment program that provides jobs and pays Rs 100 per day to people below the poverty line during the lean agriculture season, then one day of banda would have cost over 218,190 rural jobs.

The total cost would be even higher if we add indirect costs. For instance, bandas are complemented with destruction of public and private infrastructures, which costs millions to rebuild. Also, a few hours of economic activity are lost before the sub-sectors bounce back to full gear after bandas. Besides affecting the existing as well as future potential of tourism industry, one of the major sources of foreign exchange for the country, it also causes external migration and decline in exports. Rapid decline in exports is one of the reasons for Rs 20 billion balance of payments deficit in the first quarter of this fiscal year.

Frequent bandas trigger capital flight, which is detrimental to long-run economic growth. Partly due to bandas, multinational companies like Colgate Palmolive ceased production last year. The garment industry is near extinction. It is also putting upward pressure on general prices of goods and services, thus contributing to a double-digit inflation rate.

It is frustrating to see political leaders, who promised to develop Nepal like Switzerland, encouraging and initiating bandas. They are depriving citizens of the potential for an increase in per capita income, freedom to pursue one’s dream and vocation, and to live a peaceful life with a hope for a bright future. Bandas have ripped people off the very things that the organizers promised to bring them. Enough is enough. Say NO to bandas!

[Published in Republcia, January 30, 2010, pp.4]