Bill Gates strikes at Ridley (and Easterly)

Bill Gates reviews The Rational Optimist: How Prosperity Evolves by Matt Ridley and gives strong response to the leave-all-to-markets-and-chill out approach to innovation and development.

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In discussing Africa, Mr. Ridley relies on critics who say, essentially, "Aid doesn't work, hasn't worked and won't work." He cites studies, for instance, that show a lack of short-term economic benefit from aid, but he ignores the fact that health improvements, driven by aid, have been a major factor in slowing population growth, which has proven, in turn, to be critical to long-term economic growth. I may be biased toward aid because I spend my money on it and meet with lots of people who are alive because of it, but even if that were not the case, I would not be persuaded by such incomplete analysis.

Development in Africa is difficult to achieve, but I am optimistic that it will accelerate. Science will come up with vaccines for AIDS and malaria, and the "top-down" approach to aid criticized by Mr. Ridley (and by the economist William Easterly) will fund the delivery of these life-saving drugs. What Mr. Ridley fails to see is that worrying about the worst case—being pessimistic, to a degree—can actually help to drive a solution.

[…] Mr. Ridley devotes his attention to just two present-day problems, development in Africa and climate change, and seems to conclude, "Don't worry, be happy." My prescription would be, "Worry about fewer things while understanding the lessons of the past, including lessons about the importance of innovation." This might qualify me as a rational optimist, depending on how stringent the criteria are. But there can be no doubt that excessive pessimism may cause problems with how society plans for the future. Mr. Ridley's book should trigger in-depth discussions on this important subject.

Like many other authors who write about innovation, Mr. Ridley suggests that all innovation comes from new companies, with no contribution from established companies. As you might expect, I disagree with this view. He also seems to think that innovation involves simply coming up with a new idea, when in fact the execution of the idea is critical. He quotes the early venture capitalist Georges Doriot as saying that as soon as a company succeeds, it stops innovating. A great counterexample is Intel, which developed over 99% of its breakthroughs after its first success.

Mr. Ridley describes the economy of the future as "post-corporatist and post-capitalist," a silly throwaway phrase. He never explains what will replace all the companies that figure out how to make microchips or fertilizer or engines or drugs. Of course, many companies will come and go—that is a key element of capitalism—but corporations will continue to drive most innovation. It is a dangerous and widespread problem to underestimate the ongoing innovation that takes place within mature corporations.

In his quest to highlight exchange as the key mechanism in the success of our species, Mr. Ridley underplays the role of other institutions, including education, government, patents and science, all of which, especially since the 19th century, have played a central role in the improvements that humanity has experienced. Too often, when Mr. Ridley finds an example that minimizes the contributions of these institutions, he seems to think that he has validated the idea that exchange deserves all of the credit.

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NRB caps CEO perks and benefits

Finally, after months of hue and cry, Nepal’s central bank has finally fixed perks and benefits of CEOs of banks and financial institutions (BFIs). Well, in reality they have not capped it per se. It only gave guidelines to fix perks and benefits. The BFIs’ board is entrusted with the responsibility to fix perks and benefits in such a way that it does not violate the guidelines set by the Nepal Rastra Bank (NRB), the central bank. These guidelines are broad and will appease the public, who have been irked by the ultra-grandeur of bank executives, their high flying lifestyle and contributing to increasing income inequality at least in the banking sector.

Earlier, I had argued that NRB’s mandate is not to fix perks and benefits. It can, however, outline a set of indicators to determine salary and benefits. Currently, the salary of a CEO at a commercial bank ranges from Rs 500,000 to Rs 1.4 million a month.

Here are highlights of the new guidelines (sourced from Milan Mani Sharma’s article in today’s edition of Republica daily):

• NRB has asked the BFIs to limit the fixed annual salary and allowances for chief executives to less than 5 percent of the average staff expenses incurred over the previous three fiscal years or less than 0.025 percent of the company´s total assets at the end of the previous fiscal year, whichever is lower.
• It also bars BFIs from paying the incentives at one go. In case the incentive exceeds 40 percent of annual salary and allowances, BFIs should pay just 40 percent of the total amount within that fiscal year and distribute the rest in equal proportions (of 20 percent) over the next three fiscal years.
• If the BFI plunges into loss during that period, it is to reverse all the deferred incentives and account them as income.
• NRB has asked banks and financial institutions to cover the bill of just one telephone or cell phone.
• Vehicles to be provided to chief executives must not cost more than 50 percent of their annual salary and allowances. It bars BFIs from providing another vehicle to a CEO throughout his term, even in case of renewal of his or her term.
• BFIs are allowed to cover the fuel bill and salary of one driver for each CEO. They can cover the bills of the CEO´s professional memberships, internet use, newspapers and magazines, but the extent of such coverage must not exceed 0.50 percent of annual salary and allowances.

• The cap will not be applicable to banks and financial institutions that are in trouble.

  Likewise, banks and financial institutions are exempted if they are undergoing restructuring with donor assistance or if they are institutions in which the government has a full or partial stake (such as Rastriya Banijya Bank, Nepal Bank Limited and Agricultural Development Bank).

• The cap will not effect the branches of foreign banks (like Standard Chartered Bank Nepal) either.

Here is what I commented and proposed two months ago:

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When job market is stagnating, macroeconomic situation deteriorating, inflation staying at a very high level, and opportunities squeezing, it obviously fuels anger when people read about executives fetching monthly salaries that an average citizen cannot even earn in his lifetime. This is something BFIs and executives should ponder upon because it independently fuels anger in the society they themselves are a part of. The government and central bank could give into public pressure any time.

There could be a middle path to business and moral dimensions to the executive pay debate. For instance, a “fair” way could be that executives’ paycheck may be a function of a basket of indicators: Long-term growth prospects, overall debt, non-performing loans, rate of return from unproductive sectors (which should have minimal weight as the returns appear to be cyclical in nature), long-term rate of return from productive sectors, and diversification of investment and loan portfolios, among others. If there are strict, transparent and easily comprehensible criteria, then there would not be much controversy over this issue, which has been wrongly taken up by the central bank while failing to fulfill its explicit mandate.

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Iceland versus Ireland

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In early 2009, a joke was making the rounds: “What’s the difference between Iceland and Ireland? Answer: One letter and about six months.” This was supposed to be gallows humor. No matter how bad the Irish situation, it couldn’t be compared with the utter disaster that was Iceland.

But at this point Iceland seems, if anything, to be doing better than its near-namesake. Its economic slump was no deeper than Ireland’s, its job losses were less severe and it seems better positioned for recovery. In fact, investors now appear to consider Iceland’s debt safer than Ireland’s. How is that possible?

Part of the answer is that Iceland let foreign lenders to its runaway banks pay the price of their poor judgment, rather than putting its own taxpayers on the line to guarantee bad private debts. As the International Monetary Fund notes — approvingly! — “private sector bankruptcies have led to a marked decline in external debt.” Meanwhile, Iceland helped avoid a financial panic in part by imposing temporary capital controls — that is, by limiting the ability of residents to pull funds out of the country.

And Iceland has also benefited from the fact that, unlike Ireland, it still has its own currency; devaluation of the krona, which has made Iceland’s exports more competitive, has been an important factor in limiting the depth of Iceland’s slump.

None of these heterodox options are available to Ireland, say the wise heads. Ireland, they say, must continue to inflict pain on its citizens — because to do anything else would fatally undermine confidence.

But Ireland is now in its third year of austerity, and confidence just keeps draining away. And you have to wonder what it will take for serious people to realize that punishing the populace for the bankers’ sins is worse than a crime; it’s a mistake.

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Read the full article by Krugman here.

The end of the era of Samuelsonian synthesis

It is worth posting the entire blog post by Krugman.

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Brad DeLong writes of how our perception of history has changed in the wake of the Great Recession. We used to pity our grandfathers, who lacked both the knowledge and the compassion to fight the Great Depression effectively; now we see ourselves repeating all the old mistakes. I share his sentiments.

But watching the failure of policy over the past three years, I find myself believing, more and more, that this failure has deep roots – that we were in some sense doomed to go through this. Specifically, I now suspect that the kind of moderate economic policy regime Brad and I both support – a regime that by and large lets markets work, but in which the government is ready both to rein in excesses and fight slumps – is inherently unstable. It’s something that can last for a generation or so, but not much longer.

By “unstable” I don’t just mean Minsky-type financial instability, although that’s part of it. Equally crucial are the regime’s intellectual and political instability.

Intellectual instability

The brand of economics I use in my daily work – the brand that I still consider by far the most reasonable approach out there – was largely established by Paul Samuelson back in 1948, when he published the first edition of his classic textbook. It’s an approach that combines the grand tradition of microeconomics, with its emphasis on how the invisible hand leads to generally desirable outcomes, with Keynesian macroeconomics, which emphasizes the way the economy can develop magneto trouble, requiring policy intervention. In the Samuelsonian synthesis, one must count on the government to ensure more or less full employment; only once that can be taken as given do the usual virtues of free markets come to the fore.

It’s a deeply reasonable approach – but it’s also intellectually unstable. For it requires some strategic inconsistency in how you think about the economy. When you’re doing micro, you assume rational individuals and rapidly clearing markets; when you’re doing macro, frictions and ad hoc behavioral assumptions are essential.

So what? Inconsistency in the pursuit of useful guidance is no vice. The map is not the territory, and it’s OK to use different kinds of maps depending on what you’re trying to accomplish: if you’re driving, a road map suffices, if you’re going hiking, you really need a topo.

But economists were bound to push at the dividing line between micro and macro – which in practice has meant trying to make macro more like micro, basing more and more of it on optimization and market-clearing. And if the attempts to provide “microfoundations” fell short? Well, given human propensities, plus the law of diminishing disciples, it was probably inevitable that a substantial part of the economics profession would simply assume away the realities of the business cycle, because they didn’t fit the models.

The result was what I’ve called the Dark Age of macroeconomics, in which large numbers of economists literally knew nothing of the hard-won insights of the 30s and 40s – and, of course, went into spasms of rage when their ignorance was pointed out.

Political instability

It’s possible to be both a conservative and a Keynesian; after all, Keynes himself described his work as “moderately conservative in its implications.” But in practice, conservatives have always tended to view the assertion that government has any useful role in the economy as the thin edge of a socialist wedge. When William Buckley wrote God and Man at Yale, one of his key complaints was that the Yale faculty taught – horrors! – Keynesian economics.

I’ve always considered monetarism to be, in effect, an attempt to assuage conservative political prejudices without denying macroeconomic realities. What Friedman was saying was, in effect, yes, we need policy to stabilize the economy – but we can make that policy technical and largely mechanical, we can cordon it off from everything else. Just tell the central bank to stabilize M2, and aside from that, let freedom ring!

When monetarism failed – fighting words, but you know, it really did — it was replaced by the cult of the independent central bank. Put a bunch of bankerly men in charge of the monetary base, insulate them from political pressure, and let them deal with the business cycle; meanwhile, everything else can be conducted on free-market principles.

And this worked for a while – roughly speaking from 1985 to 2007, the era of the Great Moderation. It worked in part because the political insulation of central banks also gave them more than a bit of intellectual insulation, too. If we’re living in a Dark Age of macroeconomics, central banks have been its monasteries, hoarding and studying the ancient texts lost to the rest of the world. Even as the real business cycle people took over the professional journals, to the point where it became very hard to publish models in which monetary policy, let alone fiscal policy, matters, the research departments of the Fed system continued to study counter-cyclical policy in a relatively realistic way.

But this, too, was unstable. For one thing, there was bound to be a shock, sooner or later, too big for the central bankers to handle without help from broader fiscal policy. Also, sooner or later the barbarians were going to go after the monasteries too; and as the current furor over quantitative easing shows, the invading hordes have arrived.

Financial instability

Last but not least, the very success of central-bank-led stabilization, combined with financial deregulation – itself a by-product of the revival of free-market fundamentalism – set the stage for a crisis too big for the central bankers to handle. This is Minskyism: the long period of relative stability led to greater risk-taking, greater leverage, and, finally, a huge deleveraging shock. And Milton Friedman was wrong: in the face of a really big shock, which pushes the economy into a liquidity trap, the central bank can’t prevent a depression.

And by the time that big shock arrived, the descent into an intellectual Dark Age combined with the rejection of policy activism on political grounds had left us unable to agree on a wider response.

In the end, then, the era of the Samuelsonian synthesis was, I fear, doomed to come to a nasty end. And the result is the wreckage we see all around us.

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Issues for UNFCC Climate Negotiations in Cancun

Achala Chandani and Linda Siegele have published a briefing paper identifying six key issues on climate change that UNFCCC negotiations in Cancun should sort out: shared vision; adaptation; climate finance; technology transfer; reducing emissions from deforestation and degradation; and post-2012 emissions reduction targets.

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We must mitigate and adapt to climate change. On this, the international community is agreed. But exactly how to do that is still up for debate. There were high hopes that last year’s UN climate talks in Copenhagen would deliver a legally binding agreement for action on climate change. But the outcome — the Copenhagen Accord — was instead a political ‘statement of intent’ that fell significantly short of expectations. Now, after a year of interim meetings and several negotiating texts, parties to the UN Framework Convention on Climate Change (UNFCCC) are gathering in Cancun, Mexico, to try again. Their success will largely depend on settling disputes — particularly between the developed and developing world — about six key issues: shared vision; adaptation; climate finance; technology transfer; reducing emissions from deforestation and degradation; and post-2012 emissions reduction targets.

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There are major disagreements between developed and developing counties on many of the six issues. The authors argue that one of the major challenges will be to strike a balance between funding from developed countries and accountability from developing countries. The trust on multilateral process in reaching climate change goals will hinge on if a balanced deal is reached in Cancun. If so, then a legally binding agreement could be reached in South Africa in 2011, the authors opine.

Six Issues for UNFCCC Cancun Negotiations
Issue	Developing countries want...	Developed countries want...
Shared vision	...all ‘building blocks’ in the Bali Action Plan included	...a focus on the long-term global goal for emissions reductions
Adaptation	...financial compensation for the unavoidable loss and damage caused by climate change	...further study
Climate finance	...new and additional money through public funding sources	...more binding action from developing countries
Technology transfer	...easy and affordable access to patented technologies	...strong patent laws to protect intellectual property rights
Emissions reduction  targets	...to set a global target and then define individual countries’ contributions	...to set national targets that are then aggregated into a global goal

A draft negotiating text on ‘shared vision’ is ready for discussion in Cancun. It takes into account a long-term global goal for emission reductions and five building blocks identified in the Bali Action Plan. A long-term emissions reduction plan is hinged on the principle of ‘common but differentiated responsibilities’—whereby there is agreement on the common goal of effectively dealing with climate change, but with differing degrees of responsibilities for causing it.  The five building blocks in the Bali Action Plan are mitigation, adaptation, finance, technology transfer and capacity building. There already is disagreement on some issues of the shared vision between developed and developing countries. Some of the developed countries think that the shared vision should focus mainly on the long-term emission reductions goal, i.e. the numbers.

Regarding adaptation, there are four contentious issues that needs to be resolved in Cancun: defining vulnerability, adaptation finance, emissions mitigation, and compensation.

The Copenhagen Accord includes a ‘collective’ promise of US$10 billion each year until 2012, rising to US$100 billion by 2020. But, there is a large gap between the available funding and estimates of what is needed. Environmentally sound technology transfer is also a key issues and developing countries need it to not only mitigate emissions, but to better adapt to climate change.

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Another potential stumbling block is the issue of intellectual property rights. Many developed countries call for strong patent laws in developing nations to ease technology transfer, but some developing countries say that strictly enforced patent rights can lead to high licence costs and obstruct the use and adaptation of technologies for local conditions.

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Reducing emissions from deforestation and forest degradation (REDD) is also contentions because of unresolved issues such as rights of indigenous people and forest-dependent communities, market mechanisms to regulate emissions, and allocation of funding to forest-related activities.

The most contentious issue is about emissions reduction targets post-2012.

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Developed countries, hard hit by the economic crisis, want a bottom-up approach where they can set targets that suit their national situation and aggregate them into a global goal. But many developing countries are concerned that this approach is not stringent enough — when individual targets are aggregated, they fall far short of what science says is required to avoid increasing global temperatures above the ‘tipping point’ of 2°C. So the developing world is pushing for a top-down approach that sets a global target, rooted in science, and then distributes contributions to that target based on an agreed methodology.

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G20 Seoul summit and trade financing

Marc Aubion outlines how the recent G20 meeting in Seoul has provided a mandate to multilateral institutions to address a lack of affordable trade financing being suffered by low income countries. He argues that “over the coming weeks we will see institutions such as the WTO, the World Bank, as well as others work together in order to address such obstacles, along the lines of the G20 mandate.”

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• "addressing regulatory reform pertaining specifically to emerging market and developing economies: we agreed to work on financial stability issues that of particular interest to emerging market and developing economies, and called on the FSB, IMF and World Bank to develop and report fore the next Summit. These issues could include: (....); trade finance."
• "To support LIC capacity to trade (...), we note our commitment to (..) support measure to increase the availability of trade finance in developing countries, particularly LICs. In this respect, we also agree to monitor and to assess trade finance programs in support of developing countries, in particular their coverage and impact on LICs, and to evaluate the impact of regulatory regimes on trade finance."

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Gender preference for children in Nepal

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Gender discrimination and son preference are key demographic features of South Asia and are well documented for India. However, gender bias and sex preference in Nepal have received little attention.

1996 Nepal Demographic and Health Survey data on ever-married women aged 15–49 who did not desire any more children were used to investigate levels of gender bias and sex preference. The level of contraceptive use and the total fertility rate in the absence of sex preference were estimated, and logistic regression was performed to analyze the association between socioeconomic and demographic variables and stopping childbearing after the birth of a son.

Commonly used indicators of gender bias, such as sex ratio at birth and sex-specific immunization rates, do not suggest a high level of gender discrimination in Nepal. However, sex preference decreases contraceptive use by 24% and increases the total fertility rate by more than 6%. Women’s contraceptive use, exposure to the media, parity, last birth interval, educational level and religion are linked to stopping childbearing after the birth of a boy, as is the ethnic makeup of the local area.

The level of sex preference in Nepal is substantial. Sex preference is an important barrier to the increase of contraceptive use and decline of fertility in the country; its impact will be greater as desired family size declines

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Here is the full paper published in 2003. I think the author should have done disaggregated analysis of rural and urban areas. The results are quite reflective of urban areas. There still is a strong son bias in the rural areas. Also, isn’t this “Commonly used indicators of gender bias, such as sex ratio at birth and sex-specific immunization rates, do not suggest a high level of gender discrimination in Nepal.” and “The level of sex preference in Nepal is substantial.”—i.e. result and conclusion—contradictory?