Readings/Sources PART Q:   Economies in Transition Econ 385  Fall, 2005
Article marked by "*" are strongly recommeded reading.
 

1. Israeli, American Share  2005 Nobel Economics Prize Associated Press October 10, 2005October 10, 2005 9:25 a.m.
2. Remedies for New Orleans By EDMUND S. PHELPS
3.To Compromise On Farm Tariffs New Trade Proposals Aim To Resolve EU Disputes Following Months of Talks
*4. The Great Game By DAVID R. HENDERSON  WSLJOctober 11, 2005; Page A16 Nobel Prize winner Thomas Schelling is a game theorist with no patience for eco-gobbledygook.
5. U.N. bureaucrats trying to seize control of the Internet.
7. DYNAMIC SCORING: A BACK-OF-THE-ENVELOPE GUIDE
7.  Adult Supervision
8. The Oracle of Delphi  October 12, 2005; Page A16
*9. The Butcher of Harare By CHRIS PATTEN October 12, 2005
*10. A Property-Rights Solution To China's 'Income Gap'  By ROY L. PROSTERMAN WSJ October 12, 2005
11. Russia continues tax-cutting crusade
12. The War Over the Robber Barons By Edward J. Renehan Jr.   Published    10/12/2005
*13. Austria Inspires Bigger Rival Economic Gains May Serve as Road Map For German Restructuring
14. Garment Quotas' Expiration Aids Expected Losers
15. China's Economic Boom Masks Financing Limits of Big Firms
16. War games Oct 13th 2005 From The Economist print edition RE Nobel in Economics
17. Will China's Banking Reform Succeed? By WEIJIAN SHANWSJ October 17, 2005
*18. Does Growth Lead to Liberalization?
*19. Argentina: Land of the Incredible Shrinking Peso By MARY ANASTASIA O'GRADY WSJ October 21, 2005; Page A15
20. A stagnant Europe hurts America, not a growing China.
21. Australian tax system becoming less competitive.
22. Skyping the Hype  By Meelis Kitsing   Published    10/20/2005
*23. Be careful, Mr. Greenspan Oct 20, 2005 by Alan Reynolds ( bio | archive | contact )
24. The golden calf of democracy By: Lawrence W. Reed 1-18-05  http://www.bipps.org/ARTICLE.ASP?ID=282
25. Koizumi's Reforms Could Bring Yen out of Mattresses
26. Donald or Duck By TOMASZ LIS WSJ October 20, 2005  RE: Poland
27. A foreign affair Oct 20th 2005From The Economist print edition
28. Curse of the 'Caudillos' Resurgent Strongmen Stunt Latin America's Economy, Democracy
*29. Swap Debt for Equity By JOSE DE VENECIA JR.  WSJ October 20, 2005
30. World is a safer place despite people's fears By Francis Harris in Washington
31. The Most Influential Person You Never Heard Of
32. New Zealand Has a Government, But the Rest is Uncertain
*33. Fill 'er Up with Oils Sands!
34. Uncommon Market Corn Flakes Clash Shows the Glitches In European Union Nations Retain Separate Rules
That Business Leaders Say Hobble Economic Growth How Much to Fortify a Cereal By G. THOMAS SIMS
35. Hurricanes Take Toll On Mexico Growth Forecast
*36. WHY IS THE WORLD BANK STILL LENDING?
37. LIVE LONG AND WORK!
*38. Tired of globalisation Nov 3rd 2005 From The Economist print edition
39. Gumshoe economics Nov 3rd 2005 From The Economist print edition
40. Fruit that falls far from the tree Nov 3rd 2005 From The Economist print edition
41. Let the Saver Beware
42. Job Summit of the Americas
43. The Tragedy of Garrett Hardin                   By GREGG EASTERBROOK
*44. Europe Vs. Europe by Richard W. Rahn
45. Liberia: From Barbarity to Hope
46. Wearing of the Green Irish Subsidiary Lets Microsoft Slash Taxes in U.S. and Europe Tech and Drug Firms Move Key Intellectual PropertyTo Low-Levy Island Haven
Center of Windows Licensing By GLENN R. SIMPSON Staff Reporter of THE WALL STREET JOURNAL
47. Failed Summit Casts Shadow On Global Trade Talks In Blow to U.S., Chavez Taps Latin America's Discontent To Fight Opening of Markets
 


1. Israeli, American Share  2005 Nobel Economics Prize Associated Press October 10, 2005October 10, 2005 9:25 a.m.

STOCKHOLM -- Israeli and U.S. citizen Robert J. Aumann and American Thomas C. Schelling won the 2005 Nobel Memorial Prize in Economic Sciences on Monday for their work on game theories that help explain economic conflicts, including trade and price wars.

The pair was cited "for having enhanced our understanding of conflict and cooperation through game-theory analysis," the Royal Swedish Academy of Sciences said. "Why do some groups of individuals, organizations and countries succeed in promoting cooperation while others suffer from conflict?"

Reached by telephone in Israel, Mr. Aumann told the Associated Press: "I feel great." He said he would not say anything more until a news conference later in the day.

"This was a total surprise. I'm totally overwhelmed," Mr. Aumann told the prize committee by telephone after the announcement.

Mr. Aumann, 75 years old, and Mr. Schelling, 84, have helped to "explain economic conflicts such as price wars and trade wars, as well as why some communities are more successful than others in managing common-pool resources," the academy said in its citation. "The repeated-games approach clarifies the raison d'etre of many institutions, ranging from merchant guilds and organized crime to wage negotiations and international trade agreements."

Mr. Schelling is a professor at the University of Maryland's department of economics and a professor emeritus at Harvard.

He "showed that a party can strengthen its position by overtly worsening its own options, that the capability to retaliate can be more useful than the ability to resist an attack, and that uncertain retaliation is more credible and more efficient than certain retaliation," the academy said. "These insights have proven to be of great relevance for conflict resolution and efforts to avoid war."

Mr. Aumann, a professor at the Center for Rationality at the Hebrew University of Jerusalem, was cited for his work in looking how real-world situations can affect the theory.

"In many real-world situations, cooperation may be easier to sustain in a long-term relationship than in a single encounter. Analyses of short-run games are, thus, often too restrictive," the academy said. "Robert Aumann was the first to conduct a full-fledged formal analysis of so-called infinitely repeated games. His research identified exactly what outcomes can be upheld over time in long-run relations."

Mr. Aumann was born in Frankfurt, Germany, but holds U.S. and Israeli citizenship. He is not the first Israeli to win the economics prize. In 2002, Daniel Kahneman, who also has U.S. and Israeli citizenship, shared the award.

The award marked the sixth consecutive year that Americans have won the prize.

Last year's winners were Edward C. Prescott, an Arizona State University professor and Norwegian Finn E. Kydland, an economics professor at the University of California, Santa Barbara, who won for their research on how government policies affect economies around the world and why supply-side shocks like high oil prices can damp business cycles.

The economics prize, worth 10 million kronor (€1.07 million; $1.3 million), is the only one of the Nobel awards not established in the will of Swedish industrialist Alfred Nobel, the inventor of dynamite. The medicine, physics, chemistry, literature and peace prizes were first awarded in 1901, while the economics prize was set up separately by the Swedish central bank in 1968.

Copyright © 2005 Associated Press
 

2. Remedies for New Orleans By EDMUND S. PHELPS
October 10, 2005; Page A12

The nation is still reflecting on the sight of New Orleans unprotected from Katrina and too feeble from poverty to run from it. Yet some basic issues have scarcely been debated.

So far, the focus has been on what to do about lost and damaged infrastructure. For our legislators and the public, that has raised fascinating questions of political philosophy. The federal government does not pay to defend New York state against Lyme disease or New York City against terrorist attack. So it is a question why it is a federal duty to pay for measures to protect or repair New Orleans from local storms.
* * *

The economist's answer is that a disrupted New Orleans has external costs on the farmers upriver and the producers everywhere who depend heavily on the city's great port to ship grain. At likely levels, New York's Lyme disease does not threaten the rest of the nation. Protecting Wall Street ranks high on that external cost test, but not high enough in the estimation of Congress. It is a matter of degree.

There is another national interest in New Orleans. It is one of the rare American cities with its own intriguing culture. Bill Clinton the other day cited the Mardi Gras, the jazz and the beignet with coffee. The city is almost the only open-air museum the U.S. has to vie with the museum-cities of Europe, from Bruges to Venice.

A hard truth, though, is that most of New Orleans is so vulnerable to hurricanes that it is not rational for governments to recreate its infrastructure on the former scale. Parts of the city are 10 feet under sea level and cannot be reliably guarded against storms in category four or five. These parts are best made non-residential.

Many of the displaced inhabitants, moreover, will be moving on. They will learn that jobs are more plentiful elsewhere. The pre-storm unemployment rate, at 10%, was normal by the standards of Europe's museum-cities but far above, say, New York City's 6% or the nation's 5%. New Orleans cannot create the jobs it did when the Mississippi was more important than it is now. It would be quixotic to build infrastructure for a level of commerce and capital that -- absent a basic change -- will not come.

The talk about rebuilding, however, misses the meaning that most viewers found in the scenes from New Orleans. The impact lay in the helplessness of a large segment of the population -- helpless not because of infirmities for the most part, but because their earning power or their very employability was so meager that they lacked a car with which to get out of the city, or did not have the cash for weeks away from home. The scenes thus made vivid the failure of the American economy to offer work and pay to the less advantaged that would provide them with economic independence and with access to something like the sorts of lives and jobs found in the rest of society. Whatever scale and scope rebuilding takes, it will not raise pay rates of the working poor above pre-storm levels.

President Bush was asked at a press conference last week what might be done about New Orleans poverty. He spoke mainly of tax incentives to encourage investment and job-creation in the private sector. It is a mistake, though, to imagine that increased capital in one region of the nation can raise productivity and wages there if wages are not similarly boosted in the rest of the nation. As wages rose appreciably in New Orleans, low-wage workers in neighboring states would come in and drive pay rates down to national levels. A remedy for the poverty of the less advantaged must be national, not local.

He spoke also of ownership and wealth-accumulation. But Louisiana is not Egypt: It has rights to private property. The working poor cannot save much when their pay is so little.

Effective remedies for the low pay and employment of the working poor do exist, though ignorance and prejudice blocks their adoption. Economics has made clear how each of two kinds of employment subsidy act to boost paychecks and jobs. Both kinds are in use in the U.K., the Netherlands and France, where they are judged helpful.

An employment subsidy of a limited nature was adopted in the U.S. in the 1970s -- the Earned Income Tax Credit. This liberating law, much nitpicked, freed mothers of dependent children to work and earn in the commercial economy, thus to help raise their children and to have a rounded life. A deficiency was that it did not address low-wage men. It may have diminished their breadwinner role. The law is better now, but it still does not enable low-end workers without children, men or women, to be self-supporting and integrated into society.

One kind of remedy would be to universalize the earned income tax credit so it addresses all low-wage men and women equally. The other kind of remedy, one I and others have proposed, is an employment subsidy to employers giving them an incentive to hire more low-wage people and thus bid up their pay in the process. I need to stress that a subsidy here is a sort of matching grant, paid out for doing something -- it is not a handout, nor is it like the so-called subsidy to farmers for not planting. (Mr. Bush's enterprise zones are effectively schemes to subsidize capital, which is the wrong lever, yet no one shrinks in horror at those subsidies.)

Federal subsidies of these two kinds may be justified on the same ground as federal infrastructure. The consequences when the working poor are consigned to a laissez-faire labor market -- impaired schools, drug use, crime -- impose external costs on the rest of our society. A rights-based case for such a subsidy exists too. (There is no good case, though, for a handout, which undermines work and integration.)

The events in New Orleans pointed to the tragic flaw of a great nation still in denial about impoverished workers among its own citizens and in a muddle about its causes and cures. There is emerging a sense that it would be good to solve this problem. What is needed now is an understanding of the policy innovations that would be constructive and those that would not.

Mr. Phelps is the McVickar Professor of Political Economy at Columbia University. He directs the Center on Capitalism and Society at Columbia and is the author, inter alia, of "Rewarding Work" (Harvard, 1997).

Write to Scott Miller at scott.miller@wsj.com and Greg Hitt at greg.hitt@wsj.comU.S. Prepares
 

3.To Compromise On Farm Tariffs New Trade Proposals Aim To Resolve EU Disputes Following Months of Talks
By SCOTT MILLER in Brussels and GREG HITT in Washington
Staff Reporters of THE WALL STREET JOURNAL
October 10, 2005; Page A11

The U.S. and European Union each are pushing new offers to change the way they protect their farmers from global competition, in efforts to keep their respective agricultural policies from being the anchor that sinks global trade talks.

After months of slow-moving talks, the EU says it is ready to make "substantial" fresh overtures to the U.S. to cut farm tariffs that Washington maintains unfairly protect its farmers. At the same time, the U.S. has readied concessions on its farm subsidies, in a plan to be presented today in Zurich. Ministers from 15 negotiating countries are gathering there before the outlines of the so-called Doha Round agreement are meant to be finalized in Hong Kong in December.

Ahead of this week's meetings, U.S. Trade Representative Rob Portman made clear to major World Trade Organization members that the U.S. is prepared to compromise, but only as part of a framework that provides for substantial progress on other fronts. In an editorial to be published today in the Financial Times, Mr. Portman outlined a three-pronged plan that he said will achieve the "tariff and subsidy free world envisioned by President Bush."

To boost market access for farm products world-wide, Mr. Portman proposes an "ambitious" five-year package of tariff reductions, with cuts as high as 90% to some tariffs now levied by the richest nations. As second stage, he proposes to push all farm tariffs to zero. He also proposes to provide special treatment for "sensitive products" -- goods with special significance to local economies.

Additionally, Mr. Portman said the U.S. is prepared to support a 60% cut over five years in the most trade-distorting types of subsidies offered to American farmers, a proposal that would require substantial changes to U.S. programs.

Lastly, Mr. Portman proposes to eliminate all export subsidies -- an overarching goal to which major WTO members already have committed to -- by 2010, a deadline suggested by British Prime Minister Tony Blair. And in a nod to concerns raised by EU negotiators, Mr. Portman said the U.S. is prepared to "tighten rules on the donation of food aid to guard against possible commercial displacement, but not at the risk of further reducing already inadequate food aid for those who need it most."

In an interview yesterday, EU trade commissioner Peter Mandelson said he believes the two trading giants are ready to "show their cards" and start closing differences on the agriculture front. "We are committed to substantial additional improvements," Mr. Mandelson said.

The U.S. has been facing pressure from the EU and other nations to reduce subsidies that the WTO has categorized since 1995 as those that most hurt trade flows. The EU also has criticized the program under which the U.S. donates excess crops to countries facing famine, paying farmers for the crops. The EU believes that works as a subsidy to U.S. farmers.

Mr. Mandelson also said he would distribute a letter to other ministers in Zurich today, calling for special consideration to less-developed countries. The letter proposes they receive quota-free and duty-free access to markets in richer countries, but can maintain tariffs to protect their own fragile economies. The EU long has espoused such a policy, but other nations including the U.S. believe that would actually leave the poorer nations worse off by hindering trade.

But no task is more important than for the U.S. and Europe to resolve disputes over opening up their farm sectors. The two have been working toward a plan that would boost market access, reduce trade-distorting domestic subsidies and eliminate government supports for farm exports. But talks on how to achieve those core goals have only recently intensified, and the slow pace of action has effectively stalled companion negotiations within the Doha Round aimed at lowering barriers for trade in services and manufacturing.

Messrs. Mandelson and Portman are then expected to continue talking in Geneva later in the week. If the Hong Kong meeting is to succeed, many believe ministers must produce a draft text of a deal by mid-November. "This coming week will decide how far we can get in Hong Kong," Mr. Mandelson said. "We are entering the crunch period."

Write to Scott Miller at scott.miller@wsj.com and Greg Hitt at greg.hitt@wsj.com

4. The Great Game By DAVID R. HENDERSON  WSLJOctober 11, 2005; Page A16 Nobel Prize winner Thomas Schelling is a game theorist with no patience for eco-gobbledygook.

Yesterday, the Royal Swedish Academy of Sciences announced the winners of the 2005 Nobel Prize in economic sciences: Robert J. Aumann of the Hebrew University of Jerusalem and Thomas C. Schelling of the University of Maryland. They earned the prizes "for having enhanced our understanding of conflict and cooperation through game-theory analysis." This is the second time the award has gone to game theorists; the first time was 1994, when the winners were John Harsanyi, John Nash and Reinhard Selten.

Mr. Aumann is a highly technical mathematical game theorist who many thought should have won the prize in 1994. As the Royal Swedish Academy put it, "Aumann demonstrated that long-run social interaction could be comprehensively analyzed using formal non-cooperative game theory."

Mr. Schelling did it as a true social scientist, with spectacular results. His thinking led to important insights in areas ranging from nuclear war to figuring out meeting places to traffic jams to racial segregation. His specialty was understanding the behavior of real humans, and game theory was one of his tools. But it was just that -- a tool. Instead of using formal proofs, Mr. Schelling first told illustrative stories and then, using words, showed why things happened the way they did. As Harvard economist Richard Zeckhauser wrote in a 1989 tribute, Mr. Schelling "stayed away from the Journal of Advanced Economic Gobbledygook" and played "his games in a world that is richer than most game theory analyses."
* * *

Mr. Schelling's early work was on the most important issue of the Cold War: preventing it from becoming a Hot War. In his classic 1960 book "The Strategy of Conflict," Mr. Schelling, who had spent a year at the RAND Corporation, laid out some important applications of game theory to the issue of nuclear war. In one passage, he discussed the U.S.-Soviet conflict in terms anyone could relate to: a hypothetical duel. He wrote that "if both [duelists] were assured of living long enough to shoot back with unimpaired aim, there would be no advantage in jumping the gun and little reason to fear that the other would try it." Therefore, he wrote, "schemes to avert surprise attack have as their most immediate objective the safety of weapons rather than the safety of people." In other words, to have a credible deterrent against a Soviet first strike that would destroy many of its people, the U.S. government needed to defend its weapons.

And vice-versa: The Soviets had the same interest. I mention this because one of the most important principles in game theory -- indeed, in life -- is that to handle any interactive situation well, you must put yourself in the shoes of the person you're interacting with. All game theorists recognize this, of course, but Thomas Schelling breathes it. This other-people's-shoes approach is often thought to be soft-hearted. When I recommended it as a way of thinking about terrorism in a 1996 talk to some Department of Defense officials, game theorist Martin Shubik accused me of suggesting that "we all love one another." But even if you hate your opponent, and especially if he hates you, it's a good idea to know what pushes his button.

Another Schelling analogy was his discussion of where you would meet someone if you both knew you were meeting in New York on a particular day but hadn't thought to set a time and place. This led to his concept of the "focal point." You would put yourself in the shoes of the person you were meeting and figure out a time and place that might be obvious to him and that he might think you would think of. I am told that one focal point many people came up with when playing the Schelling game is under the big clock in Grand Central Station at noon.

This way of thinking about tacit communication is so associated with Mr. Schelling that the focal point is often called a "Schelling point." Fellow Nobel laureate James Tobin, talking about such a coordination game conducted by Mr. Schelling, remarked, "Game theory has never been as much fun or as relevant."

Mr. Schelling also explained the economics of the traffic jam on the inbound lane, even though the accident occurred in the outbound lane. Each person inbound slows down a few seconds to look, but these few seconds each for a few hundred drivers turn into a 10-minute delay. Even though each person knows this, that doesn't make the problem diminish. Indeed, when I've paid my 10 minutes, I want the "reward" of satisfying my curiosity by seeing what happened. Mr. Schelling was probably not the first person to realize this, but it is of a piece with the kinds of puzzles he has spent his career thinking about.

One such puzzle is why so many neighborhoods end up being racially segregated, even though the people in the neighborhoods, black or white, don't seem particularly racist. In his book "Micromotives and Macrobehavior," Mr. Schelling lays out an exercise using coins, showing how an integrated neighborhood can become quite segregated as long as each person wants at least one third of the neighbors to be like him. When one person moves to get a preferred set of neighbors, Mr. Schelling explains, it causes a chain reaction that settles down only when the neighborhood is fairly segregated. This might sound implausible, which is why Mr. Schelling, always the empiricist, recommends that the reader carry out his own simulation.

Mr. Schelling's point with these games, thought experiments and exercises is not that things ultimately fail or ultimately work. It is, rather, that one can understand the interactive behavior of groups of people and see when they are likely to work -- that is, lead to results that the group wants -- and when they are likely to fail. He points out that exchange transactions, which much of economics is about, are simply a subset of interactions that tend to work very well because participants are exchanging a particular item voluntarily rather than interacting in a more complex way, such as in traffic.

Many of the problems he discusses occur, he notes, because it's too difficult to enter an exchange. Mr. Schelling put it beautifully: "Small children learn to trade stamps with an acumen that the real estate fraternity can only envy, but their parents can travel incommunicado behind a slow truck on a mountain grade without finding a way to make it worth the truck driver's time to pull off the road for 15 seconds."
* * *

A discussion of Mr. Schelling's work should mention his important contributions to the economics of global warming. In his 1991 presidential address to the American Economics Association, Mr. Schelling, always the iconoclast, pointed out that even if the earth warmed by as much as 4.5 degrees Centigrade (climatologists now think it will be less), the effect on developed countries would hardly be noticeable and might be good: He pointed out that when people retire, they typically move to warmer climates. Although the effects on poor countries would be more serious, he noted, compensating them would be cheaper than investing $200 billion a year ($300 billion in today's dollars) to slow global warming.

Nobel laureate Paul Samuelson put it best when he wrote, "In Japan Thomas Schelling would be named a national treasure."

Mr. Henderson is a research fellow with the Hoover Institution, an economics professor at the Naval Postgraduate School, and co-author of "Making Great Decisions in Business and Life" (Chicago Park Press, 2006).
 
 
 

 5. U.N. bureaucrats trying to seize control of the Internet. A column in the Wall Street Journals warns that the United Nations, aided and abetted by European politicians, are trying to impose global government on the Internet. This is both bad for commerce and an assault on sovereignty:

      Kofi Annan, Coming to a Computer Near You! The Internet's long run as a global cyberzone of freedom -- where governments take a "hands off" approach -- is in jeopardy. Preparing for next month's U.N.-sponsored "World Summit on the Information Society" (or WSIS) in Tunisia, the European Union and others are moving aggressively to set the stage for an as-yet unspecified U.N. body to assert control over Internet operations and policies now largely under the purview of the U.S. In recent meetings, for an example, an EU spokesman asserted that no single country should have final authority over this "global resource." To his credit, the U.S. State Department's David Gross, bristled back: "We will not agree to the U.N. taking over management of the Internet." That stands to reason. The Internet was developed in the U.S. (as are upgrades like Internet 2) and is not a collective "global resource." It is an evolving technology, largely privately owned and operated, and it should stay that way. ...regulators across the globe have long lobbied for greater control over Internet commerce and content. A French court has attempted to force Yahoo! to block the sale of offensive Nazi materials to French citizens. An Australian court has ruled that the online edition of Barron's (published by Dow Jones, parent company of this newspaper), could be subjected to Aussie libel laws -- which, following the British example, is much more intolerant of free speech than our own law. Chinese officials -- with examples too numerous for this space -- continue to seek to censor Internet search engines. ...We favor the non-regulatory approach. But where laissez-faire is not an option, the second-best solution is that the legal standards governing Web content should be those of the "country of origin." Ideally, governments should assert authority only over citizens physically within its geographic borders. This would protect sovereignty and the principle of "consent of the governed" online. It would also give companies and consumers a "release valve" or escape mechanism to avoid jurisdictions that stifle online commerce or expression. The Internet helps overcome artificial restrictions on trade and communications formerly imposed by oppressive or meddlesome governments. Allowing these governments to reassert control through a U.N. backdoor would be a disaster.
      http://online.wsj.com/article/SB112873051002163416.html?mod=opinion&o jcontent=otep (subscription required)
 

6. DYNAMIC SCORING: A BACK-OF-THE-ENVELOPE GUIDE
------------------------------------------------------------------------

Supply-side economists have long argued that tax cuts can generate so
much economic growth that they may more than pay for themselves. A new
paper from the National Bureau of Economic Research suggests that tax
cuts partially pay for themselves.
Basing their formulas on the neoclassical growth model, the
authors built several economic models to predict the economic growth
effects of various tax cuts. They found that:
   o    In almost all instances, tax cuts are at least partly
        self-financing.
   o    In the long run, about 17 percent of a cut in labor taxes is
        recouped through higher economic growth.
   o    The comparable figure for a cut in capital taxes is about 50
        percent.
The authors are quick to point out that these calculations are, at
best, "back of the envelope" calculations. Nevertheless, these
rudimentary calculations provide evidence that the true revenue costs
of tax cuts are smaller than their initial dollar amount. The authors
argue that lawmakers and economists should take these effects into
account when making tax policy, regardless of the difficulty.

Source: Matt Nesvisky, "Dynamic Scoring: A Back-of-the-Envelope
Guide," NBER Digest, July 2005; based upon: Gregory Mankiw and Matthew
Weinzierl, "Dynamic Scoring: A Back-of-the-Envelope Guide," National
Bureau of Economic Research, Working Paper No. 11000, December 2004.
For text:
http://www.nber.org/digest/jul05/w11000.html
For abstract:
http://papers.nber.org/papers/w11000
For more on Taxes:
http://www.ncpa.org/pi/taxes
 
 

7. Adult Supervision
October 11, 2005; Page A16
Failure to discipline Fannie and Freddie could lead to financial meltdown.

Over the past several years, corporate America has been rocked by major scandals involving billions of dollars of financial restatements, significant losses for investors, reputation problems for big business, and, in some cases, jail time for senior executives. Whether it was Enron, Adelphia or WorldCom, Congress wasted no time examining and strengthening the oversight functions and regulatory authority of various federal agencies, including passage of the wide-ranging Sarbanes-Oxley Act.

To date, there remains one glaring exception. In the past two years, accounting failures at Fannie Mae and Freddie Mac, known as Government Sponsored Enterprises (GSEs), have led to the largest financial restatements in history -- totaling more than $20 billion -- dwarfing the combined restatements of both Enron and WorldCom. In recent days, news reports indicate the financial misconduct could be wider and deeper than has emerged thus far.

Left undetected and unchecked, the web of misconduct at Fannie Mae and Freddie Mac might have unraveled in a way that caused serious disruptions to our financial system. The likely collateral damage was presciently spelled out in a report on systemic risk that their regulator, the Office of Federal Housing Enterprise Oversight (Ofheo) issued in 2003.

Yet the report, like the subsequent scandals at both companies, illustrates the need to address statutory shortcomings in our regulatory system. Ofheo did its job despite being hamstrung by substandard statutory powers, inadequate resources and political interference. Without a doubt, future regulatory oversight will always be a difficult struggle as long as these problems remain unaddressed by Congress. Yet, two and a half years after Freddie Mac's scandal unfolded, legislation to strengthen regulation remains mired in gridlock.

One of the key areas of disagreement is the appropriateness and size of the mortgage portfolios these enterprises retain. Unfortunately, much of the discourse around the portfolios is characterized by misinformation and scare tactics. It is critical to have a candid discussion about the portfolios. The fact is that they have grown 12-fold in 14 years for one reason: to generate additional profits for the GSEs. That is nonjudgmental, just a fact. Other stated purposes for the portfolios, such as enhancing the liquidity of the mortgage-backed security market and promoting affordable housing, would be no less well-served if the Fannie and Freddie continued to buy mortgage products as they do today but retained much smaller portfolios.

Currently, there are no real limits on the size of the portfolios. Ofheo's statutory mandate is to ensure that the enterprises manage the risks of their portfolios in a safe and sound manner, not to limit their amount. However, Fed Chairman Greenspan and other economic leaders have repeatedly warned policy makers that they should be concerned not just about the safety and soundness of Fannie and Freddie, but more broadly concerned about the risks to our financial system.

Reducing their portfolios will certainly leave the GSEs with much smaller balance sheets and less systemic risk. However, the enterprises would still be able to earn a fair return for investors from their guarantee business, and be more focused on their affordable housing mission. Is this then an appropriate trade-off?

This was not a judgment I felt empowered to make when I was at Ofheo, but it is an issue on which I have advice for Congress. After reflecting on six years of serving as the regulator of these companies, my answer is YES. The amount of time and resources the enterprises must dedicate to managing the risks associated with their portfolios is very substantial and dwarfs any marginal benefit to their affordable housing mission. In addition, the recent scandals at both companies illustrate the problems they can get themselves into as they try to manage the volatility associated with very large portfolios.

Smaller, mission-focused portfolios would better serve everyone, even shareholders. If well managed, they are capable of a fair return to investors and a strong return to the public interest. But as it is now all too clear, the enterprises never were the steady earnings juggernauts they held themselves out to be.

Legislation should give the regulator discretion to manage the size of the portfolios, but be clear as to the regulator's mandate. The mandates in the Senate and House bills are very different and would produce different results. The Senate bill would direct regulators to design and implement an orderly reduction in the enterprises portfolios without harm to affordable housing efforts. But the House bill would preserve the status quo, which permits the enterprises to maintain portfolios of any size as long as safety and soundness considerations are met. The House bill should be amended to put the proper mandate in place.

Time is not necessarily a luxury in passing legislation to strengthen regulation. Fannie Mae and Freddie Mac have constructed their portfolio risk-management strategies around hedging techniques that remain untested by adverse market conditions. Even assuming the companies employ the very best risk-management practices, prudence demands that we have the strongest regulatory structure in place to deal with the fallout if they just get it wrong. Remember Long Term Capital Management.

The growth of the portfolios held by these two GSEs has coincided with a strong economy, except for a mild recession in 2001 that left the housing sector unaffected largely because interest rates fell to historic lows. However, long-term interest rates are more likely to begin an upward trend that may cool off the housing market. Everyone has an interest in ensuring that a fully empowered regulator is in place to deal with any pressures such market changes place on the enterprises.

Freddie Mac and Fannie Mae play an important role in our housing finance system and I support their public mission. The key is to ensure they are truly focused on this mission in a safe and effective manner. If this public-private arrangement is to work, the enterprises must have a fully empowered regulator and get back to serving the public interest, not the ambitions of management.

Mr. Falcon, a principal with the Canonbury Group, was director of Ofheo from 1999 until May of this year.

8. The Oracle of Delphi  October 12, 2005; Page A16

Delphi's bankruptcy filing is ominous enough as the largest in the history of the American automotive industry. But it also lives up to the company's mythological name in what it portends for the auto industry, not to mention the pension burdens that may soon be foisted on the American taxpayer.

This is a story about globalization and the increasingly unsustainable expense of traditional business health and pension benefits in the U.S. But it is also about an industry -- and here management and unions share the blame -- that allowed its cost structure to grow out of all proportion to its productivity, making a retrenchment inevitable.

A Delphi worker who earns $25 an hour actually costs an average of $65 an hour once retirement and health-care benefits are factored in. It is these open-ended benefits packages that make any rationalization of the auto industry's cost structure so difficult. Six-year-old Delphi, with 12,000 union retirees compared with 185,000 employees world-wide, can count itself fortunate. GM has more than one million retirees and dependents to provide for, against a global payroll of 317,000.

Over the weekend, CEO Robert S. Miller described Delphi's business plan as trying to "outrun" its legacy costs through growth and the attrition of the workers (and union contracts) it inherited when it was spun off from GM in 1999. The idea was that GM would reabsorb some of Delphi's workers as GM's payroll needs increased.

Delphi would then grow by taking on new workers at lower, more competitive wages -- in some cases, less than half the $25 an hour that the legacy workers were entitled to under GM's contracts with the United Auto Workers union. In 2004, Delphi secured that right under a new contract with the UAW, but it has hired too few people under the new terms to make much of a dent in its cost structure.

This is, in part, because Delphi itself has never grown much since the spin-off. It has added new business, reducing its reliance on GM orders. But GM has shrunk over the past six years, meaning Delphi was mostly running to stand still. GM's shrinkage has also meant that it never needed those workers who were supposed to "flow back" to the parent company; it has some 5,000 workers in its "jobs bank," laid-off unionized employees who are essentially sitting around waiting for the phone to ring and costing GM $750 million a year. Delphi has 4,000 employees in its own jobs bank. Mr. Miller puts the cost of paying them to do nothing at $400 million a year even as its unfunded pension liabilities have climbed toward $4.5 billion.

It was in this context that Mr. Miller sought 60% pay cuts from the unions in the run-up to last weekend's bankruptcy filing. Under a court-supervised reorganization, he will presumably get those concessions. But even so, it is likely that a substantial number of the 33,000 unionized Delphi employees in the U.S. will lose their jobs. Three-quarters of the 185,000 people Delphi employs are outside the U.S., with one-third in Mexico. The reorganization will likely result in a company even more heavily tilted toward its overseas operations.

Whatever the ultimate outcome, Delphi's bankruptcy likely marks the death knell for the expansive system of defined-benefit retirement packages that auto workers have long enjoyed. Those benefits were negotiated for a growing industry that is no longer growing, and, as in the steel industry before it, the numbers no longer add up in the car business.

This is, as union leaders said in response to the filing, an extremely bitter pill for the workers. But the truth is that this kind of benefit system was probably never a good idea to begin with, even if it was a good deal for some people for some time. Defined-contribution retirement plans, such as 401(k)s, may put more of the onus on workers to both save for retirement and manage their own investments. But they also give workers an asset that their employers can't take away -- and one that they can take with them if they jump to another job or a different industry.

Mr. Miller has defied expectations by denying he intends to dump Delphi's pension obligations on the Pension Benefit Guarantee Corp., the government pension insurer of last resort for companies that can't meet their obligations. He notes that of the 10 restructuring efforts he's led, only one -- Bethlehem Steel -- resulted in flipping the pensions to Uncle Sam. On the other hand, Mr. Miller noted, the PBGC is technically an unsecured creditor under bankruptcy rules; other creditors would have to agree to hold the PBGC harmless in the restructuring in order for Delphi to continue to pay those pensions.

Compared to the auto makers themselves, Delphi is a small fry as pension obligations go. And in the wake of the airline bankruptcies of the last year, the need for reform of the PBGC and the moral hazard it creates has become all the more apparent.

Legislation currently under consideration in Washington would allow the airlines to freeze their defined-benefit obligations at current levels while transitioning to a defined-contribution plan going forward. The legislation is far from perfect, but it's a step in the right direction. There's no reason it should be limited to the airlines, however; the auto industry is the much bigger kahuna here. And Delphi's filing is an omen of what's to come.
 

9. The Butcher of Harare By CHRIS PATTEN October 12, 2005

Last month, Zimbabwe's President Robert Mugabe stood in front of international leaders at the United Nations summit in New York and slammed rich countries for monopolizing power at the expense of the developing world. But if anyone is monopolizing power at the expense of that part of the developing world known as Zimbabwe, it is, of course, Mr. Mugabe himself.

Since assuming the reins of power a quarter century ago, Mr. Mugabe and his party have increasingly ruled Zimbabwe with unbending brutality, controlling every aspect of peoples' lives and continuously trampling on human rights. As a result, over four million Zimbabweans now need food aid, and the country is struggling with 70% unemployment, chronic fuel shortages and triple-digit inflation. The World Bank has described Zimbabwe's economic situation as "unprecedented for a country not at war."

As usual, Mr. Mugabe tried to tell Zimbabwe's citizens and the rest of the world that his country's destruction is the fault of everyone but its leader and his ZANU-PF party. He blames the country's former colonial rulers, even though Zimbabwe became independent in 1980. And he blames the west's economic sanctions, even though these came into effect long after the country's economic slide began and were the consequence of the country's appalling human rights record.

While visiting Cuba recently, Mr. Mugabe unashamedly accused the IMF of undermining developing countries. Harare has been in arrears to the Fund since February 2001 and was nearly expelled last month but then granted a six-month reprieve to enact serious economic reforms.

Mr. Mugabe's trump card, however, is always race: the West is attacking Zimbabwe because its leadership is African, he boldly proclaims at every opportunity. Never mind that western democracies, human rights groups and conflict resolution organizations usually act as equal opportunity critics of repressive dictatorships: Belarus in Europe, North Korea and Uzbekistan in Asia. Zimbabwe is hardly being singled out.

The Mugabe regime has managed to make itself even more ignominious in recent months. The horrific slum clearance campaign, Operation Murambatsvina, made an already disastrous humanitarian situation worse. Between May and July, the government displaced more than 700,000 Zimbabweans from their homes, sources of livelihood or both. It forced half a million children out of school or seriously disrupted their education. Altogether, Murambatsvina adversely affected about 2.4 million citizens -- nearly 20% of the population. This has all been documented in the devastating report put together by Anna Tibaijuka, the Tanzanian director of the U.N. Human Settlements Program.

The situation is now taking another disturbing turn. For years, the regime has sought to limit international exposure of the crimes it commits against its own citizens by restricting foreign journalists from reporting inside Zimbabwe and using draconian legislation to close down private newspapers, radio and television stations. Now it seems that Mr. Mugabe wants to further limit civil liberties.

Under new draft regulations currently under consideration, Zimbabweans would be required to obtain exit visas to travel outside the country. In addition, Mr. Mugabe signed a constitutional amendment allowing the government to withdraw the passport of any citizen it considers "injurious to the national good." By severely restricting the freedom of its own citizens to travel abroad, Zimbabwe would rank at the very bottom of the league of repressive states, along with North Korea, Turkmenistan, and Uzbekistan.

Zimbabwe is drawing ever closer to a collapse that would pose a grave threat to its neighbors. What needs to be done to save lives and improve the security of southern Africa is clear. The immediate humanitarian impact of Operation Murambatsvina must be reversed. The world must maintain international pressure for constructive change, including tightening existing sanctions to include family members of regime figures. Another important contribution would be to support Zimbabwe's civil society and pro-democracy movement. African leaders need to persuade Mr. Mugabe that the best thing he can do for his country is take part in a well-managed, early exit strategy.

Their reluctance, though, to press for that kind of strategy in Zimbabwe presents a serious challenge. While European and U.S. pressure can help to some extent, real change in Zimbabwe will only come about if key African Union leaders, especially South African President Thabo Mbeki, decide to push Mr. Mugabe to step down in an orderly manner. South Africa could play a key role by conditioning credits to Zimbabwe on serious economic reform and managed political change. As the neighbor with the most to lose, South Africa might just want to consider that option.

Mr. Patten is former European commissioner for external relations and chairman of the board of the International Crisis Group.

10. A Property-Rights Solution To China's 'Income Gap'  By ROY L. PROSTERMAN WSJ October 12, 2005

The Chinese press reports that the ruling Politburo made closing the yawning rural-urban income gap a leading item on the agenda of the Central Committee plenum that ended yesterday. This was the culmination of a recent broadside of high-level pronouncements on the issue. The basic message, according to the People's Daily, is that the gap is now at "the 'yellow' alarm level" and, "should there be no effective measures, it will reach the dangerous 'red' level in five years."

There are multiple reasons why the huge rural-urban income gap should concern both China's leaders and businesses involved in China. These range from prospects for social instability to the missed opportunity for a market among the majority of consumers in China. But there are "effective measures" at hand -- measures which are strongly pro-market and which can help address the gap.

About 60-65% of China's 1.3 billion people -- 750-800 million -- still make their primary living from agriculture. Average urban incomes have now reached a level 3.2 times greater, per capita, than the incomes of the rural majority, and this large gap is reflected in a number of ways:
• The missing market: The deputy director of China's National Bureau of Statistics, Qiu Xiaohua, recently stated that consumption in the countryside is "10 years behind urban consumption";

• Rural education lags far behind the cities: Basic schooling is three years shorter on average in the countryside, and the number going on to higher education is only a tiny fraction of that among city dwellers;

• Health facilities are far inferior: This is reflected in a rural infant mortality rate which (though it is lower than most developing countries) is about twice that in the cities. Shockingly, China still experiences 700,000 deaths of children under five each year, the vast majority in the countryside.
 

Efforts were made last year to address these problems through tax relief for farmers, direct subsidies, and a coincidental substantial increase in basic grain prices. But these measures are now acknowledged, even by China's leaders, to have been insufficient.

Average rural incomes in 2004 were 2,936 yuan (about $350), and average urban incomes were 9,422 (about $1,150). Even to bring annual rural incomes up to one-half of present urban incomes would require a total increment of at least 1.3 trillion yuan, or about $160 billion. But the total income increment to farmers in 2004 from tax relief and subsidies was only 45.1 billion yuan, a little over 3% of that amount. Adding the income increment from grain price increases (probably a one-time change that is already eroding) yields only 12% of the needed amount.

The way to address these problems is not through interfering with China's market reforms. Rather it is by implementing a further important market reform -- by giving durable property rights to China's farmers.

A recent article by a top agricultural policymaker, Chen Xiwen, concludes that "mobilizing farmers' enthusiasm" is required. And while he does not go on to describe how this might be done, there are salient examples both in mainland China's post-revolutionary history, as well as that of Taiwan. These involved giving farmers long-term, secure property rights, so that they could invest in their land, greatly increasing and diversifying their production.

Immediately after the Communists came to power in 1949 a massive land reform gave the mainland's tenant farmers full, private, and transferable ownership of the land they farmed. The new owners responded by investing in and improving the land, increasing grain production by 70% and the value of overall agricultural production by 85% from 1949 to 1956, the seven years that preceded China's disastrous forced collectivization of farming. During the same time, Taiwan was giving ownership to its tenant farmers, and farm incomes increased by 150% in the 10 years that followed.

The need for property-rights reform of the mainland's current agricultural system is exacerbated by a fundamental flaw in the way China broke up its collective farms in the early 1980s. While farmers got individual land parcels in that break-up, they received no assurance that they would have the same individual parcels for any length of time. On the contrary, the general rule was that local cadres could "readjust" the landholdings at any time in the future, shuffling farmers to different parcels to reflect changes in household and village population. This system effectively blocked the mid- to long-term investments that farmers need to make to decisively boost and diversify production. These include irrigation and drainage improvements, land leveling and terracing, tree planting, trellising, fixed greenhouses, intensive soil improvement -- all of which require assured, long-term property rights in the same land to recover that investment and yield a profit. Moreover, such "readjustable" land rights were essentially unmarketable.

But if Chinese farmers are freed to perform as their grandfathers did in 1949-56, or as their counterparts did on Taiwan, it should be possible for farm incomes to increase by 120-150% over the next 10 years. That would translate to 1.3-1.6 trillion yuan, based on 2004 net agricultural income of about 1.1 trillion yuan. As a further dividend, China's farmland would become a marketable, multi-trillion yuan asset in farmers' hands.

The top leadership in Beijing has already thought through and adopted a solution to the tenure-security problem: they simply haven't moved decisively to implement that solution. On March 1, 2003, the new Rural Land Contracting Law went into effect, providing for secure, 30-year, transferable and documented property rights for China's farmers, and ending "readjustment." Thirty-year rights, depending on the discount factor used for future income streams, have an initial economic value somewhere between 75% and 95% of the value of full, private ownership. Chinese farmers say that 30 years is a sufficient time horizon to permit the missing investments to be made, and many of those few farmers who have already received such rights are now making those investments.

But most Chinese farmers have not yet received their 30-year rights. Only a small minority have even heard of the new law. A phalanx of implementing measures, starting with concerted publicity and already successfully used in rural programs such as tax relief, are still waiting in the wings. These include, for example, providing a laminated card detailing farmers' rights to hang in every rural home, carrying out recurrent monitoring of compliance by teams from Beijing and, crucially, communicating to local cadres that Beijing is serious about implementing this law.

Having sounded the "yellow alarm," Chinese leaders need to build on the just-concluded meeting of the Central Committee in catalyzing full implementation of the well-drafted law already on the books. Mobilizing "farmers' enthusiasm," rooted in secure property rights, is the best way to narrow the rural-urban income gap.

Mr. Prosterman is founder of the Seattle-based Rural Development Institute, and professor of law at the University of Washington.
 
 

11. Russia continues tax-cutting crusade. Former communists seem more committed to tax cuts than supposed U.S. conservatives. At least it seems that way if Russia is an example. Not only do the Russians have a low-rate flat tax, but the Putin government is seeking to lower the VAT by five percentage points as part of a campaign to bring down the overall tax burden. Tax-news.com reports:

      Russia's Prime Minister Mikhail Fradkov has called upon the Finance and Trade ministries to draft plans for a 5% cut in value added tax beginning in 2007 to help accelerate the pace of economic growth. If enacted, the measure will reduce Russia's VAT rate to 13% from 18%, although the government announced in a statement on its website that the tax cut depended on must not increasing state spending as a share of gross domestic product (GDP). The government estimates that cutting VAT by 5% will increase economic growth by 0.5% of GDP, thus helping President Valdimir Putin to meet his pledge to double GDP over a ten year period. Since 2002, the Putin administration has reduced and abolished a number of taxes, including turnover tax, payroll taxes, sales tax, and value added tax, which was recently cut to 18% from 20%. Last month, Deputy Finance Minister Sergei Shatalov stated that the tax cut programme is entering its concluding phase, but indicated that the tax burden on the Russian economy will continue to be reduced by the equivalent of around 1% of GDP annually for the next three years.
      http://www.tax-news.com/asp/story/story_open.asp?storyname=21394
 

12. The War Over the Robber Barons By Edward J. Renehan Jr.   Published    10/12/2005
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http://www.techcentralstation.com/101205A.html
During the "robber baron" years, the United States outstripped other nations by far when it came to growth in per capita income, industrial production, and rising values generally. As well, the Gilded Age saw, for the first time, full economic participation by numerous previously disenfranchised constituencies. Historians are rethinking this era. It's about time.
WICKFORD, RI -- During the bleak days of the Depression, Matthew Josephson -- at that time a self-proclaimed Marxist - published a biased and mistake-packed economic history of the Gilded Age. Josephson's The Robber Barons: The Great American Capitalists, 1861 - 1901 hit bookstores in 1934. At the time -- in the midst of massive unemployment, historically-high industrial malaise, and all the human suffering attendant to those realities -- critics and pundits seemed eager to praise a book that damned Wall Street magnates, bankers, and millionaires generally. Thus Josephson's treatise became an influential bestseller. Thus also did men such as Jay Gould, Andrew Carnegie, J.P. Morgan, and John D. Rockefeller -- the industrialists, investors and entrepreneurs who defined their era -- become robber barons. (The term was not one with which any of the moguls had been acquainted. Rockefeller -- the last of them, destined to die in 1937 at the age of 97 -- most likely never read Josephson's book.) Through the following decades, Josephson's volume became the bedrock for nearly all further considerations of the Gilded Age, forming the misguided track upon which several generations of scholars drove their trains.

Josephson was an unlikely Wall Street historian. Born in Brooklyn in 1899, he studied literature at Columbia University, graduating 1920. Immediately thereafter, Josephson and his bride, Hannah Geffen, went to Paris to join the then-thriving community of American expatriate writers. We find no hint of Josephson in Hemingway's letters of the period, or in Hem's memoir of those days, A Moveable Feast. Still, Josephson seems to have been somewhat prominent on the Left Bank, where he edited the literary magazine Broom (1922-1924), and wrote poetry and criticism for other small but respected journals. (Josephson chronicled these years in Life Among the Surrealists, published 1962.)

Josephson's first two books were biographies: Zola and His Time (1928) and Jean-Jacques Rousseau (1932). By Josephson's own account, his consideration of the muck-raking novelist Zola -- whose fictions sought to document the plight of France's underclass -- is what that turned him toward his own personal exploration of "America's vast history of economic injustice."

In The Robber Barons, Josephson presented a quintessentially Marxian analysis of enterprise. Quoting Honore de Balzac's catchy but baseless aphorism that "behind every great fortune lies a great crime," Josephson painted Gilded Age capitalism simplistically as a zero-sum game where a dollar acquired by one person was necessarily one stolen from another. As Maury Klein has observed, Josephson was at heart "a moralist who cared less about the accuracy of the story than about the ideological message he saw in it." In shaping his facts to backup his ideology, Josephson completely missed one elemental truth: The leading entrepreneurs of the Gilded Age were to the modern American economy what the founding fathers were to the Bill of Rights. These men built the infrastructure upon which the whole of their country's 20th century prosperity was based. The Carnegies, Goulds, Rockefellers and Morgans created -- and that is a key word here, created -- capacity and jobs, thus enabling the rise of that most radical and democratic of things: a strong, stable, educated middle class. By being visionaries and taking business risks that served their own ends, the Gilded Age industrialists generated new wealth not only for themselves, but for their emerging nation-state.

During the forty years that followed the Civil War, the United States amazed European investors and observers with the speed at which it morphed from a relatively backward agricultural republic to the most powerful industrial nation on the face of the planet. During the "robber baron" years, the United States outstripped other nations by far when it came to growth in per capita income, industrial production, and rising values generally. As well, the Gilded Age saw, for the first time, full economic participation by numerous previously disenfranchised constituencies. But one has a hard time gleaning these facts from Josephson's book, or from any of its numerous descendants.

Just a handful of volumes published in the wake of The Robber Barons have given the various Gilded Age moguls a fair shake. Of the dozens of biographies concerning Gould, for example, only three -- my recent Dark Genius of Wall Street (Basic Books, 2005), Maury Klein's The Life and Legend of Jay Gould (John Hopkins University Press, 1986), and Julius Grodinsky's Jay Gould: His Business Career, 1867-1892 (University of Pennsylvania Press, 1957) manage to circle in upon the truth of the man and his enterprises. Similar biographical percentages apply to Gould's fellow movers and shakers. For the most part, our literature maligns the titans who pioneered American oil and coal production, built the steel mills that produced the backbones of cities, financed many thousand miles of railway, and shrunk the world with telegraphic magic.

Accurate books do get written every once in a while. But for every Ron Chernow we seem to have ten Howard Zinns. And for every reliable study concerning the founding fathers of our modern economy, we seem to have ten volumes like Zinn's popular, unreliable People's History of the United States, in which Josephson is quoted as the most reputable of sources when it comes to the "robber barons" and their various "crimes."

The latest volley in this war of words is about to be fired, and fired for our side. Look for Charles B. Morris's The Tycoons: How Andrew Carnegie, John D. Rockefeller, Jay Gould, and J.P. Morgan Invented the American Supereconomy (Times Books/Henry Holt) to hit bookstores this month. Morris, as his title suggests, gives credit where credit is due.

The writer is author of Dark Genius of Wall Street.
 

13. Austria Inspires Bigger Rival Economic Gains May Serve as Road Map For German Restructuring
By MATTHEW KARNITSCHNIG
Staff Reporter of THE WALL STREET JOURNAL
October 13, 2005; Page A12

VIENNA -- As German political leaders plot their country's economic overhaul, they are looking in an unlikely place for inspiration: Austria.

Long ridiculed in Germany as backward and lethargic, Austria has overtaken its larger rival in recent years by nearly every economic measure. Austria's unemployment rate is half Germany's, for example, its economic growth is stronger and, according to the Organization for Economic Cooperation and Development, its education system is better.

During the German election, Christian Democratic Union leader Angela Merkel and her Bavarian ally, Edmund Stoiber, praised Austria, citing it as an example of what could be accomplished with forceful change. "They say that they're the better Germany. We say: Germany can do better," Mr. Stoiber said amid the campaign.

The success is largely the accomplishment of Austrian Chancellor Wolfgang Schussel, who broke with convention by linking his right-of-center People's Party with the far-right party of Jorg Haider in 2000. The new government was able to push through spending and tax cuts and to curb bureaucratic hurdles to investment.

That alliance followed years of gridlock under a "grand coalition" of Austria's two main parties -- a similar situation to what Germany is facing today. On Monday, Germany's two main parties agreed to form a government with the CDU's Ms. Merkel as chancellor but with the Social Democrats gaining half the cabinet posts. Although both sides have pledged to continue Germany's overhauls, skeptics say the government won't be able to agree on contentious steps.

Economists and analysts are doubtful the coalition of Germany's Christian Democrats and Social Democrats will succeed in pushing through Austrian-style initiatives. One key demand by German employers -- that they be allowed to fire workers more easily -- is unlikely to be met by the new government in Berlin, critics say. "There's not going to be any weakening of the rules on laying workers off. I don't expect anything at all," says Jorg Krämer, chief economist at HVB in Munich.

DaimlerChrysler is among the German companies drawn to Graz and other Austrian locales by lower production costs and highly skilled labor.
 
 

Many of the changes Austria has pursued over the past five years resemble those being discussed in Germany now. Austria cut the corporate-income tax to 25% from 34%, putting it on the same level as its eastern neighbors and set it apart from Germany, where the rate is more than 38%.

The result has been an influx of foreign investment. So far this year, corporate relocations from outside Austria are up nearly 20%, with many of the new arrivals coming from Germany. The government has also passed a sweeping tax-overhaul package that will cut taxpayers' burden by €3 billion ($3.6 billion), or 1.3% of gross domestic product.

In an interview, Mr. Schussel says such overhauls still could take place in Germany. Like Germany, Austria's economy was heavily influenced by government until its 1990s privatizations. Both nations also have long socialist traditions that have made deep welfare-program cuts difficult.

"The Germans can learn from us that it is possible, together with [the unions and employers], to push through important reforms," he says.

One important mechanism Austria has for pushing restructuring is its "social partnership," a framework for negotiating labor deals and resolving disputes. The forum predates Mr. Schussel's government but has proved particularly important in recent years as the government has tried to sell its program. This week, Ms. Merkel proposed a similar measure.

Other advantages, however, would be harder to implement.

Austrian workers put in longer hours for less pay than their German cousins and almost never strike. Few have had to accept deep pay cuts, but Austrian workers never earned the high wages Germans did or worked as little. In addition, unions have proved willing to accept measures aimed at making the labor market more flexible, such as accepting thousands of seasonal workers to work in Austria every year.

Austria still has its share of problems. Its debt is 65% of GDP, and public-sector spending remains much higher than many others'. Unemployment recently has risen to 5.2% as the economy hasn't been able to keep pace with the growing work force. Another factor pressuring the labor market is the government's recent pension changes, which require workers to work longer before retirement.

Mr. Schussel says Austria's smaller size, which makes it easier to manage than Germany, and the fact that it didn't have the burden of integrating the former East Germany help explain why it has fared better than its neighbor and insists Austria's goal isn't to outshine its longtime rival. "We don't want to be the better Germany, but rather turn this country into a first-class Austria," he says.

Write to Matthew Karnitschnig at matthew.karnitschnig@wsj.com

14. Garment Quotas' Expiration Aids Expected Losers
By MEI FONG
Staff Reporter of THE WALL STREET JOURNAL
October 13, 2005; Page A12

BEIJING -- When global garment quotas expired this year, many economists predicted China's clothes makers would triumph at the expense of competitors, especially developing countries such as Bangladesh and Cambodia.

It hasn't exactly turned out that way.

The sharp rise in Chinese clothing exports this year triggered a wave of trade restraints from countries as diverse as Turkey and the U.S. hoping to protect local manufacturing jobs. This week, U.S. and Chinese officials are trying to negotiate an agreement that would cap growth of a large variety of Chinese garment imports over several years.

The result: Some of China's textile makers are laying off workers or heading offshore to those same countries whose industries Chinese manufacturers were expected to decimate, according to Chinese textile makers and a report. Meanwhile, the expected losers in the global garment stakes -- such as Bangladesh -- have seen orders increase, in some sectors by as much as 48%, according to a study by the International Labor Organization, based in Geneva.

Some of China's biggest textile players, who had hoped to consolidate their operations in China, are once again producing abroad in other countries as diverse as Mongolia and Nigeria in efforts to dodge quotas -- a process that ultimately makes the cost of clothes production higher than it need be.

Luen Thai Holdings Ltd., which makes shirts for Polo Ralph Lauren, Abercrombie & Fitch and Liz Claiborne, is increasing production fivefold in its Hong Kong factory to 400,000 units a month by early next year, which will increase costs per garment by 35 to 50 cents, the company said.

By re-exporting garments through Hong Kong, the company's goods avoid coming under the China quota. This is legal, as garments are trucked or shipped incomplete from China and finished in Hong Kong, enabling them to legitimately carry the label "Made in Hong Kong."

Top knitwear producer Shenzhou International Group Holdings Ltd. this month opened a $3.8 million factory in Cambodia to handle exports to the U.S., which will amount to some $250 million yearly. The company is expected to announce a $101 million to $115 million initial public offering in Hong Kong in November, people familiar with the matter said.

Zhejiang Yuemei Group Co., which exports some $30 million in cotton yarn and polyester yearly from China, has moved all its U.S. production to a factory in Nigeria, company officials said.

Chinese authorities have said U.S. and European Union trade restraints would affect some $2.3 billion in Chinese exports and more than 160,000 jobs. The U.S. maintains that the lifting of the global quotas has resulted in an acceleration of job losses in its already-ailing textile sector.

The study by the International Labor Organization, which promotes workers rights, says a number of Asian developing countries have benefited from the uncertainty surrounding the textile disputes. Bangladesh saw orders go up by $157 million in February after an initial drop by $52 million the month before, according to the report. Pakistan has also benefited, with textile and garment exports increasing on average 22.1% for the first four months of this year, totaling a record $3.05 billion.

The report also downplayed China's sharp rise in exports this year, concluding that trade had been artificially suppressed at the end of 2004, since retailers held off orders in expectation of quota liftings in January and that some of China's increased market share was likely caused by the rerouting of exports away from places like Hong Kong. However, ILO textile researcher Jean-Paul Sajhau said garment industries in countries with few competitive advantages, such as Kenya or Lesotho, declined, as analysts had been expecting.

15. China's Economic Boom Masks Financing Limits of Big Firms
By JAMES T. AREDDY
Staff Reporter of THE WALL STREET JOURNAL
October 13, 2005; Page A13

Strength in China's economy, including solid corporate-profit growth and surging foreign investment, is masking balance-sheet problems at the nation's biggest companies, according to a report by Citigroup Inc. and Moody's Investors Service Inc.

The report compares 686 of China's largest listed companies with nearly 5,000 other publicly traded companies throughout the world, and it concludes the average big Chinese company is behind the global curve in developing a flexible financial structure. The report is to be presented at a meeting organized by Citigroup and Moody's today as they brief senior financial officers of about 100 of China's largest publicly traded companies.

The report, based on data reported for 2004 by the companies, ticks off a number of danger signs at big Chinese companies. They rely too much on simple bank lending. Half of their bank borrowing is for periods of a year or less. Nearly every dollar of profit earned by Chinese companies has been offset by new loans for investment. Only 13 Chinese companies have obtained an internationally recognized credit rating.

Capital markets provide few alternatives for longer-term funding. The report notes that the size of China's stock market, relative to gross domestic product, ranks behind that of every major economy, and the corporate-bond market is essentially nonexistent.

It all adds up to rigid financial structures that don't allow Chinese companies much breathing room should economic fundamentals change. In contrast, companies elsewhere usually tailor their financing to be more adjustable to their individual needs and to changing conditions.

Carsten Stendevad, head of Citigroup's emerging-markets financial strategy group in New York and the report's lead author, said one purpose of the report is to drive business to Citibank and Moody's, by encouraging Chinese companies to turn to the U.S. companies for help in modernizing their capital structures. Still, he said, the report is based on data reported by the firms.

Many of the companies' problems are a reflection of China's heavily regulated financial system and aren't necessarily indicative of poor corporate strategies. Chinese regulators have essentially frozen stock-market fund raising for several months, while the continued poor performance of key stock indexes has discouraged many companies from participating in the market.

Many companies are barred under government restrictions from issuing bonds. Controls on derivatives activity limits their financing options.

Foreign banks have been quietly pressing for business with Chinese companies after Beijing gave the green light for the banks to handle commercial business nearly a year ago. The foreign banks also are responding to signals that more-sophisticated financial hedging products are becoming acceptable to authorities.
 

16. War games Oct 13th 2005 From The Economist print edition
 

A big pay-off for two game theorists

THIS year's Nobel prize for economics might almost have doubled as the prize for peace. On October 10th, three days after the International Atomic Energy Agency and its director-general, Mohamed ElBaradei, won their laurels for monitoring the misuse of nuclear power, the economics prize was bestowed on two scholars whose best work was also done in the shadow of the mushroom cloud.

Robert Aumann, of Hebrew University, and Thomas Schelling, of the University of Maryland, are both game theorists. Game theory is now part of every economist's toolkit and has been recognised by the Nobel award before, when John Harsanyi, John Nash and Reinhard Selten shared the honour in 1994. It is the study of what happens when the calculating, self-interested protagonist of economic fable meets another member of his kind. In such encounters, neither party can decide what to do without taking into account the actions of the other.

During the cold war, two protagonists that captured game theorists' imaginations were the United States and the Soviet Union. How each of these nuclear adversaries might successfully deter the other was the most pressing question hanging over Mr Schelling's classic work, “The Strategy of Conflict”, published in 1960. The book ranged freely and widely in search of an answer, finding inspiration in gun duels in the Old West, a child's game of brinkmanship with its parents, or the safety precautions of ancient despots, who made a habit of drinking from the same cup as any rival who might want to poison them.

America's offer should boost the Doha trade round—if Japan and Europe respond in kind

IT HAS been an awfully long time coming—but then the trouble with rounds of trade-liberalisation talks is that there are no real deadlines. Even so, the offer this week of cuts in farm protection by America's trade representative, Rob Portman, promises to jolt the current Doha round of trade talks out of their slumbers. It won't guarantee success at the next big ministerial meeting in the World Trade Organisation (WTO), in Hong Kong in December. But as a clear statement that America is serious about achieving an agreement over farm trade, following months during which American minds seemed to be focused elsewhere, Mr Portman's offer has suddenly made it plausible that the round could be completed during 2006—as long as the other rich-country farm protectionists, Japan and the European Union, produce comparable proposals. Which they must, if they really want to keep the WTO healthy and to prevent a revolt against freer trade.

The initial response from Japan—that America's offer changed nothing—was not encouraging. But that may merely be the reflexive action of trade negotiators who have not yet felt the effect of Japan's dramatic general election on September 11th, in which the balance of the ruling Liberal Democratic Party shifted decisively away from rural parliamentarians to urban ones, weakening the farm lobby's power. The European Union's response was more nuanced, showing some flexibility but not as much as Mr Portman called for. That may well reflect the EU's decision-making structure, however: Peter Mandelson, the European commissioner for trade, needs approval from national governments if he is to go as far as his American counterpart has demanded. Securing that, with the French government feeling vulnerable and the German one not yet formed, will take time.

But it must be done. Everyone knows that farm protection in Europe, America and Japan is a costly throwback to the past, one that does great damage to the rich countries' relationship with the poorer world, especially in Africa, and that by raising prices acts as a tax on ordinary consumers. Dismantling subsidy systems and cutting farm tariffs is not easy, given farmers' well-honed political tactics and many countries' sentimental attachment to the idea of food security. Like all disarmament negotiations, however, it is made easier if all the great powers are willing to lay down some of their arms.

America's proposal is a serious step in that direction. It is not quite as dramatic as it seems (see article): the 60% reduction offered in the most trade-distorting support disguises some transfers to other forms of subsidy, and the cuts pledged in spending are from allowable ceilings rather than actual sums being spent. But the point is that the proposal is large enough to send a strong signal. As long as other rich countries—and the developing world—play their parts, Doha is not dead—thank goodness.

America's offer should boost the Doha trade round—if Japan and Europe respond in kind

IT HAS been an awfully long time coming—but then the trouble with rounds of trade-liberalisation talks is that there are no real deadlines. Even so, the offer this week of cuts in farm protection by America's trade representative, Rob Portman, promises to jolt the current Doha round of trade talks out of their slumbers. It won't guarantee success at the next big ministerial meeting in the World Trade Organisation (WTO), in Hong Kong in December. But as a clear statement that America is serious about achieving an agreement over farm trade, following months during which American minds seemed to be focused elsewhere, Mr Portman's offer has suddenly made it plausible that the round could be completed during 2006—as long as the other rich-country farm protectionists, Japan and the European Union, produce comparable proposals. Which they must, if they really want to keep the WTO healthy and to prevent a revolt against freer trade.

The initial response from Japan—that America's offer changed nothing—was not encouraging. But that may merely be the reflexive action of trade negotiators who have not yet felt the effect of Japan's dramatic general election on September 11th, in which the balance of the ruling Liberal Democratic Party shifted decisively away from rural parliamentarians to urban ones, weakening the farm lobby's power. The European Union's response was more nuanced, showing some flexibility but not as much as Mr Portman called for. That may well reflect the EU's decision-making structure, however: Peter Mandelson, the European commissioner for trade, needs approval from national governments if he is to go as far as his American counterpart has demanded. Securing that, with the French government feeling vulnerable and the German one not yet formed, will take time.

But it must be done. Everyone knows that farm protection in Europe, America and Japan is a costly throwback to the past, one that does great damage to the rich countries' relationship with the poorer world, especially in Africa, and that by raising prices acts as a tax on ordinary consumers. Dismantling subsidy systems and cutting farm tariffs is not easy, given farmers' well-honed political tactics and many countries' sentimental attachment to the idea of food security. Like all disarmament negotiations, however, it is made easier if all the great powers are willing to lay down some of their arms.

America's proposal is a serious step in that direction. It is not quite as dramatic as it seems (see article): the 60% reduction offered in the most trade-distorting support disguises some transfers to other forms of subsidy, and the cuts pledged in spending are from allowable ceilings rather than actual sums being spent. But the point is that the proposal is large enough to send a strong signal. As long as other rich countries—and the developing world—play their parts, Doha is not dead—thank goodness.

17. Will China's Banking Reform Succeed? By WEIJIAN SHANWSJ October 17, 2005

In a public address more than two years ago, China's newly appointed governor of the central bank, Zhou Xiaochuan, told a business audience that China would take a "gradualist" approach to reforming its banking system. Many thought the governor meant China was in no hurry to fix its banks.

Since then, however, China has injected more than $60 billion to recapitalize four of its five largest banks and has transferred some $200 billion worth of nonperforming loans out of these banks into specialized asset-management companies, almost twice as much as Korea spent to restructure its banks during the 1997-98 financial crisis. Many Chinese banks, including all the recapitalized ones, have brought in foreign "strategic investors" to become their shareholders. One has successfully gone public abroad, and another is expected to complete its overseas IPO soon. Two others have announced major investments by foreign investors and plans for overseas IPOs.

While welcoming this, many foreign analysts continue to greet China's banking reform with skepticism and question the judgment of foreign investors. They note that foreign investors are minority shareholders. Their influence in the running of these banks is likely to be limited to the degree of graciousness of the controlling shareholder or the government. In Korea, for example, the government-controlled Korea Exchange Bank got into trouble even though Commerzbank had become a 30% shareholder after the financial crisis, and LG Card, the country's credit-card issuer, failed after a consortium of international investors had acquired more than 20% of its shares. In both cases, foreign investors had board seats but proved totally ineffective in bringing about any meaningful changes in the way these firms were run. In the end, it is the willingness of the controlling shareholder to accept change that matters.

What makes foreign investors believe that China will be different? Is there any reason for China to want its banks to change the way they conduct their businesses? The reason is not the one most often given, namely that Chinese banks need to prepare themselves against an expected onslaught by foreign competitors come 2007 when China, as part of its entry into the World Trade Organization, will have to remove the last barriers to foreign competition in its banking sector. This threat is overrated, because it will take decades, if ever, and billions of dollars in investment, for any foreign bank to replicate the franchise of the largest of the Chinese banks. Without such a network of thousands of branches, foreign banks will not be able to take any meaningful market share from their Chinese counterparts, especially in the most lucrative retail business. In spite of the growth in volume of banking business in absolute terms, foreign banks have seen their market share in China fall in recent years. This is one reason why foreign banks trip over each other to get even a toehold in a Chinese bank.

A healthy banking system, however, is necessary for China to sustain its economic growth. No country with an open capital market and convertible currency, the direction in which China is moving, can sustain its growth if it has a weak and inefficient banking system. In spite of its rapid growth in recent years, the Chinese economy remains inefficient and wasteful. This can be seen by the fact that, on average, it takes many times more capital and other resources for China to produce one dollar of GDP than it does in developed countries.

These inefficiencies have not yet slowed down the economic expansion because the growth fueled by the country's extraordinarily high savings rate of 43% of GDP. China's ratio of fixed-asset investments to GDP has reached an even higher 50%. However China's growth model, consisting of throwing ever more resources at the economy, has reached its limit as a country cannot invest more than its savings over the long run.

As the savings are channeled into investments by banks, the inefficiencies and wastefulness simply turn into bad loans. As depositors seek payment, banks will eventually run out of money to finance economic growth if they continue to dole out money without getting it back. To continue to grow, China needs to clean up its banking system and force its banks to kick the habit of underwriting bad loans. A strong banking system will ensure more efficient allocation and use of scarce resources, allowing the economy to grow on the basis of improved productivity, as opposed to increased input.

Chinese leaders' resolve to reform the nation's banking system shows that they understand what it takes to sustain economic growth. They are wise and far-sighted enough to take painful measures without waiting until the going gets tough. Whereas many other countries regard foreign capital as the last resort or a necessary devil in solving a banking crisis, China is in the enviable position of having sufficient resources to clean up its banks without foreign help. The capital spent so far on recapitalizing the banks represents only a fraction of the more than $700 billion in foreign-exchange reserves that the country has amassed.

China wants foreign investors not so much for their capital, but for the expertise they bring in. As such, China is prepared to be generous. The deals announced so far allow foreign "strategic investors" to invest at only a slight premium over book value in already recapitalized banks, and significantly cheaper than comparable banks are traded at, such as the Chinese ones listed on Hong Kong Stock Exchange. It also gives them the right to adjust their prices if there is any further impairment to the asset value or if the future IPO price is below their entry cost. Investors are further rewarded with the right to tap into the most lucrative part of China's banking business, such as credit-card operations, through joint ventures with these banks. Foreign investors may be only minority shareholders. But it is whether they are treated as necessary devils or welcome angels that will make the difference between the success and failure of China's banking reform. Chinese banking officials do not wish foreign investors to simply take a ride. They want them to contribute to changing how banking business is conducted in China.

Chinese banking reform does not just redress the balance sheet, it involves systemic change. By and large, policy lending, which was responsible for much of the bad loans, has become history. The two-year-old China Banking Regulatory Commission, or CBRC, has severely tightened banking regulation. The central bank and CBRC have jointly imposed strict capital requirements on banks, penalizing those not meeting them by various means, including making it more costly for them to borrow and limiting their businesses. The central bank has removed the ceiling on interest rates so banks can better price risks. But the most significant step is China's effort to push its banks to adopt good corporate governance. Almost all the national banks have been, or are in the process of being, transformed into joint stock companies with boards whose independent directors must represent a third of the total. All the recapitalized banks are required to go public, preferably in overseas markets. This subjects them to greater transparency, tighter supervision and close scrutiny by overseas regulators and public shareholders.

While what China has accomplished thus far in its banking reform is impressive, Chinese banking still has a long way to go to meet international best practices. For example, it is still the government, rather than the board, that makes the ultimate decision on the appointment and removal of the top management of government-controlled banks. In order for a board to be fully effective, it must be able to hold the top management accountable, including having the power to hire, fire and compensate them with incentives that align their interests with those of shareholders. More broadly, it will take time for Chinese banks to build a real credit culture in which lending decisions are made on the basis of the credit worthiness of the borrower and risk analysis, regardless of relationships and government policies.

In hindsight, a "gradualist" approach means one step at a time, although the pace of change is anything but slow. It is always the most difficult to take the first step, which China has done. The rest of the journey will be very tough. Still, there is good reason to believe that China will get there eventually, given the vision and resolve its leadership has shown in banking reform so far.

Mr. Shan is a partner of Newbridge Capital, a private equity firm.

18. Does Growth Lead to Liberalization?
By Gregory Scoblete   Published    10/17/2005
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In a September 21 speech to the National Committee on U.S.-China Relations, Deputy Secretary of State Robert Zoellick advanced the well rehearsed theory that as China's economy grows, its newly enriched citizens will begin to demand political freedom commensurate with their economic gains. "Closed politics," Zoellick said, "cannot be a permanent feature of Chinese society. It is simply not sustainable -- as economic growth continues, better-off Chinese will want a greater say in their future and pressure builds for political reform."

Fourteen years after the collapse of the Soviet Union and the advance of democracy in Eastern Europe and Asia, Zoellick may have felt a liberalizing wind at his back, but is he correct?  Is the nearly iron-clad conventional wisdom that economic expansion must perforce result in political liberalization accurate? There's reason to doubt it. Indeed, some observers believe that autocracies have discovered a way to make an end-run around the political pressures generated by economic liberalization, creating a stable, sustainable political model -- call it "market autocracy" -- that fuses authoritarian political control with liberal, growth-oriented economic policies.

In the September/October issue of Foreign Affairs, Bruce Bueno de Mesquita and George W. Downs argue that in fact authoritarian countries like China have become quite adept at making this fusion by co-opting and neutralizing what they term "coordination goods" -- technologies and institutions that would help individuals organize politically to undermine the ruling regime. The authors write:
 
 

Threading this needle is difficult, but not, as it turns out, impossible. Gradually, through trial and error, oppressive regimes have discovered that they can suppress opposition activity without totally undermining economic growth by carefully rationing a particular subset of public goods -- goods that are critical to political coordination but less important for economic cooperation. By restricting these goods, autocrats have insulated themselves from the political liberalization that economic growth promotes.

De Mesquita and Downs identify Chinese control over Internet keywords and e-mail, Russia's increasingly vice-like grip on the media, and Vietnam's control over religious organizations as evidence that certain arrows in civil society's quiver can be successfully blunted without dulling the overall economy. From this the authors somberly conclude that "promoting economic growth in the developing world is not nearly as effective a way to promote democracy…as once believed."

Indeed, for the past twenty years China's economy has grown remarkably and the "Communist" in Chinese Communist Party is, from an economic policy standpoint at least, a stale anachronism. Yet the party's rule is uncontested. It has maintained a vice grip on political participation through methods both ancient and novel. Its assiduous Internet censorship is coupled to a ruthless brutality that is both dramatic -- as in Tiananmen Square -- and mundane, as the routine depredations inflicted on the Falun Gong and members of underground Christian sects, attests.

And it's not just China. A quick tour of present-day autocracies shows that many have endured

years, even decades, of sustained economic expansion without succumbing to political liberalism. Consider Southeast Asia, often hailed as an exemplar of political and economic progress. Burma (Myanmar) has seen per capita GDP rise briskly through the 1990s yet is still in the grip of a military dictatorship that successfully overturned a democratic election in 1990 and has ruled uncontested since. Laos ranked 12th among nations by GDP growth through the 1990s yet is still ranked "not free" by the non-partisan NGO Freedom House.

And on: Algeria, Pakistan, Cambodia have all racked up years of economic growth while keeping a firm lid on political participation.

To be sure, many of the countries that have recorded economic growth over the past two decades are not openly capitalist but exercise centralized control over many sectors of their economy. And growth is relative: it's easy to rack up eyebrow raising figures when the baseline is low, as it typically is in autocracies. Nevertheless, many autocratic countries have survived steady economic improvements while beating back efforts at political reform.

Which brings us back to Zoellick: is his optimism in the inevitability of Chinese liberalization misplaced? Are market autocracies a durable fixture on the international scene? It's not an academic question. Determining just how viable a construct market autocracy is will set the course of U.S. foreign policy for years to come. If, for instance, we believe China can sustain its political oppression indefinitely, then America's outlook toward the country's prodigious military build-up will likely harden. If the Communist Party's legitimacy is threatened internally, it will be more inclined to redirect public emotion toward nationalistic or militaristic goals and away from domestic reforms. On the other hand, if Zoellick is right and the poison pill will inevitably work its magic, the U.S. can take a more relaxed attitude toward China's rise, confident that its authoritarian edifice will crumble and follow the Soviet Union into the ash-heap of history.

There is one final element in our calculus that may guide the U.S. vis-à-vis the longevity and potential danger of market autocracy, and that is ideology. It's important to note that unlike fascism and communism, whose adherents sought to actively expand their sphere of influence through conquest or subversion, market autocracies are mostly inward looking. They may be dangerous, but their danger is largely circumscribed. With the exception of state sponsors of terrorism, the ills of autocracy are usually visited on their own citizens or immediate neighbors. Given America's global responsibilities, these localized ills will often merit our involvement, but the mere existence of a market autocracy rarely poses a fundamental or existential challenge to the U.S.-led world order.

The Chinese example, as Zoellick noted, is illustrative:

China, he said "does not seek to spread radical, anti-American ideologies. While not yet democratic, it does not see itself in a twilight conflict against democracy around the globe. While at times mercantilist, it does not see itself in a death struggle with capitalism.  And most importantly, China does not believe that its future depends on overturning the fundamental order of the international system. In fact, quite the reverse: Chinese leaders have decided that their success depends on being networked with the modern world."
 

China may indeed be a threat to the U.S., but the parameters of the challenge are (as of today) localized and territorial, not global and ideological like radical Islam.

As an abstract statement of political trajectory, Zoellick's optimism will likely be vindicated. Over time, "internal contradictions" have undermined political frameworks, as the Soviet Union discovered to its chagrin in 1991. South Korea's emergence from military dictatorship to democratic government is a more specific reminder that a growing economy coupled with an educated-yet-disenfranchised middle class is a potent danger to autocratic regimes. Such a danger is brewing in Iran currently.

But the Soviet example is illustrative in two other manners: democracies do not always rise Phoenix-like from the ashes of the old order and the mere existence of a "contradiction" is often not enough to kick-start change. External pressure can, when intelligently and strategically applied, exacerbate those contradictions and precipitate reform. Given the proven ability of several present day market autocracies to ride the tiger of economic expansion without being swallowed by democratic liberalization, autopilot is not enough. Finding those pressure points should be an urgent priority for policymakers.
 

19. Argentina: Land of the Incredible Shrinking Peso By MARY ANASTASIA O'GRADY WSJ October 21, 2005; Page A15

Plus ça change, plus c'est la même chose, French journalist Jean-Baptiste Alphonse Karr observed in 1849. And when Argentina's consumer prices jumped 1.2% last month -- the largest monthly increase in two years -- those words resonated. A lot of change has occurred in Argentina since the hyperinflation of the 1980s, but as the developing economic story unfolds, much remains remarkably the same.

Inflation for 2005 is on track to top 10% and some Argentine forecasters are bracing for an annualized rate as high as 12%. Peronist President Nestor Kirchner, gearing up for this Sunday's mid-term elections, has blamed greedy supermarkets and threatens action if they don't stop taking "advantage of the fact that there is more demand to increase their profitability."

No wonder analysts are eyeing the pick-up in inflation, and the central bank's passive attitude toward it, like Floridians watching Wilma swirling about in the Caribbean. We already know what happens when this baby makes landfall. Batten down the hatches.

After a decade of monetary calm under the "convertibility law," which required dollar reserves to back up newly minted pesos and pegged the rate at one-to-one, Argentina pulled the plug on price stability in January 2002 and reverted to what it called a "float." The decision to "float," following a massive debt default, was cheered in ivory towers and by no small number of the world's supposedly sophisticated financial writers.

But the monetary strait-jacket was removed from Argentina's legendary machine politics, and any first-year political science student could have predicted the outcome: The Peronists have indulged in money mischief (to borrow a 1992 Milton Friedman title) and the inflation rate has gone up. The fact that the country's top central banker today is known more for his transparent political ambitions than his economic acumen is no confidence builder.

In 2001 and 2002, like revelers on a drunken tear the Argentine government seized bank accounts and dollar holdings, stiff-armed creditors, devalued the peso and tore up contracts. Argentine wealth was wiped out and the economy contracted 10.9% in 2002. In the two years after this debacle, the economy bounced off the bottom, turning in 8.8% growth in 2003 and 9% in 2004.

The trouble is that most of the take from this great heist has been spent now and the high is wearing off. To keep the party going the government is maintaining an artificially weak peso to ensure "export competitiveness" and, in the government's mind, continued prosperity. This, of course, is what is fueling the inflation.

One school of thought holds that the central bank was instructed by the government to shower the country with pesos to help the Kirchner claque win seats on Sunday. With GDP growth forecast close to 8% this year, the prospects for Mr. Kirchner's wing of the Peronist party are good. Had the bank pulled the punch bowl earlier this year, his supporters in Congress could well have faced more difficult contests.

Yet there is little in the government's rhetoric to support the theory that the bank -- which is clearly not independent -- will tighten the money spigots after Sunday. Indeed, the government's budget for next year forecasts double-digit inflation of 10%, sending a worrying signal of tolerance. Moreover, the 2005 inflation number has been held down by the government's refusal to adjust wages and by price controls in some sectors. During the crisis, workers were happy to keep their jobs. But labor seems unlikely to remain placid while inflation erodes purchasing power. Strikes are hitting across the board.

Economists I talked to in Argentina are worried that the bank will only take action when annualized inflation gets near 15%. But as experience teaches, by then momentum could make putting the inflation genie back in the bottle very difficult. As inflation expectations take hold, people flee from the currency, particularly in places like Argentina where politicians have destroyed the currency before.

The country's return to 1998 GDP levels this year occurred in a climate of hostility toward the market and amid a growing role for the public sector. Going forward, the divergence between investors concerns about property rights and a government ideologically opposed to respecting those rights will become a source of trouble.

This anti-market bias has damaged investment, which is now running (in constant dollars) at only 20% of GDP. Economists estimate that to achieve a long-term annual GDP growth rate of 3.5%-4%, a minimum investment rate of 23% of GDP is needed. To reach the 5% GDP-growth-rate that could meaningfully impact poverty and unemployment, the investment rate should reach 25% of GDP.

The strong growth of the past three years has occurred in an environment of underutilization of productive capacity, mainly in the tradable sector where investment is not so crucial and where the devalued peso helps rack up large exports. But infrastructure improvement is inadequate, which discourages ventures that need communications, transportation and other services. A high degree of uncertainty in the energy sector, again driven by the state's punishing attitude toward ownership and profits, has been most harmful.

Other problems are on the horizon. This week, Argentina magnanimously suggested that it might forgive the International Monetary Fund its sins and begin loan negotiations again. Could that have anything to do with $7 billion in total payments due the fund between now and the end of 2007? Meanwhile, the heavily taxed export sector is being squeezed as costs rise even while the government seeks a nominally weak exchange rate.

No one expects Argentina to return to the hyperinflationary terror of the early 1980s, when the central bank humiliated itself to the point of issuing one-million peso notes. But that is little comfort to Argentines who, in a nation of much promise, have experienced lots of change but little progress.
 
 

 20. A stagnant Europe hurts America, not a growing China. A Techcentralstation.com column correctly explains that the United States benefits when other nations grow faster. That is why we should be more concerned that Europe is over-burdened by big government - particularly since it is our biggest market:

      ...a growing China has created large investment opportunities for American business, an expanding market for American exporters, and an important source of low cost goods for American consumers. ...a much larger, more troubling foreign economic situation poses a challenge quite opposite from that of China. The problem is not one of fast growth in an emerging economy, but rather slow growth of a developed region; not of surging exports to the U.S., but rather slowing import growth from the U.S.; not about an economy stealing jobs from America, but an inability to create jobs at all. The problem is Europe and it should worry us more than anything going on in China. ...the European economy is floundering. Annual economic growth in the eurozone has averaged less than 2 percent since 2000. The unemployment rate has averaged 9 percent thus far in 2005, compared to 5.1 percent in the U.S. Half of Germany's unemployed are classified as "long-term" compared to just 12 percent in the U.S. -- a direct result of the fact that Germans receive at least 12 months of unemployment benefits and older workers can receive benefits for more than two and one-half years, compared to the typical six months of benefits available in the U.S. ...government spending in Europe is nearly half of GDP as tax burdens are enormously high on everything from gasoline to low-income worker's wages. ...Unfortunately, the short term economic outlook for Europe is poor. The International Monetary Fund (IMF) again lowered its growth forecast for Europe now to below 2 percent annually for this year and next.
      http://www.techcentralstation.com/101705C.html

Link to this Blog Entry

Wednesday, October 19, 2005 ~ 9:48 a.m., Dan Mitchell Wrote:
21. Australian tax system becoming less competitive. A new report shows that the corporate tax in Australia is a large burden compared to other nations. The methodology is somewhat dubious, however, since it measures tax collections rather than tax rates. And as Ireland demonstrates, low tax rates actually are a way of generating higher tax receipts. Nonetheless, Australia still should lower tax rates - though policy makers may want to focus on the individual income tax, which unambiguously is far too high:

      Treasurer Peter Costello faces more pressure to reform the tax system after a new report found Australian businesses are among the highest taxed in the developed world. The Business Council of Australia report found only Luxembourg and Norway relied more heavily on the tax taken from the business sector than Australia. ...The survey of the corporate tax system found the tax burden on Australian business was 5.3 per cent of Gross Domestic Product, 64 per cent above the OECD average of 3.4 per cent of GDP. ...Opposition treasury spokesman Wayne Swan said the council had highlighted a major problem facing Australian business. "The report paints a picture of Australia's declining competitiveness, particularly compared with key trading partners and competitors in the Asia-Pacific region," he told AAP.
      http://www.theage.com.au/news/Business/Costello-under-pressure-for-tax-re form/2005/10/17/1129401179566.html

22. Skyping the Hype  By Meelis Kitsing   Published    10/20/2005
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http://www.techcentralstation.com/102005A.html
"Supermodels not wanted. We want your brain." This ad, in English, appeared in Estonian newspapers in 1999. At the time, the advertisement seemed ironic in a country where the biggest international breakthroughs had been achieved by skin-and-bones supermodels, such as Carmen Kass. Now the anti-supermodels irony is history. The result of the brains attracted by the ad -- the peer-to-peer (P2P) Voice over Internet Protocol (VoIP) venture called Skype -- was sold to eBay in September for $2.6 billion.

The ad was placed by Niklas Zennstrom and Janus Friis, a Swede and a Dane, who later became known as the founders of Kazaa (a P2P filesharing program) and Skype. It seems to be about the only commercial message Zennstrom and Friis had to pay for. Despite their efforts to remain geeks, the Swedish-Danish tandem and the Estonian programmers behind Kazaa and Skype became supermodels in their own right. They were on the front page of the New York Times as early as 2002. When their new program, Skype, was still in its beta version, Fortune magazine ran a feature story, the lead of which opened with a scene in the trendy bohemian bar Noku in the Old Town of Tallinn. Now Skype is becoming a household name, with magazines ranging from the Economist to Vanity Fair fawning over the venture -- which has yet to make a profit and had a turnover of $7 million last year and expects to earn $60 million this year.

Despite the media frenzy, Skype should not be dismissed as hype. Skype users swear by the superb quality of the experience. A recent conversation with a Stanford-educated Indian computer engineer who frequently makes calls to India via Skype confirmed the excellence of service. Prior to using the service, he doubted the quality, based on a number of technical problems he foresaw as hampering the technology's potential. To his surprise, he discovered that Skype actually provided better quality than experienced in regular phone calls to India.

Unlike many other VoIP service providers, Skype (like the file-sharing program Kazaa) relies entirely on peer-to-peer (P2P) technology. P2P technology creates important technological advantages compared to the traditional server-client model. The Skype directory is entirely decentralized and distributed among network nodes. This in turn implies that Skype can increase its scale rapidly without added investments for expensive and centralized infrastructure.

For instance, the Skype team's previous undertaking, Kazaa, has often been called the new Napster. However, the Napster comparison completely misses an important technological difference. While Napster utilized client-server structure for some tasks, Kazaa relied entirely on P2P technology. Naturally, the technological difference translates into crucial legal and economic implications. In the case of Kazaa, it has been more difficult to hold the distributors of file-sharing program responsible for illegal downloading of files. Due to the use of server-client structure by Napster, documentation of its direct involvement in illegal file-sharing was easier.

This technological aspect explains why P2P VoIP is economically superior to server-client VoIP as well as to traditional telephony. Economic superiority has a tremendous effect on the competitive rivalry in the telecom market. Skype has a lower cost structure, thereby enabling lower prices in comparison with non-P2P VoIP and traditional phone services. It is also easier to scale Skype's subscribers, because Skype does not need to invest in additional infrastructure for accommodating new users - a necessary investment for non-P2P centralized VoIP service providers and, obviously, traditional telephony companies. Hence, Skype is not growing rapidly because of hype but rather, due to its technological and thus economic superiority. The quality of this disruptive technology has created hype - not other way around.

Most interesting is the origin of this superior technology. It did not emerge in the high-tech clusters of Silicon Valley or Boston's Route 128. Skype's management and marketing office is in London. The company is registered in Luxembourg. However, all the programming and product development is carried out in Tallinn, Estonia.

Furthermore, Skype's programmers were not in any way backed by the government. Quite the opposite, it received relatively little attention before skyrocketing to international fame; the local "technology gurus" and politicos with technological leanings were busy searching for the "Estonian Nokia." Just half a year ago, many local IT and telecom analysts were still underestimating the role Skype might play in changing the traditional telecom landscape. And then overnight, millions of dollars poured into the country and Skype has become a part of eBay.

Loose networks of computer programmers and small companies in libertarian and bohemian environments are behind such success. Estonia's reforms in the 1990s created an open environment for Internet diffusion and related technologies in Estonia. A recent report out of the World Economic Forum on the competitiveness of countries ranked Estonia as 20th in the world -- far ahead of any other new EU member states and also ahead of many "old" EU members. The country has consistently placed in the top ten of various rankings on economic freedom during the last years.

The conventional account of Estonia's success in entering the information age overnight, despite its initial backwardness, has overemphasized the role of direct government intervention, and has perhaps given attention to some large companies while ignoring a vast number of small technology companies. Certainly, due credit must be given to politicians for opening the market and carrying out rapid liberalization after the collapse of the Soviet Union. In this sense, the government has contributed to this achievement by not interfering much in the market during the last decade. Technology entrepreneurs and creative destruction took care of the rest.

Nevertheless, technological successes have led to attempts by politicos to capitalize on the achievement by showing themselves as true heroes. Such a posteriori rationalization and this self-congratulating attitude has created some unnecessary public sector financed pet projects. The shortcomings of direct government intervention are well demonstrated by the sorry saga of the national gene project, where public sector money was poured in and politicians dominated the supervisory board. Despite many years of hype and political backing, the gene project has nothing to show for the taxpayers' money spent so far.

Hence, the difference between the bohemian, non-hierarchical culture of Skype and the government-backed gene project could not be more telling. The success of Skype and the failure of the gene project can be understood in the context of research by Richard Florida, who emphasizes the importance of "creative classes" for the emergence of new technology enterprises. Technology, talent and tolerance, what Florida calls the 3Ts, are mutually self-enforcing and their combination is vital for entrepreneurship. In other words, Florida identifies the linkages and positive externalities of technological, economic, and artistic and cultural creativity. Indeed, the story of Skype demonstrates that bohemian clubs have better chances for contributing to the emergence of a new technology venture than does government intervention.
 
 

23. Be careful, Mr. Greenspan Oct 20, 2005 by Alan Reynolds ( bio | archive | contact )
http://www.townhall.com/opinion/columns/alanreynolds/2005/10/20/172032.html

Several of the wisest economists and editorial writers I know are recommending that the Federal Reserve should keep raising interest rates until ... until what? Until something bad happens?

 Central banking is the last refuge of central planning -- the notion that a group of experts can meet in secret and plan the economy from the top down. But this is a game played without any rules. We speak of the "art of central banking," as though it is akin to a magic show. So long as a central bank doesn't mess up too badly, we tend to almost deify central bankers. When they do mess up, many then argue that we must have deserved the pain and suffering as penance for the good times.

 One well-known problem with this magic show is called "recognition lag," and it often results in "overshooting" -- pushing interest rates too high or too low for too long. Look carefully at the reasons given for Fed decisions, and you will find they always refer to something that happened in the past. Economic growth looked fine last year or last quarter, for example. This is like speeding down the highway while trying to steer your car by gazing in the rearview mirror -- to see if you're staying inside the lines.

 For mysterious reasons, these speeding, backward-gazing magicians prefer to focus on past news about the real economy, rather than growth of inflation or nominal spending. The inference is that vigorous growth must be inflationary and that weak growth ensures weak inflation. Yet inflation has always gone up whenever economic growth turned flat or negative -- in 1974-75, 1979-81, 1990 and even 2001.

 Nobody knows what the Fed will do next, or why. But I do know what happened in the past under eerily similar circumstances. Every recession in the past 30 years has been preceded by a confluence of four events, three of which may have been avoidable:

 First of all, energy prices were rising rapidly before every recession. Within the consumer price index (CPI), energy prices rose 8.1 percent in 1973 and 29.6 percent in 1974; 25.1 percent in 1979 and 30.9 percent in 1980; 5.6 percent in 1989 and 8.3 percent in 1990; and 16.9 percent in 2000.

 Aside from 2000, inflation in general was terribly high even before those previous energy price spikes -- the non-energy CPI rose 7.8 percent in 1978 and 4.4 percent in 1988. After oil prices spiked, however, the non-energy CPI always slowed rather than accelerated for a few years. There is no evidence that energy price spikes have ever led to higher non-energy inflation. That's a dangerous myth.

 Second, as a result of Fed tightening, the yield curve became flat (as in 2000) or inverted. The Fed pushed the fed funds rate above the yield on long-term Treasury bonds in 1969, 1973-74,1979-81 and 1989.

  Third, the fed funds rate was relatively high in real terms -- at least two or three percentage points higher than inflation in the CPI less energy.

 These same interest rate patterns work well in reverse. Before inflation accelerated, the yield curve steepened and the real fed funds rate was near zero or negative. The funds rate was well below bond yields in 1971-72, 1975-77, 1987-88 and 2003-2004. And the funds rate was equal to or lower than non-energy CPI inflation in 1974-77, 1992-93 and 2003-2004. This is not what is happening now. The opposite, in fact.

 If we compare the funds rate with long bond yields or non-energy inflation, the Fed was indeed too easy in 2003-2004. But not this year. Those advocating several more increases in the fed funds rate appear to be steering with the rearview mirror.

 Although I believe the Fed pushed the fed funds rate too low in 2003-2004, that does not require or justify overshooting in the other direction in 2006. If that happens, the Fed might once again overreact to the resulting recession by easing too aggressively long after the recession ended (as in 1992-93 and 2003-2004). To avoid lurching back and forth between brake and accelerator requires great caution and foresight. Rules would be better, but there are none. Monetary policy is a euphemism for whim and caprice.

 The fourth potentially troublesome development is this: Whenever energy prices and U.S. interest rates were simultaneously rising in the past, foreign central banks turned that into a synchronized global squeeze by raising their interest rates, too. That copycat behavior was partly a consequence of confusing energy price spikes with a general inflation. The dollar was rising, as it has been this year, which makes dollar-based oil prices rise even faster in terms of sinking yen or euros.

 "Banks From Japan to Europe Ponder Tightening With Fed," notes a front-page headline in The Wall Street Journal. The writer's only hope was that "a reversal in oil prices or renewed economic slump could put them on hold." That confirms my concern that central banks at home and abroad are focusing on the one relative price they are least able to control without precipitating recession -- namely, the world price of oil. A higher fed funds rate is a perverse way to persuade the Chinese to buy less oil, or the Texans to produce more.

 As for the ominously familiar idea that the biggest central banks will push rates up until there is clear evidence of a "renewed economic slump," that requires a trial-and-error process that can only end one way -- in error. By definition, rates would keep rising until it's too late.

 The non-energy CPI has averaged 2.2 percent since 1996 -- compared with 5.5 percent from 1967 to 1995. On a year-to-year basis, non-energy inflation was still 2.2 percent the last time I checked. It was even lower if you look at a more accurate chain-weighted index, and lower still in Japan and Europe.

 The futures market has lately been expecting the U.S. fed funds rate to reach 4.5 percent early next year and keep heading higher. Unless something unexpected happens to lift the non-energy CPI above its stubborn 2.2 percent trend, a 4.5 percent funds rate suggests a real interest rate on cash of about 2.3 percent.

 It could be worse. The comparable real interest rate hit 3.5 percent in 1990 and 2000 before the economy began to unravel. Unless bond yields rise substantially, however, a funds rate of 4.5 percent or more would nonetheless be higher than the yield on 10-year Treasury bonds. By this measure, the yield curve would be at best flat and probably inverted. That has never happened in the midst of an energy price spike without the economy slipping into the tank. Never.

24. The golden calf of democracy By: Lawrence W. Reed 1-18-05  http://www.bipps.org/ARTICLE.ASP?ID=282

No one knew better how to deflate the inflated than the late political satirist and commentator H. L. Mencken. “Democracy,” he once said, “is the theory that the common people know what they want, and deserve to get it good and hard.” He also famously defined an election as “an advance auction of stolen goods.” With so many promises made in this year’s elections to so many, his description seems especially fitting.

Mencken was not opposed to democracy. He simply possessed a more sobering view of its limitations than does today’s conventional wisdom, which regards it as the unmentioned fourth branch of the Trinity.

Democracy may be the world’s single most misunderstood concept of political governance. Commonly romanticized, it is assumed in most circles to ensure far more than it possibly can. The Norman Rockwell portrait of engaged, informed citizens contending freely on behalf of the common good is the utopian ideal that obscures the very messy details of reality.

Pure, undiluted democracy would be unshackled majority rule. Everybody would vote on everything, and 50 percent plus one extra vote would decide every “public” issue — and inevitably, a lot of what ought to be private ones, too. Ancient Athens for a brief time came closest to this, but no society of any size and complexity can practice this form of governance for very long. It’s unwieldy, endlessly contentious, and disrespectful of the inalienable rights of individuals who find themselves in the minority.

People like the sound of “democracy” because it implies that all of us have an equal say in our government, and that a simple majority is somehow inherently fair and smart in deciding issues. Subjecting every decision of governance to a vote of the people, however, is utterly impossible. Many decisions have to be made quickly and require knowledge that few people possess or have the time to become expert on. Many decisions don’t belong in the hands of any government at all. A pure democracy, even if possible, would quickly degenerate into the proverbial two wolves and a sheep voting on what to have for lunch.

Suppose someone says, “I just don’t like people with boats and jewelry. I think we should confiscate their property. Let’s have a vote on that.” A democratic purist would have to reply, “All in favor say ‘Aye’!” Anyone interested in protecting individual rights would have to say, “That’s not a proper function of government, and even if 99 percent of the citizens vote for it, it’s still wrong.”

In common parlance, “democracy” has been stretched to mean little more than responsive government. Because of such things as elections, government officials cannot behave in a vacuum. That fact is laudable, but it hardly guarantees that government will be good or limited. Even the best and most responsive of governments still rest upon the legal use of force — an inescapable fact that requires not blind and fawning reverence, but brave, intelligent and determined vigilance.

Elections are a political safety valve for dissident views, because they rely on ballots instead of bullets to resolve disputes. They allow for political change without resorting to violence to make change happen — but the change a majority favors can be right or wrong, good or evil. The folks who work to make it easier to vote so more votes are cast should also spend their time encouraging others to be well-informed before they vote.

In spite of this year’s candidates singing interminable paeans to “our democracy,” America is thankfully not one and never has been. Our founders established a republic, modifying democracy considerably. It provides a mechanism whereby almost anyone can have some say in matters of government. We can run for office. We can support candidates and causes of our choosing. We can speak out in public forums. And, indeed, some issues are actually decided by majority vote.

But a sound republic founded on principles that are more important than majority rule (like individual rights) will put strong limits on all this. In its Bill of Rights, our Constitution clearly states, “Congress shall make no law. ...” It does not say, “Congress can pass anything it wants so long as a majority supports it.”

If you worship the golden calf called democracy, you might want to think about finding a different religion.

— Lawrence W. Reed is president of the Mackinac Center for Public Policy in Midland, Mich., and an adjunct scholar with the Bluegrass Institute.
Categories: Government, Federal; Government, General
 

25. Koizumi's Reforms Could Bring Yen out of Mattresses
By JOHN H. MAKIN
WSJ October 20, 2005
Japan's postal privatization will help sustain a higher level of economic performance
Japan's real plan to end its decade-long struggle with slow growth has little to do with traditional monetary or fiscal policy measures. Rather, Japan is employing a bottoms-up approach including, most significantly, a radical redesign of its Postal Saving Financial Services arm that will help to draw Japanese households' massive $5 trillion-plus of accumulated cash holdings back into productive uses.

Grumbling about the slow pace of Japan's postal privatization, to be completed by 2017, is misplaced. The most important aspect of postal privatization is already underway. Since Oct. 1, it has been possible for Japanese savers to buy mutual funds directly at their post-office windows. Three institutions, Goldman Sachs, Daiwa Securities, and Nomura Securities were the winners in the first-round of bidding to initiate mutual-fund outlets located in Japan's post offices. Part of the bidding process was presentation to the Japanese government of plans to train postal officials to advise their depositors on the benefits of alternative mutual-fund investments.

These are the same postal officials who, in the past, have mopped up literally trillions of dollars of assets from Japanese households for use by the government to purchase government bonds or to finance public works including the infamous "bridges to nowhere." Now, the post office, the key financial institution in the post-war period for most Japanese households, is being mobilized to help attract Japanese savings into productive uses in the private sector.

The simple fact that Japanese households can now buy mutual funds at their post offices may not sound very impressive who are accustomed to a wide range of savings outlets including, literally, hundreds of mutual funds. Yet, in Japan where outlets for savings have been monopolized for years by the government, this is truly a big step. Anyone who doubts the significance of the transition to mutual-fund offerings at the post office need only take a look at the long faces of the unsuccessful bidders in the initial round of selecting the firms permitted to offer their funds at post offices. Major names like Fidelity, Mizuho, and Shinsei Bank were all eagerly seeking a presence in the post office and will be aggressive bidders in the next round of allocating slots.

Japan's 24,000 post office branches have long constituted a dream opportunity for any financial institution seeking direct point-of-sale access to Japan's legendary savers. For most of the period since World War II, Japan's post offices have monopolized the access of Japanese households to financial markets. The system is popular because in the past, with government subsidies, the post office has been able to offer attractive deposit facilities like the 6-8% coupon 10-year bonds offered in the early 1990s, before Japan's deflation really set in. Banks and brokerage houses just couldn't compete with the postal-system offerings, except during the bubble years of the 1980s in Japan's stock market.

But these days are over. Now, as existing postal-service deposit instruments come due, Japanese savers will be able to select from a broader range of outlets for their funds. Beyond that, the post office is no longer empowered to offer such unusually attractive terms, since the lengthy period of deflation and poor economic performance has meant far lower yields on postal-service deposits.

Since the 1990 stock-market crash, followed by years of deflation and poor, fee-laden service from shaky banks on deposits paying virtually no interest, Japanese households have accumulated trillions of dollars worth of cash held literally "under the mattress," or in what have become very low-yielding (well below 0.5%) deposits at the post office. Over the last three years, cash and deposits (mostly cash) of Japanese households averaged about $7 trillion or about 56% of total personal-financial assets. Stock holdings in 2004, at about $700 billion were just 10% of the cash and deposits category and constituted only 5.4% of total personal-financial assets-up from a mere 3.8% in 2002.

The Japanese people, not to mention global-financial markets, and the Japanese economy, could be powerfully affected by the newfound ability of Japanese post offices to serve as a conduit for Japan's large pool of savings into effective use in financial markets. Global investors are already excited about the prospects for Japan's slimmed-down, well-managed large companies. The Japanese stock market has risen by 20% in the last four months. If Japanese savers decided to move just 10% (or $700 billion) of their cash and deposits into stocks, the result would be higher stock prices and substantial wealth creation in Japan that would help to boost domestic demand -- a necessary condition for economic recovery. Higher stock prices would, in turn, be based on strong fundamentals: a market capitalization of improved prospects for growth.

Japanese households, long deterred from stock markets by the perceived risks associated with the market crash of 1990 are now looking at improved fundamentals in the Japanese economy. Deflation has eased; foreign ownership in equities is rising. Foreigners are impressed by the unwinding of cross-shareholdings and the rise in dividend returns to more than 4%. Improved labor incomes have boosted Japanese household confidence to a point where they have been prepared to invest more heavily in foreign bond funds than they are in Japanese stocks.

Japanese policymakers appear to have reached the conclusion that the outflow of cash by households into foreign bonds can be at least partly diverted into Japanese stocks. This may be one of the reasons why Prime Minister Junichiro Koizumi was so adamant about continuing postal-system privatization. The future of the mutual-fund outlets and post offices would have clearly been in doubt without the legislative approval of the full postal-service privatization process.

The redeployment of Japanese savings through the new mutual funds at the post office could initiate a virtuous cycle of growth. If the Nikkei Stock Market Index, as a result of a modest injection of the households' idle cash, rose by another 30%, say to 18,000, Japanese households would experience a wealth gain of about $210 billion on their current modest equity holdings. If just 5% of that wealth gain were spent, an estimated 0.2 percentage points would be added to GDP growth. That increase is significant in an economy where long-term sustainable growth is expected to be about 1.5%.

There is one more step that financial reformers could take to improve the functioning of the capital markets that are so critical to maintaining the momentum of Japan's recovery. The process of allocating access to the postal service as an outlet for mutual-fund shares and other financial-services should be made more transparent. Financial-service providers should be able to bid openly for the right to offer financial services at Japan's post offices. The initial round of allocations was somewhat opaque. While private financial-services firms seeking the post office franchise did include bids for the franchise in their offers, other unspecified factors were involved in the final allocation.

A simple auction of postal service/financial-service outlet franchises would be best. If enough private firms bid for and attain access to the post office as retail outlets, the government's goals of liberalizing the financial-services industry will be well served since a large number of financial outlets at the post office would generate competition among providers of financial services that would ensure the lowest cost and most effective access to such services for Japan's households.

Japan's economy is on the move and while it will continue to have its ups and downs, Prime Minister Junichiro Koizumi's postal-service privatization drive will play a significant role in sustaining a higher level of economic performance. The post office can play a key role in mobilizing Japan's substantial pool of savings into market-driven rather than government-directed utilization of these funds. The result will be improved resource allocation and faster growth in Japan.

Mr. Makin is a visiting scholar at the American Enterprise Institute.
 
 

26. Donald or Duck By TOMASZ LIS WSJ October 20, 2005  RE: Poland

WARSAW -- On Sunday, Poles will choose their fourth president since the fall of communism. He will either be a 48-year-old economic liberal with an Anglo-Saxon sounding name -- Donald Tusk -- or the 55-year-old right-wing socialist (in Poland, no oxymoron) Lech Kaczynski. With election day around the corner, it may well turn out that more than 60 years after the end of World War II, the outcome will be determined not so much by the candidates' individual appeal, but the Wehrmacht.

The generally positive tone of this presidential campaign changed last week when the Kaczynski campaign looked back in time to make up the deficit in opinion polls. Jacek Kurski, a Kaczynski strategist, claimed that the rival candidate's now deceased grandfather, Jozef Tusk, had volunteered for the German army during the war. This biographical detail probably shouldn't matter, especially in a country that currently adores another former Wehrmacht foot soldier, Pope Benedict XVI. But along the Wisla, history is a living force. The genealogical tree of prospective leaders is studied closely.

A couple days later after this shocking revelation came another one. Mr. Tusk's grandfather, it turned out, didn't volunteer for the Germany army. He was forcibly drafted in occupied Poland, and then escaped to join the Polish Army, where he served with until the war's end. It is impossible to tell whether a part of the electorate, particularly among the elderly, will decide that a good Pole must have no links whatsoever to the hated Wehrmacht. Possible, but so far Mr. Tusk has profited the most from this affair. The favorite claimed the higher moral ground, accusing the Kaczynski camp of dirty campaigning, and blunted his upstart rival's recent rise in the polls.
* * *

The second round of the presidential election pits candidates of the right, yet these men seem so different that even the concept of "right-wing" loses all meaning in the Polish version. In practice, this political camp accommodates everyone and everything that isn't "communist," post or otherwise. Here social conservatives, economic liberals, statists, even socialists sit together. Both contenders spent the communist era in the anti-government opposition, which automatically means that they're now "right-wing" politicians. But their differences are as wide as, say, between Ronald Reagan and Jacques Chirac, who are also both considered men of the right.

In Poland, as in most countries, presidential elections are won in the center. Mr. Tusk claimed his lead in the polls by masking his liberal views on social issues and conveniently forgetting his opposition to the death penalty and the delegalization of abortion. Mr. Kaczynski found his place in the middle by contrasting his vision of a Poland of "solidarity" against Mr. Tusk's "liberal" Poland. He styles himself a defender of the poorer majority that stands to lose out to the rich minority in a Tusk-led Poland. Ironically, the surprise victory of Mr. Kaczynski's Law and Justice party over his rival's Civic Platform in last month's parliamentary elections has weakened the force of this attack. After all, Civic Platform won't be able to implement much of its liberal agenda anymore.

In this face-off between a Donald and a Duck (Kaczynski's nickname in Polish), the country will be choosing between two fears. On the one hand is the fear expressed by a large part of the Polish electorate that the economic liberals will gain too strong a hand. On the other is the fear of perhaps an even larger chunk of the twins.

Mr. Kaczynski's identical twin, Jaroslaw, heads up Law and Justice and is busy building the next government. He declined to claim the prime minister's job to help his brother, but no one is fooled that he no longer pulls the strings. And if Lech wins on Sunday, these twins would be the most powerful genetic combo in the history of any country. Their supporters talk about the unique, fraternal loyalty with admiration. Opponents do so with anxiety. Over 40 years ago, the Kaczynski brothers starred in a children's hit movie, "Two Who Stole the Moon," in which they sang a verse that rings all too relevant today: "We are two, we are two, for the whole country." More than a few Poles fear that these two who stole the moon now want to steal Poland.
* * *

These elections also pit two alternative "complexes," although the word is employed in a different way by each man. When Lech Kaczynski accuses Mr. Tusk of favoring a foreign policy full of "complexes," he simply means that a President Tusk would be weak. That Poland would not be able to stand up for itself in tough negotiations with Germany, Russia or the European Union. Mr. Tusk for his part says that the choice is between a "proud Poland" and a "Poland full of complexes." In this picture, he naturally identifies himself with the first and Mr. Kaczynski the second. He claims that his rival lacks finesse and experience beyond Poland's borders. Instead of taking full advantage of Poland's new found stature within the EU and NATO, Mr. Kaczynski would close the country in on itself. This argument hits close to home. Mr. Kaczynski is indeed closed to the outside world, easily prone to see slights and conspiracies against him and Poland where, sometimes it must be said, none exist.

Yet the differences here are more of style than substance. It's hard to find great divergence in their public statements and positions toward Brussels, Washington, Berlin or Moscow. The rest is symbolism. And the reality is that neither man has any hands-on experience in international politics. Neither speaks a foreign language well.

The departing two-term President Aleksander Kwasniewski, a post-communist, continues to enjoy great support -- about 60% approve of his handling of the job. But no post-communist candidate made a serious run for his job. After four years of post-communist government led by the Democratic Left Alliance, voters gave this crowd a red card last month. The electorate has high expectations for the next group of leaders: a stronger economy and jobs as well as less corruption and better government. On this latter score, Lech Kaczynski holds the stronger hand, having talked about the unhealthy links between politics and economy for years. He tells Poles -- I'll make the state healthier! Mr. Tusk replies -- I'll make it smaller! Both recipes enjoy broad support.

Donald or Duck? Let us admit that the choice on Sunday is really between two different people rather than radically different visions of the state or Poland. Everything may depend on which face the Poles want to show to the world.

Mr. Lis is director of programming and a member of the board at Polsat, the biggest private television network in Poland.
 

27. A foreign affair Oct 20th 2005From The Economist print edition
 

Inflation is increasingly determined by global rather than local economic forces

THE average inflation rate in the G7 economies rose to an estimated 3.2% in September, its highest for 13 years. The main reason for the return of inflation is that oil has become a lot more expensive; “core” inflation rates, which exclude oil and food, remain much lower in all countries. But fears are mounting that higher oil prices will feed into other prices throughout the economy, pushing inflation higher still.

This is particularly worrying for America. On top of soaring oil prices, companies' unit labour costs rose by 4.2% in the year to the second quarter, mainly thanks to slower productivity growth. The rate of growth of these costs increased by more over the year than at any time for two decades. With energy and labour becoming conspicuously dearer, any inflation model based on a mark-up of prices over costs should be flashing red. Yet in the past year core inflation has not budged. How come?

Stephen Roach, chief economist of Morgan Stanley, suggests that thanks to globalisation, the inflation process has changed over the past three decades in a way that has significantly weakened the link between domestic cost pressures and inflation. He draws on an analysis in the latest annual report of the Bank for International Settlements (BIS), which suggests that global forces have become more important relative to domestic factors in determining inflation in individual countries.
 

According to the BIS, the correlation between core inflation and the growth in unit labour costs in America fell to only 0.3 in 1991-2004, from nearly 0.8 in 1965-79. The link between inflation and labour costs also faded in other developed economies (see chart). This probably reflects two things. First, the integration into the world economy of China and other emerging economies with vast supplies of cheap labour has curbed the bargaining power of workers in developed economies. These workers therefore find it harder to secure higher wages when inflation picks up. And second, fiercer global competition has made it more difficult for firms to pass increases in wages through to prices. Instead they must absorb them in their profit margins.

As further evidence that firms are less able than they were to hand cost increases on to their customers, the BIS found that fluctuations in import prices also have much less impact on core inflation than they once did. Similarly, the link between movements in exchange rates and import prices has sharply diminished. Standard economic theory has it that a fall in the dollar against the euro should push up the dollar prices of European exports to America, raising America's inflation rate. But the proportion of exchange-rate changes passed through to import prices has fallen everywhere; in America, it has been 60% lower since 1990 than it was in the previous 20 years. Today, exporters set their prices for a local market and then either hedge their currency risk or absorb currency changes in their margins.

Global inflation Economist  Oct 20th 2005
 

Increased global competition has thus limited the room for firms to pass on higher costs. This makes a nonsense of traditional economic models of inflation, which virtually ignore globalisation and assume that companies set prices by adding a mark-up over unit costs, with the size of the margin depending largely on the amount of slack in the economy. In reality, when setting prices firms are increasingly likely to be constrained by global competition. Given the price the market will bear, they design and make their products as profitably as they can. As a result, domestic cost pressures, whether in labour or energy, no longer lead automatically to higher inflation, but are more likely to show up as swings in profit margins.

This suggests that in forecasting inflation central banks now need to pay less attention to domestic shifts in unemployment and capacity utilisation and much more to the global balance between supply and demand. The BIS's research shows that since 1990 the core rate of inflation has become less responsive than it used to be to changes in the output gap (a measure of economic slack) in all the main developed economies except Britain. The ups and downs of inflation increasingly reflect the global balance between supply and demand.

A premature obituary

The nature of inflation has thus changed. But it has not died, although the forces of globalisation have helped to combat it. Policy blunders by central bankers could still allow it to break out again. Indeed Don Kohn, a governor of the Federal Reserve (and one of several potential successors to Alan Greenspan as chairman), reckons that the impact of China and other newly industrialising economies on inflation is often exaggerated. In a speech last week, he drew on a Fed study which concluded that the direct impact of cheaper Chinese imports on American inflation was modest. However, this study ignored the indirect effects of China on wages and the fact that cheaper Chinese goods do not just reduce the price of imports from China but, through competition, the price of all goods sold worldwide.

Mr Kohn may well have underestimated the extent to which globalisation has borne down on inflation in past years. However, more important for policymakers today is its future effect. As Mr Kohn argued, the emergence of new industrial giants has increased not only global supply but also demand, particularly for oil and other raw materials. By running large current-account surpluses these economies are currently adding more to supply than to demand, so their net effect is disinflationary. But this could change. If their exchange rates rose and their domestic demand increased, said Mr Kohn, downward pressure on prices would ease, and might one day be reversed.

Even though globalisation has helped to hold down inflation so far, capacity constraints will eventually appear in the global economy, just as they always have at the national level. Globalisation does not relieve central bankers of their responsibility for maintaining price stability. But it may require them to steer policy by a different compass: one that takes much more account of developments abroad.
 
 

28. Curse of the 'Caudillos' Resurgent Strongmen Stunt Latin America's Economy, Democracy
By DAVID LUHNOW
Staff Reporter of THE WALL STREET JOURNAL
October 20, 2005; Page A13

MANAGUA, Nicaragua -- Former Nicaraguan President Arnoldo Aleman is serving a 20-year sentence for corruption during his 1997-2002 term in office. But rather than rotting in jail, he lives comfortably on his sumptuous plantation. And a judge recently expanded his "house arrest" -- ostensibly for health reasons -- to include this entire capital city.

"The Fat Man," as the 300-pound Mr. Aleman is known locally, is sure to be a pivotal player in next year's presidential vote, too, either by naming himself the candidate or picking his Liberal party's standard bearer. He has used the party's congressional majority to paralyze the agenda of the man who prosecuted him, President Enrique Bolanos, and hold up key legislation such as ratification of the Central American Free Trade Agreement, which could help the impoverished nation attract investments. Mr. Aleman's goal, friends and family say: getting his conviction overturned.

With the rise of democracy in Latin America since the 1980s, political strongmen were supposed to be consigned to history. But Mr. Aleman's activities highlight the continuing influence of these so-called caudillos. A classic caudillo, Fidel Castro, is still in power in Cuba; another is consolidating power in oil-rich Venezuela, where Hugo Chavez has stacked the courts, the state oil company and Congress with loyalists.

Such self-interested leadership helps explain why Nicaragua, like Latin America and the Caribbean, has failed to live up to its potential despite rich natural resources. Nicaragua's per-capita income is half the level it was in the 1960s and the nation now is the second-poorest in the hemisphere, behind Haiti. Since the 1980s, Latin America's best yearly figure for gross-domestic-product growth was 5.5%; the region's average since then is less than 2%, according to the World Bank.

"We tend to look for economic and structural answers to the question of why Latin America seems stuck. But one of the most frequently overlooked factors is mediocre leadership," says Michael Shifter, vice president for policy at the Inter-American Dialogue think tank in Washington.

Even in places where politics aren't run by a strongman, the caudillo legacy hurts the ability of a new generation of democrats to govern. Presidents in Mexico and Peru struggle against local political bosses who block efforts to overhaul those countries' economies and justice systems. Bolivia has had three presidents in four years thanks to caudillos-in-the-making such as Evo Morales, a populist former coca grower who has mobilized street protests that paralyzed the country and who leads polls ahead of December's presidential election. His ascendance would all but guarantee further upheaval in Bolivia's rich natural-gas sector.

Caudillos arose in the 19th century in newly independent Latin American states, where military men used private armies to win power and governed through a combination of patronage, personal magnetism and brutality. They include such colorful characters as Antonio Lopez de Santa Anna, who was Mexico's president 11 times in the mid-1800s, and signed away Texas after being captured in battle, and buried a leg he lost in battle with full military honors.

Nicaragua has suffered under caudillos, including Anastasio Somoza, who overthrew the elected government in 1936 and established a family-run dictatorship that lasted 42 years. The Somoza clan was followed by the Sandinistas, who set up a Cuban-style state during the 1980s.

In 1996, Mr. Aleman became Nicaragua's second democratically elected president in modern times -- and proceeded to focus his efforts on accumulating power and money. U.S. and Nicaraguan officials say he stole tens of millions of dollars from the treasury and stashed it in secret bank accounts in Panama and Miami. Mr. Aleman says the money came from political donations in Asia, and vows to clear his name.

Like caudillos before him, Mr. Aleman resisted surrendering power. Faced with Nicaragua's constitutional ban on consecutive presidential terms, he handpicked a successor he thought he could manipulate -- his vice president, Mr. Bolaños -- with the idea of seeking the presidency four years later, says Jaime Morales, Mr. Aleman's one-time political mentor. Mr. Aleman then negotiated with the Sandinistas to amend the constitution to increase Congress's powers and guarantee outgoing presidents a seat. Because his party won the biggest share of seats during the 2001 election, Mr. Aleman was voted as head of Congress. "Arnoldo is not the brightest or best politician we have, but he has the most ambition for power, so he tends to win," Mr. Morales says.

Mr. Bolaños turned out to be his own man. With the help of the Sandinistas, he stripped Mr. Aleman of his immunity as a lawmaker and prosecuted him. But lacking Mr. Aleman's clout and cash, the move cost him the support of all but six of his 49 Liberal party lawmakers.

Then Mr. Bolaños made a tactical mistake. Encouraged by the U.S. to limit Sandinista clout, he ended further dealings with them. The Sandinistas promptly cut a second deal with Mr. Aleman, who soon was released, on grounds that his health suffered in prison, by a judge sympathetic to the Sandinistas. In exchange, Mr. Aleman helped change the law to benefit his one-time rivals, such as reducing the threshold for requiring a runoff election to 40% -- around the level of the Sandinista's popular support.

Polls show 80% of Nicaraguans oppose Mr. Aleman and the nation's other strongman, Sandinista chief Daniel Ortega. Yet both men, true to form, have blocked dissent. When a former finance minister, Eduardo Montealegre, made it clear he wanted the Liberal party nod for next year's vote, Mr. Aleman rewrote the party's rules to abolish party primaries. Mr. Ortega, facing an intraparty challenge by popular former Managua mayor Herty Lewites, did the same -- accusing Mr. Lewites of being a U.S. spy for good measure.

"Our political culture is to get public office to help yourself rather than your country," says Mr. Lewites, who is mounting his own candidacy for the presidency.

Mr. Aleman, meanwhile, who declined an interview request, is barred from running unless he gets his conviction tossed. But he may still tap a party nominee who could win the presidency and pardon him. His daughter, Maria Dolores Aleman, a congresswoman, acts as his spokeswoman. "The press gives caudillos a bad name," she says. "But our history shows we need their charisma."

Write to David Luhnow at david.luhnow@wsj.com

29. Swap Debt for Equity By JOSE DE VENECIA JR.  WSJ October 20, 2005

The passage of time has witnessed countless plans to wipe poverty off the face of the earth. Some have been pie in the sky, while others have made a little headway. Of late, a lifeline has been extended to the poorest of the poor in the form of debt relief offered by the U.S. and other Group of Eight industrial countries. This will relieve the debt burden for some of the most desperate countries, but a wider program for debt management is needed to allow the next 100 lower-income nations to flourish. This can be achieved through a debt-for-equity swap.

The plan I propose would be voluntary and does not ask foreign creditors to forgive a single dollar of debt. Instead, lenders would have the option of converting as much as 50% of the debt they are owed into equity in infrastructure and social projects in a debtor country. The projects would include profitable endeavors such as mining, energy exploration, power grids and hospitals.

The creditor should pick what he wants. In return for the debt swap, the creditor would get an ownership stake and could earn profits that could far exceed the original value of the loan. For example, a $100 million stake in a booming timber market can be expected to yield $2-3 billion in returns within 10 years.

There are many benefits to debt-for-equity swaps. With outstanding debt cut by up to half, heavily indebted countries would have budgets freed up to build schools, hospitals and social works projects that they currently cannot afford because too much of their national revenue goes to servicing the debt. The plan also would further the sometimes uphill struggle for good governance in the Third World as strict anti-graft criteria would be applied to debt-for-equity projects. Foreign creditors would enjoy oversight and could demand action by the government if they see problems in their projects.

A far-reaching debt-for-equity swap program would have dynamic global implications. For the 100 lower-income countries, it could give relief for as much as $1.2 trillion, given that the World Bank sets global debt total at over $2.3 trillion of debt.

In my country, the Philippines, almost 90% of our national budget is eaten away by the costs of servicing $56 billion in national debt. Filipinos owe $3.1 billion to the World Bank and $591 million to the International Monetary Fund alone. Millions of people would be lifted out of sub-human living conditions if half the funds now dedicated to paying principal and interest on debt could instead be redirected to infrastructure and social programs that help alleviate poverty, often by helping the poor help themselves.

In September, Philippine President Gloria Macapagal Arroyo presented this debt-for-equity proposal to the United Nations General Assembly. Over the past few weeks, I have visited the U.N., the IMF, the World Bank and other lending institutions to make more detailed pitches for the debt-for-equity idea. To date, it has been endorsed by U.N. Secretary General Kofi Annan, the Asian Development Bank, German Chancellor Gerhard Schröder, Italian Prime Minister Silvio Berlusconi and the U.K. government. The Paris Club of private creditors has created a special technical committee to study the concept.

It is imperative that this support spread. If it does, we will finally make some headway toward the U.N.'s goal of cutting poverty in half by 2015.

Sixty years ago, the global economy was left devastated by World War II. Understanding that political security would be temporary without economic security, the U.S. launched the Marshall Plan to rebuild destroyed nations and set the world down a more prosperous path. Today, large parts of the world still cannot climb out of the dark hole of poverty because of massive debt. A debt-for-equity program could be the Marshall Plan times 100. And again, hope depends on the vision of the U.S. and other great economies to provide some breathing room for their poorer brethren.

Mr. de Venecia is Speaker of the House of Representatives for the Republic of the Philippines.
 
 
 

 30. World is a safer place despite people's fears By Francis Harris in Washington
(Filed: 19/10/2005)
http://www.telegraph.co.uk/news/main.jhtml?xml=/news/2005/10/19/wsafe19.xml&sSheet=/portal/2005/10/19/ixportal.html

Widespread fears about a world in a perpetual state of war are unfounded, a study says today. It emphasises that the number of conflicts between nations, civil wars, battle deaths, coups and genocides has been falling steeply for more than a decade.

While the authors note that bloody wars continue in Iraq, Afghanistan and Congo, they argue that there are substantial grounds for optimism.

The first Human Security Report, written by academics led by Andrew Mack, of the University of British Columbia, cites popular notions that war is becoming more common and deadlier, that genocide is rising and that terrorism poses the greatest threat to humanity.

"Not one of these claims is based on reliable data," it says. "All are suspect; some are demonstrably false. Yet they are widely believed because they reinforce popular assumptions."

The authors say there are 40 per cent fewer armed conflicts than in the early 1990s. Between 1991 and last year 28 wars for self-determination began but 43 were ended or contained.

In 1992, when the Yugoslav wars of secession began, there were 51 state-based conflicts around the world. The figure dropped to 32 in 2002 and 29 in 2003. The arms trade declined by a third from 1990 to 2003 and the number of refugees fell by 45 per cent between 1992 and 2003.

In 1950 each conflict killed 38,000 people on average. By 2002 that had dropped to 600.

However, the report, which was funded by five nations including Britain, says that the potential for a major upsurge in violence remains.

"The risk of new wars breaking out or old ones resuming is very real in the absence of a sustained and strengthened commitment to conflict prevention and post-conflict peace-building," the authors say.

Most of the data gathered ended in 2003, the last full year for which statistics were available. That means that most of the deaths caused by the war in Iraq are not included. But by the standards of the bloodiest conflicts since the end of the Second World War, the deaths in Iraq are relatively few. About 27,000 Iraqis and Americans have died.

Major conflicts of the past 60 years, including Algeria, Korea, Vietnam, Congo and Sudan have killed between 400,000 and two million.

Prof Mack, an Australian former United Nations official, attributes much of the success in ending conflict to UN peacekeeping operations.

The reduction in war is also attributable to the end of the Cold War, he says. From 1945 to 1989, many local conflicts were aggravated by the intervention of the two great power blocs.
 

 Human Security Report 2005 - Human Security Centre

31. The Most Influential Person You Never Heard Of
By Tim Worstall   Published    10/24/2005
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http://www.techcentralstation.com/102405C.html
Arthur Seldon died on October 11 at the age of 89. Few outside policy wonk circles will have heard of him. He may thus merit the title of the most influential person most people have never heard of. For he was behind the intellectual sea change that led to both Thatcherism and Reaganism. As such he merited obituaries in the New York Times, The Times, The Daily Telegraph and The Guardian as well as appreciations from think tanks like the Adam Smith Institute, and it's that latter that gives a clue as to why was indeed so influential.

The story was told to me only a couple of weeks ago by Madsen Pirie of the ASI. Sir Anthony Fisher, having made his fortune in introducing broiler chickens to the UK (sort of a Frank Perdue for his times) got to know Friedrich Hayek and expressed an interest in going into politics in order to contribute to the ongoing debate as to how and where the country was going. Hayek convinced him that influencing the debate, providing the ideas, was a better way of wielding such influence and so the Institute for Economic Affairs was formed. Seldon was the editorial director and Ralph Harris (now Lord Harris) the general one. Seldon had been educated by both Hayek and Lionel Robbins at the LSE in the 1930 and had also taught there after the war.

What followed was a flood of books, articles and pamphlets by Seldon, Harris and any number of eminent economists (Hayek, Milton Friedman and other Nobel Laureates amongst them) which, in time, raised the precepts of classical liberalism from their lowest point, that reached at the end of the 1950s.

The New York Times described Seldon as a libertarian and while this may be true in an American sense, in reality he was a liberal of the old school, had indeed been prominent in the Liberal Party. As The Times pointed out:

For years the State had been seen as the pre-eminent force in managing the economy and providing social security. Seldon was a tireless advocate of replacing the welfare state and of allowing natural economic laws of supply and demand to increase national wealth more effectively than the man in Whitehall could ever do.
 

Not that he had ever been an enthusiast for the Conservative Party. Fundamentally Seldon was an old-fashioned Liberal who believed in the liberty - and responsibility - of the individual.

This was in fundamental opposition to both Labour and Conservative thinking at the time which was that the Man in Whitehall really did know best. It was simply the duty of those parties to manage that Man as best they could rather than any ideal of getting the State off the backs of the people. He wasn't at all a proponent of what are thought of as the more extreme shores of libertarianism (Ayn Rand comes to mind here) but rather thought that the State crowded out those examples of voluntary cooperation and communalism which had existed before the welfare system overcame them -- the Friendly Societies for example, from which his adoptive mother had benefited at the time of her husband's death.

As The Telegraph points out:

For Seldon, the profit motive governed by consumers in an open competitive economy was more truly democratic -- and wholesome -- than the vote motive operating in a regime of so-called representative government dominated by pressure groups.

A sentiment which should have some resonance for those in the Porkbusters campaign going on at the moment. Wouldn't it be a better place, a fairer society, if we were indeed left alone to make our own decisions, were actually empowered in our dealings by being consumers, customers, rather than supplicants to the bureaucracy? It was towards this end that he was an untiring champion of educational vouchers, something he lived to see enter the mainstream political debate in the UK but alas, not their implementation.

To give a true measure of his influence consider this from the writer Mark Steyn (quoted from a blog as the original is behind a pay barrier):

[S]uccessful conservatives don't move towards the 'political centre'. They move the political centre towards them. That's what Thatcher and Reagan both did…. If Labour is at 1 on the scale and the Tories are at 9, and their focus groups tell them to move to 5, they have ensured that henceforth the centre will be 3, and they'll be fighting entirely on the Left's terms and the Left's issues. . . .
 
 

Conservatives win when they champion ideas. They win in two ways: sometimes they get elected; but, even if they don't, their sheer creative energy forces an ever more intellectually bankrupt Left to grab whatever right-wing ideas they figure they can slip past their own base.

Replace conservatives with liberals (as that is what Seldon was, far too radical to be conservative in the English sense and very much a liberal in that same language) and that's exactly what he did.

Remember, when he and Harris started out in the '50s, both the Conservatives and Labour thought that the Health Service should be exclusively provided by the State, with what private provision was left a mere hangover from an earlier time. The school system was just beginning to be made comprehensive, with parental choice being removed. The "commanding heights" of the economy were nationalized or about to be (steel, coal, shipbuilding, car manufacturing and so on) and it was thought by all that this should continue to be so. Government should micro-manage the economy, to the extent of deciding how much money each individual could take out of the country when on holiday. In everything, the bureaucrat in his office knew better than the individual knew themselves about themselves and their family.

I might also point out that the Liberal Party of the day was so sidelined that at one point their entire number of MPs could fit in one London taxi....each with their own seat.

The Thatcher Revolution of course made a difference but it is the ideas themselves that have lasted much longer. It is the current Labour Government that is bringing academic selection and parental choice back into schools, insisting that private companies be allowed to bid for work from the National Health Service, privatized the Air Traffic Control system.

To have, as the phrase goes, not so much won the game as to have pulled the board, the place of conflict, over to your ground is a grand and great achievement in politics, one showing how much more influential one can be when proposing ideas rather than a specific electoral program.

Which is really rather a grand and great achievement for one who has such an ill starred start in life:

Seldon was born in the East End of London. At the age of 3 he was orphaned - his parents died of the Spanish flu - and he was adopted by a cobbler and his wife.

If you'd like to know more about Arthur Seldon, read his writings, then there's a website that's been set up for you to do precisely that at, imaginatively, www.arthurseldon.org.

32. New Zealand Has a Government, But the Rest is Uncertain
By Charles Finny   Published    10/28/2005
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http://www.techcentralstation.com/102805A.html
New Zealand now has a new Government. Prime Minister Helen Clark remains Prime Minister, but what a strange Ministry she is now leading. Probably her best performing Minister, someone who consistently delivered the goods for New Zealand, Trade Minister Jim Sutton is to stand down at the end of the year; and the key Foreign Minister job has gone to the populist anti-Asian Winston Peters. Moreover, the Government contends that it is possible for the Foreign Minister to sit outside Cabinet.

Many observers are confused and uncertain about what the future holds. Many people see the New Zealand Government -- propped up by a formal coalition agreement with a one person Party, two confidence and supply agreements with two other parties, and an agreement to abstain on confidence and supply from the Green Party -- as inherently unstable. And set against the backdrop of an increasing current account deficit, a dollar that is unsustainably high, the certainty of interest rate rises, and a slowing economy, it is little wonder that today the country's most respected business confidence survey has shown the biggest drop in confidence in 17 years.
 
 

News is not all bad for business. The negotiations that have brought this strange Government together have seen agreements to review the proposed carbon tax and a promise to review corporate tax rates. The Prime Minister listened to business opinion and has ensured that many of the most economically damaging policies being promoted by the Green Party have not been adopted. These are all developments which have strong business support. If the carbon tax is dumped and if corporate tax rates are reduced, then business confidence is likely to be restored.
 
 

Business will also need to be satisfied quickly that Jim Sutton's removal from Cabinet at the end of the year does not signal a change in New Zealand's trade policy direction. When he first assumed the trade portfolio in late 1999, Sutton was facing a difficult time convincing his colleagues that the anti-globalisation movement was wrong. He succeeded in this work. He oversaw the completion of an FTA with Singapore, the launch and negotiation of two other free trade agreements - with Thailand, and with Chile, Brunei and Singapore (The Trans-Pacific Strategic Economic Partnership). He also launched an FTA negotiation with China, with Malaysia, and with ASEAN.
 
 

Prior to becoming Foreign Minister, Winston Peters and his Party voted against the FTA with Thailand, and their official election position was one of opposition to the FTA with China. Since becoming Foreign Minister, Peters has sounded a little confused about the issue, but appears to be saying that he can still vote against the FTA with China because his portfolio is restricted to foreign policy -- not trade Policy. This is a concern.
 
 

Peters is more upbeat on the importance of the relationship with the US. His comments on a desire to improve relations with the US are encouraging, and a necessary pre-requisite to New Zealand making it onto the US FTA priority list. Unfortunately, the anti-Americanism that was on display by some in the New Zealand Labour Party during the recent election campaign suggests that Peters will be kept on a short leash by the Prime Minister on dealings with the United States.
 
 

Some of the positions New Zealand is taking in the WTO and in its FTA negotiations have been troubling. The New Zealand-Thailand Closer Economic Partnership is by many measures sub-standard. But some of this "sub-standardness" was inherited from the Australia-Thailand FTA. The Trans-Pacific Strategic Economic Partnership (negotiated by the very capable David Walker) is much better, but it has yet to survive passage through the New Zealand Parliament.
 
 

In the WTO New Zealand used to be known for taking ambitious positions -- and not just in agriculture. But looking at the proposals currently on the table the ambition seems to have gone. As a result New Zealand is now rarely found as a key player in the small groups that in reality drive the WTO process. Crawford Falconer on Agriculture, Bruce Cullen on Rules, and Vangelis Vitalis on Environmental Goods (and to a lesser extent Environmental Services) would be the only three New Zealand Government representatives still punching above their weight in the WTO.
 
 

This all means a big challenge for New Zealand's new Trade Minister Phil Goff. And to make things more difficult it is possible that Goff will take over from Jim Sutton at a time of potential crisis in the WTO system (unless such a crisis is averted at the WTO Ministerial Meeting in Hong Kong at the end of the year). Goff is very capable. He has it in him to be a future Prime Minister and he was a very good Foreign Minister. It would be great to write in three years time that New Zealand has completed high quality comprehensive FTAs with China, Malaysia, ASEAN and Hong Kong, that negotiations have been launched with the US, Japan and Korea, and that New Zealand was again seen as being at the cutting edge of the global trade policy process. To achieve all this, Goff is going to have to shake things up and conduct an early reassessment of where New Zealand is heading with its current policy settings. Good luck Phil Goff and good luck New Zealand.
 

The author is CEO, Wellington Regional Chamber of Commerce.
 

33. Fill 'er Up with Oils Sands!
By Michael Fumento   Published    10/31/2005
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It was a tenet of the late great economist Julian Simon that we'll never run out of any commodity. That's because before we do the increasing scarcity of that resource will drive up the price and force us to adopt alternatives. For example, as firewood grew scarce people turned to coal, and as the whale oil supply dwindled 'twas petroleum that saved the whales.

Now we're told we're running out of petroleum. The "proof" is the high prices at the pump. In fact, oil cost about 50% more per barrel in 1979-80 than now when adjusted for inflation. Yet it's also true that industrializing nations like China and India are making serious demands on the world's ability to provide oil and are driving prices up. So is this the beginning of the end?

Nope. The Julian Simon effect is already occurring.

The evidence is in something called oil sands (also called oil shale), a tar-like substance that can be surface mined as coal often is. The oil is then separated from the dirt using energy from oil or natural gas extracted from the site itself to produce a tar-like goo called bitumen. It's then chemically split to produce crude as light as from a well head.

Oil sands in a single Venezuelan deposit contain an estimated 1.8 trillion barrels of petroleum, with 1.7 trillion in a single Canadian deposit. In all, about 70 countries  (including the U.S.), have oil sand deposits although technology hasn't yet made them economical for exploitation. Of Canada's reserves alone, about 255 billion barrels (almost equal to the entire proved oil reserves of Saudi Arabia) is currently considered recoverable. And recovering it they are.

It appears the mining of oily sand and its conversion to petroleum began in 1735 in France, but presumably the expense of the process and the discovery of easily-recoverable oil led to its abandonment.

The Canadians got in the game when Suncor Energy produced the first barrel of crude from oily sand back in 1967. The joint Canadian-U.S. venture Syncrude has been has been doing so since 1978 and now supplies over 13% of Canada's oil needs. Oil sands as a whole provide over a third of the nation's needs, with almost all of the rest going to the U.S. Between pumped oil and oil from sands, Canada is our largest supplier of crude and refined petroleum.

It almost makes up for their inflicting William Shatner on us, eh?

Suncor's success can be measured by stock prices that have increased an incredible 400% in the past five years compared to a flat-lined Dow and a dropping Nasdaq and S&P 500.

Yet business is booming now more than ever. Suncor has just finished expanding production capacity from 225,000 barrels per day to 260,000 and plans to reach 350,000 barrels daily by 2008. On the whole, the industry expects production to triple by 2020.

Thus while mature oil wells produce less each year, oil sands companies can keep producing more -- a rather happy trend.

 Driving such expansion is the obvious -- sustained high prices of petroleum -- as well as continually improving technology that keeps making it cheaper to both mine and convert oil sands.

Syncrude spent only $15.27 (U.S.) last year in total production costs to produce a single barrel of its low-sulphur "Syncrude Sweet Blend." Suncor calculates that in 2004 it spent $9.81, although spokesmen for both companies confirmed they use different accounting methods to arrive at their figures. In any case, current petroleum prices of about $60 a barrel hardly need to be sustained for Canadian companies to continue to squeeze liquid gold out of their lands with plenty of money to expand operations.

We've only scratched the surface in terms of discovering and exploiting oil sand deposits, along with deposits of oil-containing rocks called oil shale. Still the amount, however huge, is necessarily finite. By one estimate, we may only have about more 500 years of energy from oil sands at current usage rates.

Just five centuries till the spigot runs dry! Where are the doomsayers when you need them?

34. Uncommon Market Corn Flakes Clash Shows the Glitches In European Union Nations Retain Separate Rules
That Business Leaders Say Hobble Economic Growth How Much to Fortify a Cereal By G. THOMAS SIMS
Staff Reporter of THE WALL STREET JOURNAL
November 1, 2005; Page A1

BRUSSELS -- For the past eight years, nutritionist Marta Baffigo has had a simple request for Europe: Let Kellogg Co. put the same vitamins in all its European corn flakes.

European countries have been trying to build a unified market for close to 50 years. In theory, they completed that task in 1993. But Ms. Baffigo, Kellogg's regulatory and public-affairs manager for Europe, has hit obstacle after obstacle in her effort to persuade regulators to allow the American cereal maker to sell the same vitamin-fortified cereals throughout Europe.

Denmark doesn't want vitamins added, fearing that cereal eaters who already take multivitamins might exceed recommended daily doses, which some experts say can damage internal organs. Netherlands officials don't believe either Vitamin D or folic acid is beneficial, so it doesn't want them added. Finland likes more Vitamin D than other countries to help Finns make up for sun deprivation. And the list goes on.

So Kellogg, of Battle Creek, Mich., has to manufacture four different varieties of corn flakes and other cereals at its plants in Manchester, England, and Bremen, Germany, and Ms. Baffigo continues to lobby. "We are waiting for Europe," she says.

A single pan-European market was meant to throw open doors for trade, investment and growth across the continent. Instead, Europe's huge economy -- now roughly the size of the U.S.'s -- has stagnated. Europe's central bankers cite the failure to unify its market as a primary reason. Economists and business leaders say persistent national differences saddle companies with extra costs and hinder entrepreneurs and expansion. The national disparities make it more difficult to create jobs and boost European consumer spending, they say. (See related article.)

The muddled landscape extends well beyond the world of breakfast cereals. Caterpillar Inc. sells tractors throughout Europe. But in Germany, it must install a louder backup horn and locate lights in different places. The yield signs and license-plate holders on the backs of vehicles must be different, sometimes by just centimeters, from country to country.
RESHAPING EUROPE

• See more coverage on EU topics including union expansion, constitution developments and budget debates.

• Thinking Global: Old Europe, Bold Europe

• On the Record: Q&A With Lech Walesa
 

Officials at Caterpillar and other companies, and even some regulators, contend there is no good reason for the regulatory differences. "Some of it is goofy," complains John Disharoon, head of regulatory affairs for Caterpillar in Brussels. The differences increase costs for "us, the dealer and the customer. It makes it difficult to mass produce in an economy of scale."

"Intuitionally, I would say this is ridiculous," said Jean-Claude Trichet, president of the European Central Bank, in a recent interview. Some national differences can be acceptable, he said. For example, a country should be able to require vehicle headlights to be on day and night, but shouldn't be able to impose so many requirements that the manufacturer has to produce a different truck, he said. "The seminal concept of the European Union was the common market. We should never forget that. The idea was the prosperity of a peaceful Europe would rely upon the effective functioning of that common market."

The economic benefits of market integration already have been considerable. The European Commission, the Brussels-based executive body of the European Union, maintains that even with the current flaws, unification has boosted gross domestic product and added 2.5 million jobs since 1993. Some economists say a more thorough integration could add many more jobs, at a time when unemployment is the biggest problem in many European countries. The International Monetary Fund said this summer that "overly regulated product markets" in Europe were undermining the effects of Europe's recent labor reforms and hindering output and employment.

The EU tried earlier this year to expand market integration in the service sector, which accounts for about two-thirds of economic activity. But the attempt to allow such businesses as law firms and medical practices to expand more easily across national borders was blocked by France and Germany. Both countries, racked by high unemployment, feared that service providers from other countries would put their own out of business. The debate came as Europeans were questioning just how far European integration should go, after French and Dutch voters rejected a European constitution.

Persistent regulatory differences between markets is affecting some corporate expansion plans. In many European countries, Ikea Group, the Swedish furniture retailer, must fund studies to prove its entry into markets won't hurt local businesses. Ikea says the studies typically cost about $25,000 per potential store, and decisions take nearly a year. The European Commission estimates only one-third to one-half result in approval. Such tests don't "comply with the basic law of open and free markets," contends Lars Braberg, who is responsible for EU affairs for Ikea in Brussels.

Companies that sell apples and pears can't use the same labels across Europe. Cartons shipped to most countries contain the same information, including the identity and location of the packer, the fruit's country of origin, and an identification code. But that's not enough for France. Labels on fruit shipped there must specify chemical treatments after harvest, preservation methods, and names of wax treatments -- in French.

Milwaukee-based Manpower Inc., one of the world's largest temporary-placement agencies, ran into a problem in Germany. Workers there cannot be employed for just a day or two. So temporary workers have to be paid for longer periods, whether or not they're working, which raises the cost and depresses the demand. "It's lost GDP," says Yoav Michaely, Manpower's chief executive in Europe.

After World War II, leaders of six European countries banded their steel and coal resources together in a common market. In 1957, those six nations established the European Economic Community, which evolved into the European Union. Laws establishing a single market went into effect in 1993, and the euro currency was adopted by 11 countries in 1999, and later by a 12th.

Over the past six years, the euro has provided some benefits, but the expected big boost to trade among European nations hasn't occurred. In a July report, J.P. Morgan Chase & Co. attributed this to national impediments that are still "slowing down the gains from integration." Trade among countries that now use the euro accounted for 52.3% of total trade for those countries between 1999 and 2004, following the birth of the common currency, according to the J.P. Morgan report. Between 1990 and 1993, before the euro's introduction, it accounted for 54.9% of total trade, the report said.

In 2003, the European Commission proposed regulations that would control how food makers fortify products with vitamins. These regulations must be approved both by the European Parliament, the legislative branch of the European Union, and by the health ministers of its 25 member countries, a complex process that has already stretched on for many months. Parliament members and health ministers have pushed for a variety of changes, leaving Kellogg's Ms. Baffigo lobbying almost continuously.

She is running into the same tensions that divided Europe over its defeated constitution and over how to jump-start its stagnant economy. Even though they agreed to unify, many European countries are unwilling to let go of their prerogatives to regulate locally.

Vitamin fortification proliferated in the early 1990s as food makers such as Kellogg looked for ways to market processed foods as healthier. In the U.S., few consumers expressed much concern about food additives, preservatives or genetically modified foods. But Europeans have voiced many worries, including about potential risks from the excess intake of vitamins. Many European countries started drafting their own rules on vitamins shortly after the 1993 market unification.

Some countries were more restrictive than others, creating new barriers to trade and sparking legal battles between food makers and national regulators, as well as between the European Commission and individual governments.

In 1995, the Netherlands turned down an application by Kellogg to market breakfast cereals fortified with vitamin D and folic acid. A 1935 Dutch law prohibits the sale of fortified foods unless they meet an actual nutritional need. Kellogg argued that the Dutch action violated the rules of free trade enshrined in the treaties of the European Union. In December, Europe's highest court ruled in Kellogg's favor. Now, 10 years after its initial application, Kellogg's fortified cereals can appear on Dutch grocery-store shelves.

Last year, Danish food authorities rejected Kellogg's bid to market fortified products there, on the ground that Danish children, many of whom already take multivitamins, could damage their livers and kidneys if they also eat vitamin-enriched cereals. Scientists differ over the amount of vitamins a human body can tolerate. Kellogg says its fortified foods fill nutritional gaps and help rather than harm consumers.

Kellogg's problem in Denmark became a public-relations nightmare. There were headlines around the globe, with some Asian newspapers even calling Kellogg's cereals toxic. Ms. Baffigo persuaded her superiors that Kellogg shouldn't challenge the Danish decision, because doing so might jeopardize the push for uniform EU regulations.

"It's a case that shows the power struggle between what the commission is trying to do and what the individual countries are trying to do," says John Buckles, managing director for Kellogg in the Nordic countries.

Ms. Baffigo faced another roadblock when Karin Scheele, an Austrian member of European Parliament, proposed amendments to the commission's draft regulations. Ms. Scheele wanted foods to be required to meet certain nutritional guidelines before vitamins could be added. Ms. Baffigo spent much of the spring courting members of parliament, although she says Ms. Scheele declined her invitations to meet. Ms. Scheele didn't respond to calls seeking comment for this article.

Ms. Baffigo found some allies. British members of Europe's parliament feared that, depending on how the rule was worded, monks in southern England who fortify French wine with minerals -- creating a drink popular among the elderly -- would have to end that tradition. Eventually, the European Parliament approved regulations that did not contain Ms. Scheele's amendments.

But Ms. Baffigo soon faced a separate threat from health ministers reviewing the proposed regulations. The health minister from Finland pushed for a change similar to Ms. Scheele's. The intention was to prevent food makers from trying to boost junk-food sales by sprinkling them with vitamins and promoting them as healthy. The proposal could have prevented Kellogg from selling its vitamin-enriched Frosted Flakes in Europe because they contain so much sugar, but it didn't garner adequate support from other ministers.

It may be many months before health ministers and members of European Parliament agree on vitamin regulations. Only then can a separate European Union agency begin drafting rules that quantify permissible vitamin levels -- a move likely to open a whole new debate.

Write to G. Thomas Sims at tom.sims@wsj.com
 

35. Hurricanes Take Toll On Mexico Growth Forecast

DOW JONES NEWSWIRES
November 1, 2005; Page A14

MEXICO CITY -- The Bank of Mexico reduced its 2005 economic growth outlook for Mexico once again, estimating that October hurricanes Stan and Wilma would knock a quarter percentage point off gross domestic product growth in the fourth quarter.

In its third-quarter report on inflation, the central bank said it expects GDP to rise 2.75% to 3.25% this year, a half percentage point slower than its previous estimate. It forecast 3% to 3.5% growth for next year.

After GDP expanded at its fastest rate in four years in 2004, at a 4.4% pace, the economy slowed to 2.8% in the first half of 2005. Earlier yesterday, Mexico's Finance Ministry estimated that the economy expanded 3.5% in the third quarter.

For the overall Mexican economy this year, consumption and investment have slowed at a time of falling external demand, the central bank said.

On Friday, the Bank of Mexico lowered the overnight rate by 0.25 percentage point for a third consecutive month to 9%, while reducing its year-end inflation forecast to a 3.5% annual rate from around 4%.

Meanwhile, the central bank said it plans to reduce the number of monetary policy announcements to one a month next year from the current schedule of twice-monthly decisions.

Write to Dow Jones Newswires editors at asknewswires@dowjones.com

36. WHY IS THE WORLD BANK STILL LENDING?
------------------------------------------------------------------------
The World Bank must accept that it is in the development
        business, not the banking business, says Adam Lerrick...
        CARNEGIE MELLON UNIVERSITY/AMERICAN ENTERPRISE INSTITUTE
At a time when the need and demand for its services are falling, the
World Bank is struggling to maintain market share by lowering the costs
to borrowers and cutting down on the social demands that are the very
reason for its lending, says Adam Lerrick, professor of economics at
Carnegie Mellon University and a scholar at the American Enterprise
Institute.

Major middle-income countries, the cream of the Bank's lending
portfolio, are curbing their borrowing and paying down their balances,
setting off alarms at the Bank.
Consider:
   o    Net loan flows have shifted from a positive $10 billion in
        1999-2001 to a negative $15 billion in 2002-2004 --
        meaning that borrows are paying down principal on their
        loans faster than the bank is lending.
   o    The interest subsidy embedded in Bank loans --12 percent per
        annum in 1999 -- has shrunk to less than 2 percent
        on average as emerging nations have gained
        increasingly greater access to private capital; the difference
        is no longer enough to persuade finance ministers to realign
        their economic priorities with the social agendas of the
        Bank's rich members.
   o    Developing economies were to be nourished only until they
        had gained the financial credentials to attract
        private capital on their own; today, for the 27 borrowers
        receiving 90 percent of its loans, the Bank represents less
        than 1 percent of the net flows of $200 billion that the
        capital markets provide each year, but the Bank will not
        let go.
As Lerrick explains, the Bank is no longer in a world short of
capital. World Bank lending is clouding the landscape and wasting
resources. All that the Bank provides in a world of sophisticated
financial markets is the subsidy that fills the gap between the real
cost and what recipients are willing to pay. The Bank must accept that
it is in the development business, not the banking business, says
Lerrick.
Source: Adam Lerrick, "Why is the World Bank Still Lending?"
Americas, Wall Street Journal, October 28, 2005.
For WSJ text (subscription required):
http://online.wsj.com/article/SB113046603851182183.html
For free AEI version:
http://www.aei.org/publications/pubID.23388,filter.all/pub_detail.asp
For more on International:
http://www.ncpa.org/pi/internat/intdex1.html

37. LIVE LONG AND WORK!
------------------------------------------------------------------------

Facing aging populations with fewer younger workers to support
retirees, industrialized countries are considering policies to
encourage older employees to work longer, particularly since people
have longer life expectancies, says the New York Times.

Western European countries are particularly at risk; by 2050, most
European countries will have one worker per retiree. For example:
   o    Currently, only 43 percent of Italians in their late 50s are
        in the labor force, and less than 20 percent of
        those in their early 60s are working.
   o    In France, only 14 percent of people aged 60 to 64 are in
        the labor force, compared to 51 percent in the United
        States.
   o    Asians tend to remain in the workforce the longest, which is
        crucial since one-third of the populations of
        Japan and South Korea will be over age 65 by 2050.
According to the Organization for Economic Cooperation and
Development, laws in some countries that aim to preserve jobs may cause
older workers to lose their jobs. In cases where employers cannot fire
younger workers, they may resort to forcing older workers out and into
early retirement.
Furthermore, while unemployment rates for elderly workers are
typically low, those who are counted as unemployed rarely find jobs.
In France and Germany, more than 60 percent of individuals aged 60 to
64 who are looking for work have been unemployed for over a year.

Some countries are considering major changes, such as reforming
systems that make it easier to collect benefits rather than look for
work. Italy passed legislation that would raise the retirement age,
but it will not take full effect until 2030.
Source: Floyd Norris, "With That Longer Life Expectancy Expect a
Life of Working Longer," New York Times, October 29, 2005.
For text (subscription required):
http://www.nytimes.com/2005/10/29/business/29charts.html
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38. Tired of globalisation Nov 3rd 2005 From The Economist print edition
 

But trade liberalisation and other forms of openness are needed more than ever

Get article background

FREDERIC BASTIAT, who was that rarest of creatures, a French free-market economist, wrote to this newspaper in 1846 to express a noble and romantic hope: “May all the nations soon throw down the barriers which separate them.” Those words were echoed 125 years later by the call of John Lennon, who was not an economist but a rather successful global capitalist, to “imagine there's no countries”. As he said in his 1971 song, it isn't hard to do. But despite the spectacular rise in living standards that has occurred as barriers between nations have fallen, and despite the resulting escape from poverty by hundreds of millions of people in those places that have joined the world economy, it is still hard to convince publics and politicians of the merits of openness. Now, once again, a queue is forming to denounce openness—ie, globalisation. It is putting at risk the next big advance in trade liberalisation and the next big reduction in poverty in the developing countries.

In Washington, DC, home of a fabled “consensus” about poor countries' economic policies, a bill before Congress devised by one of New York's senators, Charles Schumer, threatens a 27.5% tariff on imports from China if that country does not revalue its currency by an equivalent amount. In Mr Schumer's view, presumably, far too many Chinese peasants are escaping poverty. On November 4th George Bush will escape the febrile atmosphere along Pennsylvania Avenue by visiting Argentina to attend the 34-country Summit of the Americas. There he will be greeted by a rally against “imperialism”, by which is meant him personally, the Iraq war and the Free Trade Area of the Americas which he espouses. Among the hoped-for 50,000 demonstrators will be Diego Maradona, who as a footballer became rich through the game's global market and as a cocaine-addict was dependent on barrier-busting international trade; and naturally his fellow-summiteer, Hugo Chávez, who is using trade in high-priced oil to finance his “21st-century socialism” in Venezuela.
 

The hidden wealth of the poor
Nov 3rd 2005
Brazilian agriculture
Nov 3rd 2005
The story of Europe and farming
Nov 3rd 2005
The Doha trade talks
Nov 3rd 2005
The Summit of the Americas
Nov 3rd 2005
The Latinobarómetro poll
Oct 27th 2005

Debt and development

Globalisation

The World Trade Organisation
 

All, perhaps, the normal fun of a Latin American visit. Last week's Latinobarómetro opinion poll revealed that whatever the protesters may say, a clear majority in all the region's countries favour a market economy rather than a closed, state-directed one—even in Venezuela (see article). This is, however, a difficult moment for the market economy and for relations between rich countries and poorer ones, for the Doha round of trade-liberalisation talks under the World Trade Organisation are in trouble. When it began in 2001, the round was billed as a big effort to boost growth in poor countries, and the lowering of barriers to food trade was placed at its centre. In the past few weeks, however, a fairly bold American proposal for reducing its farm protection has been greeted by a much weaker response from the European Union and none at all from Japan. And ministers from Bastiat's own country, France, have vied with one another to denounce all talk of further reform to the EU's common agricultural policy. Europe must, they say, remain an “agricultural power” even at the expense of the taxpayer and the poor, and, according to President Jacques Chirac, must fight back “liberalism”. Whatever happened to Liberté, Egalité, Fraternité?

The world will find out, to some extent, next month when ministers from the 148 countries in the WTO meet in Hong Kong. The last time they gathered for such a crucial meeting was in September 2003 in Cancún, and the result was a shambles. There was a bitter row between rich countries and poor ones, and the meeting broke up in acrimony. At that stage, however, there was still plenty of time to repair the damage. For in effect the deadline for the Doha round comes in June 2007, when the trade-negotiating authority granted by Congress to President Bush expires. But, although that leaves more than a year and a half after Hong Kong, the complexity of a negotiation involving 148 countries and scores of highly technical issues means that the deal really needs to be done during 2006, with the political framework for it set early on—which essentially means in Hong Kong.

The case for selfish generosity

Trade-liberalisation rounds are arcane affairs about which free-traders are often thought to cry wolf. The previous talks, known as the Uruguay round, went through lots of brinkmanship and delays before they were completed. The result was still disappointing in many ways, especially to developing countries, and yet since the round's completion in 1993 the world economy has grown lustily and the biggest developing countries, China, India and Brazil, have all burst on to the global trading scene. Would the world really be hurt if the EU merely refuses to expose its farmers to more competition?

The likeliest outcome both from the Hong Kong meeting and the eventual Doha agreement is a compromise—as always. The European position is feeble but not risible, for it has offered an overall average cut in its farm tariffs of 39%, up from 25% only a month ago, though with rather a lot of loopholes that could severely limit the benefits. France, and other European farm protectionists, may prove more flexible than they currently imply: this is hardly the first time they have promised to man the barricades shortly before striking a deal. Yet though some sort of fudge in Hong Kong must be likely, with the Americans lowering their ambition and the Europeans raising theirs a little, such an outcome would still represent both a missed opportunity and a risk.

The missed opportunity is that Doha has offered the first proper chance to involve developing countries in trade negotiations—they now make up two-thirds of the WTO members—but also thereby to use a full exchange of agricultural, industrial and service liberalisations to make a big advance in free trade that could benefit a wide range of countries. Some of that progress may still be made, even in a fudged deal: Brazil, for example, stands to benefit hugely from freer trade in agriculture (see article), so it should be willing to promote other concessions in return. India is reluctant to cut its own farm tariffs but has a big interest in liberalising trade in services, wanting more freedom in everything from finance to health care to entertainment. But if the rich world could gird itself to be more ambitious on agriculture the gains would be even greater: help for the poorest countries, making the rich look generous; better access to the biggest and richest developing countries for western companies; and a rise in global income in a decade's time of $300 billion a year (says the World Bank), which would thus help everyone.

The risk is that failure to agree on a new wave of openness during a period (the past two years) in which the world economy has been growing at its fastest for three decades, with more countries sharing in that growth than ever before, will set a sour political note for what may well be tougher times ahead. A turn away from trade liberalisation just ahead of an American recession, say, or a Chinese economic slowdown, could open up a chance not just for a slowdown in progress but for a rollback. Currently, for example, the Schumer bill to put a penal tariff on Chinese goods looks unlikely to pass. If American unemployment were rising and world trade talks had turned acrimonious, that might change. So might the political wind in many developing countries.

If so, that would be a tragedy for the whole world. Although the case for reducing poverty by sending more aid to the poorest countries has some merit, the experience of China, South Korea, Chile and India shows that the much better and more powerful way to deal with poverty is to use the solution that worked in the past in America, western Europe and Japan: open, trading economies, exploiting the full infrastructure of capitalism (including financial services—see our survey on microfinance) amid a rule of law provided by government. In other words, globalisation. To paraphrase Samuel Johnson, anyone who is tired of that is tired of life.

Why things cost what they cost

39. Gumshoe economics Nov 3rd 2005 From The Economist print edition
 
 

The Undercover Economist: Exposing Why the Rich Are Rich, the Poor Are Poor—and Why You Can Never Buy a Decent Used Car!
By Tim Harford
 
 

Oxford University Press; 288 pages; $26. To be published in Britain by Little, Brown in March

Buy it at
Amazon.com
Amazon.co.uk

MOST economists are nine-to-fivers. Calculating rationalists during the working day, they are much like the rest of us when they are at home with their boots off. But Tim Harford, who works at the World Bank and writes a regular newspaper column, never seems to take off his boots at all. He sees the fingerprints of supply and demand everywhere he looks: at work and at play, sipping coffee, shopping for groceries, even playing poker with friends.

His new book, “The Undercover Economist”, is a playful guide to the economics of everyday life, and as such is something of an elder sibling to Steven Levitt's wild child, the hugely successful “Freakonomics”, which came out earlier this year.

While Mr Levitt wanders freely among sumo wrestlers, game-show contestants and other inhabitants of the outer fringes of economics, Mr Harford takes care of the home turf—scarcity, competition, taxes and trade. He is happy to learn from his elders, which is all to the good. The best stuff is not always the latest stuff, after all. As far back as 1817, David Ricardo explained why the best farmland often makes money for the landlord, not the farmer. And his analysis serves perfectly well to explain why today's coffee companies don't make much money from a high-priced latte in Waterloo railway station.

That said, Mr Harford does not take himself too seriously. He is at his best illuminating the economics of small things. He rehearses some of the familiar arguments in favour of globalisation and mounts a spirited defence of competitive markets, on the grounds that they discover the “truth” about our wants, and how much it costs to meet them. (Taxes, which make some things more costly than they truly are, in order to make other things cheaper, are a kind of “lie”, he says, though often a white one.)

He also makes some impish forays into charged issues, such as environmentalism, which he thinks too important to be left to the moralists. But in general, as befits a covert operative, his tone is quizzical and low-key, rather than bombastic and judgmental.

For anyone schooled in blackboard economics, “The Undercover Economist” succeeds in taking the chalkdust out of the subject. But does it also serve the reader who has no economics at all? The difficulty is to avoid talking over readers' heads, without talking down to them either. It is a trick Mr Harford carries off well, for the most part, though he can sometimes seem almost too anxious to entertain. The best detective stories are usually told straight.
 

40. Fruit that falls far from the tree Nov 3rd 2005 From The Economist print edition
 

Might poor countries gain when their best and brightest leave?

IN THE 2002 football World Cup, France, the reigning world champions, suffered a humiliating defeat to unfancied Senegal. All 11 members of the victorious Senegalese team had played for European clubs. They were not alone. By 2000, the first and second divisions of Europe's leagues had poached enough African players to field 70 teams. So, have greedy European clubs deprived Senegal of its best footballers, or has the prospect of a lucrative career in Europe encouraged more Senegalese to take up the beautiful game?

This question is posed by a new book, “Give Us Your Best and Brightest”, by Devesh Kapur and John McHale. The authors are development economists first, football fans second (if at all). But they see the emigration of African players as a highly visible example of the “brain drain”. Less visible, but more worrying, is the departure of the poor world's doctors, nurses and teachers to more lucrative job markets in the rich world. Ghana, for example, has only 6.2 doctors per 100,000 people. Perhaps three-quarters of its doctors leave within ten years of qualifying.

India

Debt and development

Economics

Click to buy from Amazon.com: “Give Us Your Best and Brightest”, by Devesh Kapur and John McHale (Amazon.co.uk).

Economics A-Z
 

The answer to the Senegal conundrum is of course “both”: the best players leave, and the dream of emulating them motivates many others to take their place. The real question is whether the second effect outweighs the first, leaving the game in Senegal stronger or weaker than it otherwise would be. A few economists, including Andrew Mountford, of Royal Holloway (part of the University of London), and Oded Stark, of the University of Bonn, think the net effect of the brain drain is similarly ambiguous. The prospect of securing a visa to America or Australia should tempt more people in poor countries to invest in education. Mr Stark calls this a “brain gain”. If the temptation is strong enough, and the chances of landing a visa low enough, the poor country could even come out ahead: it might gain more qualified (if disappointed) doctors and engineers than it loses.

As with all debates about the brain drain, theory has run ahead of evidence. The numbers on international flows of people are much patchier than those on cross-border flows of goods or capital. In a recent paper*, Mr Stark and his co-authors investigate internal migration instead. The rural villages of Mexico lose many of their brightest sons and daughters to jobs in cities or border towns. Those Mexicans who leave their home villages tend to be better educated than those who stay. But despite this, the example the leavers set (and the job leads they provide) raises the average level of schooling of those left behind. Because they can aspire to a world beyond the village, even if they never reach it, young Mexicans have an added reason to stay in school beyond a ninth year, the authors show.

Branches picked bare

Even if the brain drain does leave a country with a better-educated populace, is this necessarily a good thing? Education is not free, and some of those who gambled on a diploma as a ticket overseas will regret their decision. But Mr Stark assumes that people in poor countries tend to demand too little education. A person's productivity depends on the skills of those around him, as well as his own. Because of these spillovers, an individual's education is worth more to the economy as a whole than it is to himself, and he will underinvest in it as a result. Mr Stark sees limited emigration as one way to fix this market failure.

India's software engineers are perhaps an example of this principle at work. Indian students had little reason to learn computer coding before there was a software industry to employ them. But such an industry could not take root without computer engineers to man it. The dream of a job in Silicon Valley, however, was enough to lure many of India's bright young things into coding, and that was enough to hatch an indigenous software industry where none existed before.

India's valley-dwellers represent just one contingent in a much larger diaspora. According to the most exhaustive study† of the brain drain, released last month by the World Bank, there were 1.04m Indian-born people, educated past secondary school, living in the 30 relatively rich countries of the OECD in 2000. (An unknown number of them acquired their education outside their country of birth, the report notes.) This largely successful diaspora is more than just something to envy and emulate. Its members can be a source of know-how and money, and provide valuable entrées into foreign markets and supply chains.

But Messrs Kapur and McHale think India's relatively happy experience with its educated emigrés is more likely to be the exception than the rule. Its million-strong brain drain represents just 4.3% of its vast graduate population, according to the Bank. By contrast, almost 47% of Ghana's highly educated native sons live in the OECD; for Guyana, the figure is 89%. This is not a stimulative leeching of talent; it is a haemorrhage.

Emigration, as Mr Stark suggests, might be a spur to greater accomplishment, and the poor world's talent, like Senegal's footballers, deserves a chance to compete on a global stage. But it is not easy to run a managed “emigration” policy. The drain of educated minds from poor countries is mostly determined by host countries' rules, not home countries' interests. There will be tremendous pressure to loosen those rules in the future, not least because, as the baby-boom generation retires, it will seek to “backfill the taxpaying workforce behind it”, as Messrs Kapur and McHale put it. The rich world no longer welcomes the tired and the huddled; it looks set to compete ever more fiercely for the bright and the qualified.
 
 

41. Let the Saver Beware
By Pierre Bessard   Published    11/02/2005
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  TCS

Will Brussels bureaucrats ever let go of European citizens' financial privacy? If Laszlo Kovacs has his way, the answer is no. The EU commissioner for taxation and customs union wants to discontinue the "anomaly" of privacy for tax purposes. Switzerland's decisive role in the implementation of the EU's Savings Directive by setting up an anonymous withholding tax on savings income for EU residents instead of exchanging information has obviously opened the European Commission's appetite for more. Austria, Belgium, and Luxembourg, which were able to temporarily adopt the same system, had better watch out.

Unsurprisingly, the Commission and Kovacs claim they are not against financial privacy or tax competition. "The real issue is the right mix of policies needed to reach our common objectives in the EU," Kovacs recently explained in Zurich, pledging to maintain "the unique European social model and EU's overall approach to sustainable development". As a former communist apparatchik in Hungary and a current vice-chairman of the Socialist International, the EU commissioner just does not believe in low taxes. "An overall high tax burden may not be a deterrent to productive investment," he tells us.
 
 

So Kovacs is all for "banking secrecy", but only "as long as it does not stand in the way of proper exchange of information, particularly for purely tax purposes". In other words, keeping your finances private is fine if tax authorities can access your bank accounts and show them to each other. Not a prime specimen of Aristotelian logic there. Kovacs's dialectical skills go beyond this. A large part of the EU's tax policies are not aimed at "harmonizing" tax rules, oh no: It would be a mistake to think so. "Rather, we try to ensure the coordination of tax policies." The present lack of "coordination" of tax systems, Kovacs informs us, is "an invitation to tax planning and tax avoidance". Sound familiar? In any case, it is reason enough for him to also travel in the near future to Hong Kong and Singapore "to see if they are prepared to adopt measures equivalent to the Savings Directive". This, according to the EU tax chief, would contribute to "the proper taxation" of EU residents on their deposits in these countries. Well, everybody needs a mission.
 
 

But our "coordinating" globetrotter does not limit himself to exchanging information on your private financial matters. Kovacs is working on a "common consolidated" (not "harmonized"!) corporate taxation base to become law in three to four years. Regardless of whether the retained model will look like the simple Slovakian system or than the Byzantine German one, centralizing the tax base is a dire prospect for competition, especially in the face of places like Dubai, which do not apply any taxes. So much for reducing compliance costs of tax systems in Europe by centralizing them. Besides, corporations as such don't pay taxes: the money must always come from real human beings, stockholders, employees, or customers - a fact that makes the idea of taxing "corporations" look like a benign fraud. But the Commission also supports non-legislative measures such as the Code of Conduct for Business Taxation and the OECD's ongoing initiative on "harmful" tax practices. In parallel, it is questioning the corporate taxation practices in the lowest-tax Swiss cantons, including Zug, which harbors the fourth largest commodities trading market in the world.
 
 

It is terribly unfashionable to take sides with Switzerland in these matters. Doesn't the "fat little country" at the heart of the continent only get what it deserves for refusing to cough up its "dues" for the grand vision of "constructing" Europe? Isn't it "unfair" that a German entrepreneur such as Theo Müller was able to avoid €200 million in inheritance taxes and save as much in productive capital by moving his headquarters south of the Rhine? Or that Switzerland's permanent population increased, net, by 11,374 people from Germany, 1,397 from France, and 681 from Britain just during the past 12 months? Many opinion makers in competing financial centers such as London and New York can't resist a binge of Schadenfreude whenever the Swiss are expected to surrender to some new legislation or soft law on financial privacy or tax practices. As if wealth creation was a zero-sum game.
 
 

Europeans and others, however, have no reason to rejoice. The issue here is not so much about an additional fraction of a percentage point of economic growth as a result of "tax competition". It has more to do with every European's fundamental right to his or her own property. There is no rationale for suppressing a person's legitimate freedom of exit from bloated EU welfare states and horrendous tax burdens. On the contrary: People wise enough to recognize their positive contribution to society by preventing part of their hard-earned money from landing into depraved government hands should be applauded.
 
 

Will Switzerland go wobbly this time? It is unlikely. Pro-EU sentiment is decreasing every day, including within government. In 2001, 76.8 percent of voters chose not to open negotiations for EU entry. That proportion is now believed to be closer to 90 percent. Further, the EU needs to reach unanimity for most decisions on tax matters. Despite peer pressure, some member governments in Central and Eastern Europe show no intention to fully go along with Kovacs's plans. But the prevailing complacency toward the Commission's proposals points to a real challenge: The moral case for tax competition, exit options, and respect for property rights has rarely been so pressing in Europe.
 
 

Pierre Bessard is political editor of L'Agefi (www.agefi.com), the Swiss financial daily newspaper, and a founder of the Institut Constant de Rebecque (www.institutconstant.org), the free-market think tank, which recently launched the Center for Tax Competition (www.taxcompetition.org), a monitoring and analytical center on tax policy.
 

42. Job Summit of the Americas
By Martin Krause   Published    11/04/2005
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When the host country Argentina proposed as the subject for the IV Summit of the Americas "Creating Jobs to fight poverty and Strengthen Democratic Governance" it probably thought that this was the way to avoid discussing the Latin American Free Trade Agreement altogether and to bring the U.S. government into this populist territory where Latin American presidents are full of rhetoric, but low on substance.

As a result, there will most likely be no significant agreement reached at the summit, and one of the main points of discussion at this time being whether there will be any mention of the LAFTA whatsoever in the final document. Of course, there will be the usual speeches from Latin American leaders all competing for the right to say they care the most for the poor, but nothing will come out of it that will change the prospects of one single poor family in the region. But if the populist Latin American leaders think that they are comfortable with this subject, then they are fooling themselves.
 
 

First of all, the very fact that there is no mention of free trade shows they believe, and Venezuela's Hugo Chavez takes this to the limit, that any trade agreement in the region, and more specifically any trade agreement between the region and the U.S. will not lead to job creation but "job destruction". That is why, for them, "creating jobs" as a subject for the meeting is code word for "anti free-trade". No one says it more clearly than Ricardo Alfonsín, the former president of Argentina, and a leader of the populist social democrats in the region. He commented in the Buenos Aires newspaper Clarin (11/1/05): "The goal of the U.S. with LAFTA is to extend its markets in order to reduce its extraordinary deficit".
 
 

They wrongly believe that any relaxation of trade and investment barriers will mean an increase in trade in one only direction, from North to South, which they argue is only further confirmed by the enthusiasm of the U.S., Canada and Mexico to move ahead with opening these barriers.
 
 

Populist Latin American leaders believe that if our countries open up to the "north" our businessmen will not be able to compete, and local companies will end up being swallowed up by multinationals and will lose control of the economy. In a way, they are right. It will be difficult to compete and create jobs in these countries, but they completely misunderstand the cause of such a problem. If they want to find the root of the problem, they need to look in a mirror.
 
 

Job creation comes from investment and investments only flow to where prospects for making a profit outweigh the costs and risks associated with making the investment. Without capital, productivity is low and while salaries in Latin America may also be low, it does not necessarily follow that costs also are, due to the heavy burden of taxes and regulations that local producers are forced to comply with. And without a proper rule of law, the risk is even greater. In this environment only production for local consumption flourishes, and this is threatened by the opening of trade barriers.
 
 

In one sense the position of Latin America is correct: agricultural subsidies and protections are wrong and inflict damage on consumers in industrialized countries as well as producers in developing countries. Free trade in agriculture is needed. If this issue cannot be resolved at the Summit of the Americas, then free trade in the region may probably have to wait until the WTO's Doha Round is resolved. Although impossible at this point, if Latin American leaders were to come out from the Summit with a unified position against agricultural subsidies and protectionism this would be a huge step in the run up to Hong Kong, where the WTO Doha negotiations are taking place.

 The Latin American populist and mercantilist dogma is, therefore, one that wants industrialized countries to open their markets for agriculture, together with import substitution to "protect" jobs in smokestack industries and services and weak or non-existent intellectual property rights.

The rest of the world, and particularly Asia, is taking a different route, following innovation and high technologies, focusing on developing clusters of creativity and innovation, making partners of business and academia, sustaining the rule of law, protecting contracts and intellectual property rights. And as they surge ahead economically, they look at Latin America through the rearview mirror.

Martin Krause is the Dean and Professor of economics at ESEADE Graduate Business School in Buenos Aires, Argentina.
 

43. The Tragedy of Garrett Hardin                   By GREGG EASTERBROOK

Wall Street Journal Oct 21, 2003

                   The philosopher Garrett Hardin and his wife Jane died last month by
                   mutual suicide. His passing received too little attention; perhaps this
                   week's memorial service at the Unitarian Society in Santa Barbara,
                   Calif., will change that. Hardin was a brilliant, wise and gentle man who
                   was often desperately wrong, and the ways in which a person can be
                   wise and gentle and yet wrong can tell us much.

                   Hardin is known for his essay "The Tragedy of the Commons," which
                   created a sensation when published in Science magazine in 1968, and
                   became among the most widely read essays ever penned. In "The
                   Tragedy of the Commons," Hardin supposed that unrestricted access
                   to a commons would cause herdsmen to graze so many animals that
                   eventually the commons, which might have supported a few, would
                   collapse and all starve. Market theorists protested that creating
                   property rights would prevent the commons from being overburdened,
                   as rights-holders would acquire an incentive to safeguard resources.
                   Hardin thought "mutual coercion mutually agreed upon" was the
                   solution to the tragedy of the commons. Government should fence the
                   commons and turn away herdsmen. Government, Hardin thought,
                   should prohibit a great deal of human action, in the interest of
                   preserving resources for future generations.

                   Today people think of "The Tragedy of the Commons" as an argument
                   against selfishness. Actually, Hardin was arguing for
                   government-imposed population control: only by reducing the number
                   of people, Hardin thought, could we prevent excessive demand on the
                   commons.

                   Reducing the human population became the cause of Hardin's life. On
                   becoming an intellectual celebrity, he spent much of the 1970s making
                   speeches in favor of abortion -- not just in favor of the right of a
                   woman to control her own body but in favor of abortion itself, as a
                   good in itself, because abortion prevents life. "Freedom to breed is intolerable," he declared. The
                   newborn's cry was not, to him, a celebration of life; it was just more breeding. "The only way we can
                   preserve and nurture other and more precious freedoms is by relinquishing the freedom to breed," Hardin
                   thought. And though he had a long, happy marriage with his wife Linda, Hardin disliked the fact that
                   women were reproductive vessels. "Population does not grow globally; it grows very locally, at each
                   spot occupied by a fertile woman," Hardin declared.

                   Hardin said the U.S. should withdraw from the United Nations because U.N. policy held that family size
                   was a private decision. He also wanted a total ban against immigration -- "we must bring immigration
                   virtually to an end and do so soon." When the world learned of forced sterilization in China, Hardin
                   cheered: "There is no talk in China of a woman's 'right' to reproduce or of married couples' 'right to
                   privacy,'" he wrote in 1989. Hardin wanted forced-sterility programs extended to all developing nations.

                   Thomas Malthus believed it would be physically impossible for agricultural production to increase faster
                   than population; the Green Revolution proved that wrong, invalidating Malthusian assumptions. Hardin
                   believed it would be physically impossible for a rising human population to have any result other than
                   runaway pollution; "The Tragedy of the Commons" depicts the near future as choking on smog and
                   toxins. Instead, throughout the United States and European Union, all forms of pollution except
                   greenhouse gases have been in decline pretty much since the moment Hardin wrote that they could not
                   decline, and population steadily rises. Hardin simply failed to estimate how rapidly technology could
                   respond to the needs of the commons.

                   Globally, the human population has almost doubled since "The Tragedy of the Commons" was written,
                   yet U.N. figures show that malnutrition has declined in that period, while developing-world per-capita
                   income, literacy, education levels, longevity and political freedom all have improved. Meanwhile no
                   resource, not even petroleum, is near exhaustion. Countless problems remain across the globe, but things
                   simply have not gotten as bad as Hardin assumed they would.

                   That Hardin was wrong on his most basic contention, that humanity would overwhelm the Earth, should
                   not obscure his other achievements. He spoke wisely of the need to temper materialism: "The maximum
                   is not the optimum" was Hardin's best aphorism. He insisted that future generations make a legitimate
                   claim on us today; Hardin endlessly reminded of the future's power to judge us, and of how we will, in
                   the next life, wish to be thought well of by the living. And Hardin's ability to be wise, caring and
                   accomplished, yet to say foolish things, reminds us all of our humanity.

                   I am haunted by the thought that the final expression of Garrett Hardin's ambivalence regarding human
                   life was the pact that brought his and his wife's death. Both were in their eighties and in poor health; when
                   the end is near, each person needs the right to exit on his or her own terms. But I liked the world much
                   better when Garrett Hardin was in it, and am glad his parents never took the advice their child later gave.

                   Mr. Easterbrook is a senior editor of The New Republic, a visiting fellow of the Brookings
                   Institution, and the author of "The Progress Paradox," forthcoming from Random House.

                   Updated October 21, 2003
 
 
 

November 3, 2005

44. Europe Vs. Europe by Richard W. Rahn

Richard W. Rahn is director general of the Center for Global Economic Growth, a project of the FreedomWorks Foundation.

Strasbourg, France.

Is it a sensible idea to move the site of government every three weeks? This is precisely what the European Union does every month, since much of its government moves back and forth -- with great wagon trains of trucks carrying government papers (and the luggage of the European parliamentarians) -- between this picturesque city in the Rhine Valley and Brussels, Belgium.

Not only have the Europeans been unable to agree on having one capital city for the EU, but they are split on almost every major issue, making the political differences between the major parties in the U.S. seem almost inconsequential. The fundamental disagreement is to what extent Europe should move away from the "social market economy" model that has left France, Germany and Italy in economic stagnation and towards a more classic market economy such as that practiced in the U.S.

The EU has roughly the same GDP as the U.S. -- each producing almost 30 percent of the world's GDP. But the EU has a third again as many people as the U.S., and hence the average European only has about two-thirds the income of the average American. The 25 nation EU, taken as whole, is America's biggest trading and investment partner, far outstripping China or Japan. Thus Americans and Europeans have an enormous interest in each others' economic well-being, because an economic "cold" on one side of the Atlantic will almost always be "caught" on the other side.

Europe has been growing at roughly half the rate of the U.S. for the last two decades, which is not good for Europe or America. However, within Europe, there are considerable disparities in growth rates between countries. Those in the center -- France, Germany and Italy -- have barely grown, while those on the edges -- Ireland, Spain, Britain and the new EU member transition countries in Central and Eastern Europe -- have been for the most part doing very well. These growth disparities are causing increased tension among the 25 EU member states, and may even result in the currently strong Euro -- which is the common currency of 12 European countries -- becoming dysfunctional.

The "Polish plumber" has become the metaphor for the philosophical split in Europe. France has all but closed its doors to allowing workers from the new Eastern European EU members to get work permits, on the misguided notion that these highly motivated people will take jobs from French workers. Britain, Ireland, Sweden and others have taken the opposite tack and welcomed the new workers from Poland, Lithuania, Slovakia and so on, because they understand that more people working productively create more wealth and hence more jobs. The result is Britain has an unemployment rate of only 4.7 percent, even though it has absorbed more than 200,000 new workers from Eastern Europe during the last year, while France and Germany have more than 10 percent of their workforce unemployed, despite (or actually because of) their restrictive work practices.

Europe is also split on trade policy. While many of the European countries understand that freer trade leads to lower prices and a higher standard of living, some countries, again notably France, are resisting. This past week, the French vetoed reducing farm subsidies, despite offers from the U.S. and some European countries to do so on a multilateral basis. This was highly hypocritical, given their calls for others, particularly the U.S., to give more foreign aid from coerced taxpayers. The best foreign aid would be to give African and other farmers from low income countries the opportunity to sell their goods in the rich states -- but the French, again, said "Non."

The high growth countries of Europe understand that high taxes, particularly on capital and labor, kill incentives and lead to economic stagnation. France, Germany and some others, fearing productive tax competition, have pushed for "tax harmonization," which is nothing more than a code word for a high tax cartel. The outcome of these tax and regulation struggles within Europe will determine whether Europe as a whole remains one of the two great economic powers on the globe, or slowly slips behind China and the other Asian countries.

Last week, in a chateau near Strasbourg, a small group of U.S. and European business leaders had a two-day meeting with representatives of several European free market activist groups. The goal of the meeting was to share ideas on how to encourage European political leaders to undertake more pro-growth economic policies so modern day Europe does not follow the fate of the Roman Empire. Looking at Germany, France and Italy, the pro-growth leaders found plenty to be pessimistic about. But they also understood that in times of crisis real change for the better can take place, which is why they are willing to spend time and money to help convince millions of Europeans to save themselves.

This article appeared in the Washington Times on October 31, 2005.
 

45. Liberia: From Barbarity to Hope
By Amb. Richard S. Williamson   Published    11/04/2005
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Liberia, like too many other African countries, has gone through a long period of violence, mayhem and tragedy. But last month, Liberia held its first free and fair election, which offers the people an opportunity to leave their grisly nightmare behind and begin their long, difficult path to building a substantial peace where good governance, transparency and accountability supplant cronyism, deception and graft.

As an international election observer to this Liberian vote, I was inspired to see the hope of Liberians casting their votes for a brighter future.

Liberia was founded by freed American slaves in 1847. Liberia continues to be divided by the Americo-Liberian minority comprising only 5% of the people and the overwhelming majority of indigenous Liberians that come from 16 different ethnic groups. For over a century, Liberia was dominated by the Americo-Liberian True Whig Party that directed Liberian politics from 1871 to 1980.

In April, 1980, indigenous Liberian Master Sergeant Samuel K. Doe seized power in a coup d'etat in which President Talbert was butchered in cold blood and 13 ministers were stripped to their underwear, staked to posts on the beach and executed.

A civil crisis flared up and the ensuing 25 years of conflict have led to senseless violence, four transitional governments, and a non-functioning state apparatus.
 
 

One observer described the past quarter century in Liberia as a period of "public executions on the beach, drug crazed young thugs terrorizing citizens at roadblocks, rampant theft of national resources, corruption, nepotism, abuse of human rights, tribalism, blood diamonds and warlords."

Many indigenous Liberians believe in a spiritual world of unseen forces and the visible world of everyday life. In war, when killing occurred, the victor could take on the power of his enemy by ingesting part of his body, his heart or liver, and thus his spirit. During periods of intense violence in Liberia there were regular reports of "ritual killings." Witchdoctors were reported to have scrutinized potential victims prior to ripping their living hearts out of their bodies. Then the person who "commissioned" the deed consumed the heart in whole or in part to gain the power of the victim and to intimidate others.

During this past quarter century the quality of life grew more bleak. Competent civil administration and the rule of law disappeared. The infrastructure deteriorated, the economy collapsed and, today, most of Liberia has no electricity, no running water and no public health services.

Liberia's life expectancy is 47 years. Illiteracy is near 85%. Unemployment in the formal sector is over 70%.

Liberia's last authoritarian leader was the warlord Charles Taylor who not only terrorized his own country but supported rebel activities in the neighboring states of Sierra Leone, Guinea and Cote d'Ivoire. For his misdeeds in Sierra Leone he was indicted by a U.N. sponsored Special Court on 17 counts of "crimes against humanity." Facing rebel advances at home and growing international pressure to account for his crimes, Taylor fled Liberia for asylum in Nigeria in August, 2003.

For over two years the international community through the U.N. Mission in Liberia (UNMIL) has worked to keep peace and support a transitional government in preparations for elections.

Stability in West Africa and the quality of life in Liberia depended on a free and fair election.

The specter of Charles Taylor and the threat of violence hang in the air. As one observer said to me days before the vote, "Many worry about Charles Taylor, but few dare mention his name."

In the run up to election day there were many unanswered questions. Would there be violence? Would the turnout be large enough to give the election legitimacy? Would the mechanical burdens be met for the 10% of polling stations so remote that no cars nor even helicopters could reach them and ballots would be delivered and later retrieved by porters walking four days through the jungle? Would the ballot boxes be secure and would every vote by counted? Would the losers accept the results?

The hopes of many Liberians were captured in Yomitown, a small village of mud huts with 143 voters. In the middle of Yomitown, the villagers came together to build a Palaber Hut, a round structure with a thatched roof and open sides. They built it to be their polling station for election day. It was a source of pride. The chance to vote was a reason for hope.

As Steve McClein, a Liberian policeman told me when I visited the Peynesville Town Hall Center in the outskirts of Monrovia, "We've had a long conflict. We don't want it to happen again. We want peace. Our new president must unify the people by going to their aid: healthcare, education, salaries and roads. This is our dream, to have a new day."

Or, as Bishop David Daniels of the Liberian National Methodist Episcopalian Church told me just before the vote, "Guns will not free you. Lay down guns and go to school. That is the only answer. This election brings hope. The time for hope is now."

By the time polling stations opened there were long lines waiting to vote, some having arrived at two and three in the morning to be among the first to cast their ballots.

Fahnguor Rogers got in line at 5:45 a.m. He told me that he wanted government transparency so the new government would not be corrupt like all the others he had known. And he wanted "education and training for the young people, especially the former child soldiers who hang around with nothing to do and no skills but killing."

In Harbel town the lead election official was Thomas Howard, a 34 year old with four children ages 19, 14, 9 and 2 ½. He told me, "I hope our new President brings real education where people can learn to read."

At a polling site in the Monrovia Free Pentecostal School, Samuel Goweh, 38, told me, "A good result (in the election) will leave us a peaceful country and move us forward. The ex-combatants need to be sent to school, retrained and become useful citizens. We need water, electricity and education."
 
 

Prince Jacob, a Nigerian soldier serving as a U.N. Peacekeeper in Liberia who had served in Rwanda after the genocide there, told me, "Even though the genocide in Rwanda was large, Rwanda was a short war. So it was easier to reintegrate (ex-combatants), In Liberia it was a long war. Here it is harder to integrate."

Sumuwoo Harris, a Lutheran minister, said to me, "The warlords like the young people. They only are taught to do violence. They do not have any skills. They are disgruntled people. The politicians have played upon the disgruntled to give themselves power. That must end. We must re-establish institutions to help the youth get out of the streets. They need education. They need training. We must give this to them or they will remain disgruntled to be played upon and used."

About the election, Minister Harris went on to say, "The people who do not win are not losers. They should be partners. …It is not the responsibility of one person to deliver this country. We need unity to rebuild this country. The task is monumental. It will be a difficult and long road forward. It will take cooperation and it will take patience."

The Liberian people, traumatized by 25 years of turmoil, conflict and violence went to the polls in large numbers: casting their votes. Liberians gave voice to their hopes and dreams by engaging in the first "free and fair" election in their nation's history.

I was encouraged by the thoughtful comments of Julliet Cooper, a 22 year old poll watcher at the Wells-Hairton School in Monrovia. I asked her what she thought would come from the vote. She told me, "There is a lot of work for the new President. He must bring water. He must bring light, electricity, roads. …The expectations of the Liberian people are very high so he will have to work fast. In 6 months they expect something. After 6 months there will be a lot of noise." But, she said, "the Liberian mind is mature. If the results are not there in 6 or 12 months, the president will have to explain. He will have to keep the people informed on what progress is being made." That sounds like the prescription for any healthy democracy anywhere in the world. Only time will tell whether the roots of sustainable democracy are taking hold in Liberia.

As Tom Gbrngbara told me, his hope is that this election will "end the nightmare once and for all."

Liberians went to vote in large numbers. Liberian political parties, civil society and international observers all declared the voting "free and fair." In a few weeks the two leading presidential contenders, Ellen Johnson Sirleaf and George Weah, will have a run off election. And then the new president must seize the opportunity to form an inclusive government that will work for the Liberian people and not primarily to enrich themselves as so many that have done before.

Democracy is not just voting. It is a process. As Sumnwoo Harris told me days before the election, "People who do not win are not losers. They should be partners. It is not the responsibility of one person to deliver the country. We need unity to rebuild the country."

The voters are selecting their new leader. The democratic process provides a legitimacy for the new Liberian president to unify the country and lead. For the sake of the people who have been traumatized by war, live in desperate conditions with no running water, no electricity and few jobs, hopefully the new President will begin to rebuild Liberia's torn society.

That is the hope and that is the opportunity of Liberia's first free and fair elections.

The author served as Ambassador and Alternate Representative to the United Nations for Special Political Affairs, 2002-2003.

46. Wearing of the Green Irish Subsidiary Lets Microsoft Slash Taxes in U.S. and Europe Tech and Drug Firms Move Key Intellectual PropertyTo Low-Levy Island Haven
Center of Windows Licensing By GLENN R. SIMPSON Staff Reporter of THE WALL STREET JOURNAL
November 7, 2005; Page A1
An obscure Irish subsidiary helps Microsoft shave at least $500 million from its annual tax bill, part of a historic emigration of U.S. intellectual capital and its financial fruits to Ireland's low-tax haven

DUBLIN -- A law firm's office on a quiet downtown street here houses an obscure subsidiary of Microsoft Corp. that helps the computer giant shave at least $500 million from its annual tax bill.

The four-year-old subsidiary, Round Island One Ltd., has a thin roster of employees but controls more than $16 billion in Microsoft assets. Virtually unknown in Ireland, on paper it has quickly become one of the country's biggest companies, with gross profits of nearly $9 billion in 2004.

Ireland's citizens may not have heard of Round Island One, but they benefit greatly from its presence. Last year the unit handed the government of this small country of four million citizens more than $300 million in taxes.

The citizens of other nations where Microsoft sells its products are less fortunate. Round Island One provides a structure for Microsoft to radically reduce its corporate taxes in much of Europe, and similarly shields billions of dollars from U.S. taxation.

Giant U.S. companies whose products are heavily based on their innovations, such as technology and pharmaceutical firms, increasingly are setting up units in Ireland that route intellectual property and its financial fruits to the low-tax haven -- at the expense of the U.S. Treasury.

Much of Round Island's income is licensing fees from copyrighted software code that originates in the U.S. Some of the rights to these lucrative assets end up in Ireland via complex accounting rules on intellectual property that the Treasury is now seeking to overhaul. The Internal Revenue Service said it is also looking closely at how companies account for such transactions.

In a statement, Microsoft said its European units "report and pay significant amounts of taxes" and that Microsoft "is fully compliant with the tax laws of the United States and all other countries."

Through a key holding, dubbed Flat Island Co., Round Island licenses rights to Microsoft software throughout Europe, the Middle East and Africa. Thus, Microsoft routes the license sales through Ireland and Round Island pays a total of just under $17 million in taxes to about 20 other governments that represent more than 300 million people.

Microsoft's effective world-wide tax rate plunged to 26% in its last fiscal year from 33% the year before. Nearly half of the drop was due to "foreign earnings taxed at lower rates," Microsoft told the Securities and Exchange Commission in an August filing. Microsoft leaves much of its profit in Ireland, including $4.1 billion in cash, avoiding U.S. corporate income taxes. But it still can count this profit in its earnings.

Round Island One is a key component in a drive by Microsoft to place its intellectual property and other assets into tax havens. In the past three years, Round Island has swallowed up other Microsoft units, from Israel to India, moving much of their tax liability to Ireland. Within the U.S., the rights to many of Microsoft's products and copyrights are managed by a subsidiary in Nevada, which, unlike the company's headquarters state of Washington, doesn't tax royalty income on intellectual property. The Nevada unit, Round Island LLC, is the corporate parent of Ireland's Round Island One.

Microsoft's Irish venture is part of a historic emigration of U.S. intellectual capital, a cornerstone of the modern American economy, to an island that once sent millions of famine-wracked migrants to America. Companies built on knowledge and innovations are an ever-larger portion of the U.S. corporate tax base, displacing the old industrial concerns. But the newer firms' principal assets -- ideas, codes and formulas -- are intangible, and thus easily exported to places where the huge royalties they produce can be shielded from American taxation.

Accountants and lawyers now avidly market such relocations. Round Island's legal address is in the headquarters of a Dublin law firm, Matheson Ormsby Prentice, that advertises its expertise in helping multinational companies use Ireland to shelter income from taxes. It represents other U.S. technology companies including Google Inc., which recently set up an Irish operations center that the firm credits in its SEC filings with reducing its tax rate. A Google spokesman said the company set up in Ireland to be close to its European customers. "Because that business is done outside of the U.S. it is taxed according to international law," he said.

Microsoft's other neighbors in Ireland include Oracle Corp., which also recently set up a network of Irish subsidiaries that helped drive its taxes down sharply. "The decrease in our effective tax rate...is attributable to higher earnings in low tax rate jurisdictions," Oracle said in its July annual report to the SEC. An Oracle spokesman declined to comment.

Ireland, through a blend of deft marketing, potent financial incentives and advantageous geography, has largely beaten out its many tax-haven rivals in the heated competition for offshore investment by technology companies. The flow of U.S. know-how has helped make Ireland an economic powerhouse, dubbed the Celtic Tiger, now one of the richest countries in Europe.

In the past four years, Ireland has stepped up its effort to woo U.S. high-tech firms by piling on new tax breaks for technology transfers, leading a string of major U.S. companies to announce research facilities here. The trend poses a quandary for U.S. regulators and policy makers in the face of a skyrocketing federal deficit and widespread tax shelters.

Irish officials say U.S. companies aren't exporting their intellectual wealth to Ireland, just sharing it. "This isn't about sucking knowledge out of the U.S. This is about building up capability elsewhere," says Enda Connolly, a manager at the Industrial Development Agency of Ireland.

The IRS is fighting intellectual-property migration in court, and the Treasury Department has issued a draft of new rules to limit it. Their efforts have done little to slow the trend. A Washington panel advising the White House on tax policy is now floating a possible new strategy: Simply eliminate the taxes on overseas corporate income that motivate firms to move their intellectual property and other assets offshore. Most major U.S. trading partners have already taken this step, giving their firms a competitive edge against American companies.

Licensing fees make up about three-fourths of Microsoft's nearly $40 billion in annual revenue. Computer makers pay such a fee for every copy of Windows they pre-install in a PC. Companies pay licensing fees for using programs like Microsoft Office and to license programs that run on corporate networks.

Microsoft has just over 1,000 full-time employees in three suburban Dublin buildings, each with its own Starbucks outlet. About half of the Irish employees work on software "localization," translating and modifying for local markets the programs produced by some 29,000 employees of Microsoft in the Puget Sound region of Washington state.

"We have a very real business" in Ireland, said Michael Doyle, a Microsoft tax lawyer at its headquarters in Redmond, Wash. He said the company is using a well-accepted, widely used practice to share its intellectual property with offshore subsidiaries. "The IRS is keenly aware of this and they audit it regularly," he said.

A spokesman for the IRS said the agency doesn't comment on individual taxpayers. But he said the agency is "concerned" about how U.S. companies structure such arrangements and sometimes challenges them.

Ireland's emergence as the top overseas destination for U.S. intellectual capital culminates a long effort to attract foreign investment. For decades after Ireland gained independence in 1921, its economy was largely agricultural. In 1969 John A. Mulcahy, a wealthy American from Ireland, used his one-third holding in Pfizer Inc. to persuade the U.S. drug company to set up a citric acid plant in Cork, according to a Harvard Business School case study.

Other U.S. manufacturers followed, attracted by tax benefits, a low-wage, English-speaking work force, and Ireland's 1973 induction into the European Economic Community. Ireland grew adept at wooing U.S. businesses, dispatching teams of lobbyists to America. Young tech firms such as Apple Computer Inc. began flocking to the island in the 1980s.

Despite criticism from its neighbors, Ireland continued introducing incentives, including in 1983 a 10% tax rate on profits from software exports. The incentives spurred Microsoft in 1985 to set up its first plant in Ireland to help supply Europe. But most foreign operations remained small, and through the mid-1980s "Ireland was a basket case economically," says Mr. Connolly.

That changed with the 1990s technology boom, beginning with the 1990 arrival of an Intel Corp. microchip assembly plant in exchange for $157 million in incentives. Soon to follow were Dell Inc., Gateway Inc., Hewlett-Packard Co. and International Business Machines Corp. Pfizer's drug-industry rivals also followed its path to the green hills of County Cork. The European Union's free-trade rules let them build products in Ireland and sell them cheaply in Europe's many higher-tax countries. Spokesmen for Intel and Dell said tax incentives, the skilled work force and Ireland's location were all reasons for moving operations there.

Microsoft and others now are going further. Microsoft delivers its Windows products to European customers straight from Ireland, and the profits go straight back to Ireland. Since most of the profits from Microsoft programs are in the form of copyright licensing fees, "it is likely that low or nil taxes are payable in the other EU states," says John Ward, a tax professor at the University of Ulster in Belfast, Northern Ireland. Microsoft said it has separate units in every major jurisdiction in the region "that report and pay significant amounts of taxes," but declined to provide an example.

One critic of tax havens contends that the arrangement amounts to an accounting fiction. "You would expect there would be some profits earned in these other countries," says Richard Murphy, an Irish accountant and visiting fellow at the Centre for Global Political Economy at the University of Sussex who is affiliated with a European group called the Tax Justice Network, a coalition of left-leaning nonprofits. Microsoft's ability to avoid reporting large profits in the United Kingdom relies on its position that its U.K. sales -- $1.8 billion in fiscal 2004 -- are actually conducted from Ireland.

To avoid U.K. corporate-profits tax, a company must show it has no "permanent establishment" in Britain through which it makes sales. Microsoft has a large U.K. operation (owned by Round Island) that it calls marketing and a tiny Ireland-based sales staff. Mr. Murphy says Microsoft "is walking a fine tightrope." The software company's Mr. Doyle says its practices have been extensively vetted by tax authorities in the relevant countries.

Round Island -- the name is just a placeholder that never got changed, Microsoft says -- filed its annual report in Ireland on Oct. 27, some seven months late. When asked, Microsoft attributed the delay to the need to finish routine audits of subsidiaries. In the U.S., such a late filing would require an explanation to regulators and possibly large penalties. In Ireland, regulators don't even ask. The penalty for late filing: $3.60 a day.

Taxes paid to Ireland, though modest to giant Microsoft, are a big deal to the Irish treasury, amounting to $77 for each Irish citizen. Last year Microsoft also helped cover Ireland's costs in its six-month turn in the EU presidency, donating software and forgiving some $60,000 in royalties. Bertie Ahern, the Irish taoiseach, a title similar to prime minister, spoke at Microsoft events twice this year. "The growth and success of Microsoft Ireland has coincided with, and played an important role in, a dramatic transformation in the Irish economy," he said at an event at Dublin Castle last month.

Ireland sees intellectual property as the key to its future. Irish labor is now growing scarce, and costs higher. The development authority adopted a new strategy in 2000 of becoming "the foremost knowledge-based society in Europe." Last year, Ireland enacted a new R&D tax credit and abolished a 9% tax on sale or transfer of intellectual property.

Lucent Technologies Inc. now is building a new research center here, attracted by "access to high-caliber engineering talent and scientists," according to spokeswoman Mary Lou Ambrus. IBM is developing Lotus Workplace in Ireland, Hewlett-Packard is designing new inkjet printers here. In March, Microsoft announced it is creating a new R&D center in Ireland to help work on the flagship products currently designed primarily in Redmond, including the planned new release of Windows, called Vista. Pharmaceutical companies are also doing more research in Ireland.

"We're transitioning the nation from being a supplier and producer of other people's ideas to a place where you actually do that development," says Mr. Connolly. The development officer calls offshoring of research a natural part of globalization, and "a good thing. Is that being done at the expense of the American taxpayer? I don't think so."

The research facilities are necessary to satisfy IRS rules on moving intellectual property abroad. To do so -- and thus have profits from it be taxed abroad -- a company must be able to argue plausibly that its offshore unit is at least partly responsible for the innovations.

A common device is to take successful, patented American ideas and then develop new generations of them -- with help from an offshore research division. The ownership of the new version (and profits on licensing it) can then legally be shared between the U.S. parent company and the offshore unit.

Suppose a U.S. company develops a new, easy-to-use computerized day planner, and it's a global hit. All the royalties must go to the U.S., where it was invented, and be taxed at the U.S. corporate income tax rate of 35%. But if the company builds a new and improved version, adding features created partly by its offshore R&D team, the intellectual property rights of day planner 2.0 can be shared between the U.S. and the foreign unit -- as can the profits. Day planner 1.0, of course, disappears.

U.S. law explicitly permits this practice. The controversy comes in valuing the contribution made by the offshore unit. Did it pay a fair share of the development cost? And did it pony up a reasonable price to the parent company to be able to share the rights to the original invention, a price an arm's-length party would pay?

U.S. companies seek to meet the test by creating "cost sharing arrangements" between them and the foreign unit. "R&D cost-sharing agreements within corporate structures can minimize the tax payable in the parent country," notes Ireland's government in a development paper.

Flat Island, according to its filings, has cost-sharing agreements with a Microsoft unit in the U.S. called MELLC, which is the ultimate party controlling offshore patent licensing rights. Microsoft filings give no additional information about MELLC, nor will the company disclose details.

The IRS and Treasury say they are worried that some firms set artificially low prices for their offshore units to buy into such deals. "IRS regulations require that sales or other transfers between subsidiaries of multinational corporations meet the arm's-length standard," said Eric Smith, an IRS spokesman. "Intellectual property is a special case that may be difficult to value. The IRS is concerned that intellectual property is valued according to the arm's-length standard, and actively audits and contests transfers that do not meet this standard." The U.S. government has not questioned the legality of Microsoft's Round Island structure, which appears to be carefully constructed to meet federal regulations.

"Cost sharing is a concept in the U.S. income tax regulations that was developed many years ago to determine the amount of compensation attributable to R&D that is considered "arm's length," Microsoft noted in its statement. "Many large companies use this concept as it was originally created to help minimize disputes..."

The underlying concern is that American companies rely on the U.S. education system and other tax-supported infrastructure to produce a highly creative work force, then move the fruits of that labor abroad without due compensation to American society.

In August, the Treasury issued 188 pages of proposed new regulations on cost-sharing. The new rules are meant to prevent foreign subsidiaries from taking control of U.S. intellectual property without paying a reasonable price to the parent U.S. company for the innovation developed in America. The IRS has been trying to invalidate some cost-sharing deals through litigation, with little success to date.

The Matheson Ormsby law firm in Ireland promotes its expertise in setting up tax-sheltered structures, in a glossy booklet available at its Dublin office. As the global economy changes and technology develops, the firm notes, it is getting easier for multinationals "to unbundle the traditional value chain and locate appropriate profit generating functions in Ireland," including "ownership and exploitation of intellectual property." The law firm has an office in the heart of Silicon Valley, in Palo Alto, Calif.

The booklet sheds light on how Ireland has beat out smaller locales like Bermuda and the Cayman Islands in the competition for U.S. firms' intellectual property. The answer involves the IRS. As Matheson notes, small, sparsely populated and largely undeveloped havens like Cayman lack "the necessary economic infrastructure to which value and ultimately profits can justifiably be attributed." But Ireland has the people and physical infrastructure to permit "construction of profit-generating centres defensible by reference to functions, risks and tangible assets of the Irish operation."

Donald McAleese, the Matheson partner who set up the Microsoft and Google operations, didn't respond to requests for comment by email, telephone or a visit to his office.

Write to Glenn R. Simpson at glenn.simpson@wsj.com

47. Failed Summit Casts Shadow On Global Trade Talks In Blow to U.S., Chavez Taps Latin America's Discontent To Fight Opening of Markets
By MATT MOFFETT and JOHN D. MCKINNON
Staff Reporters of THE WALL STREET JOURNAL
November 7, 2005; Page A1

MAR DEL PLATA, Argentina -- A failed summit of leaders of the Western Hemisphere dealt a blow to global trade liberalization and strengthened the influence of Venezuelan President Hugo Chavez, a critic of the U.S. who favors protectionism and old-style socialism.

The Bush administration had hoped to use the meeting of 34 heads of state to breathe new life into negotiations on a long-stalled Free Trade Area of the Americas, a free-trade zone reaching from Alaska to Tierra del Fuego, Argentina. Instead, the meeting was so wracked by division that diplomats drafting the final communiqué failed to reach agreement even on when to resume talks on the free-trade zone.

In handing Washington an embarrassing defeat, Venezuela was joined by the four countries of the Mercosur trading bloc, a customs union led by Brazil and Argentina and also including Paraguay and Uruguay. "We were five musketeers, kneeling, sword in hand," to oppose the FTAA, Mr. Chavez said afterward. He condemned the U.S. free-trade model as a "perversion" that would unduly benefit the U.S., and instead pushed for closer trade ties among Latin American nations.

Mr. Chavez's success at playing the spoiler role here reflects a harsh fact for the Bush administration: Washington can no longer have its way in setting the economic agenda in its own backyard or in a large part of the developing world. The rise of Mr. Chavez, and of other more moderate leftist leaders in Latin America, reflects the disappointing results of the so-called Washington Consensus, a set of market-oriented policies like trade liberalization and privatization that the region and parts of Asia embraced during the 1990s. The disillusionment with free-market growth formulas also has spread to other parts of the developing world, such as Africa.

That will complicate efforts next month in Hong Kong to carve out a world trade deal. Mr. Chavez has become a beacon for those skeptical of the idea that free trade improves the lives of ordinary people, analysts said. "Chavez tapped into a discontent that has been brewing for some time," said Charlene Barshefsky, who was U.S. trade representative under former President Clinton. "What he ignited was a combustible situation that was already smoldering."

President Bush responded only indirectly to the Venezuelan leader. In a speech yesterday in Brazil, that didn't mention Mr. Chavez by name, he warned that the consequences of following his lead could be disastrous. "A country that divides into factions and dwells on old grievances cannot move forward, and risks sliding back into tyranny," Mr. Bush said.

While public attention focused on the voluble Mr. Chavez, he also appeared to be engaged in an elaborate game of good cop/bad cop with the more-moderate president of Brazil, Luís Inácio Lula da Silva, leader of South America's largest economy. By joining forces with Mr. Chavez in Mar del Plata, Brazil may be trying to buy more time to win concessions from the U.S. and European Union on agricultural subsidies in the global trade talks.

Those concessions, in turn, could leave Brazil and other emerging powers in the region in a stronger position, if they decide to turn again to negotiating a hemisphere-wide free trade zone. Mr. da Silva rejected the idea of setting a 2006 date for resuming the FTAA negotiations because he wanted to keep pressure on the U.S. to make concessions in global trade talks, informally called the Doha Round.

The global negotiations are being held under the auspices of the World Trade Organization, and have stalled over a number of contentious issues. Developing nations, seeking to boost their exports, want the U.S. and EU to slash agricultural subsidies. Wealthy nations want poorer ones to slash tariffs, open their service industries to foreign competition and strengthen intellectual-property protection. The poor nations blocked the last major round of talks in Cancún, Mexico, two years ago, because of concern that agricultural subsidies weren't being addressed sufficiently.

The failure of the Western Hemispheric summit could make it more difficult for the U.S. to gather support for the Doha Round, and could embolden other countries to make more demands in those talks.

U.S. officials sought to play down Mr. Chavez's role and importance in the closed-door summit negotiations, suggesting that his public calls to "bury" FTAA were quickly ignored by other leaders. Instead, what evolved during the negotiations were two distinct, but not-so-different, approaches, they said: a plan backed by the U.S. and 28 other member states that would restart the talks next year, despite objections; and a second plan backed by Mercosur and joined by Venezuela that recognized the benefits of trade, but said the time wasn't yet right for FTAA.

American officials suggested that by joining the Mercosur proposal, Mr. Chavez effectively had to drop his demands for killing FTAA, although Mr. Chavez continues to deride the trade pact. Among other things, FTAA could give Latin American farmers better access to U.S. markets and give U.S. manufacturers increased access and better intellectual-property protection in fast-growing markets like Brazil.
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"We went from a summit which was supposed to bury FTAA to a summit in which all 34 countries actually talk in terms of enhanced trade and an FTAA, recognizing there are challenges," said Stephen Hadley, Mr. Bush's national security adviser, in a briefing late Saturday with reporters aboard Air Force One. "And the only difference is, do we start working now on the challenges in order to reach an agreement, which is the position of the 29, or the position of the five that, 'Oh, this is too hard right now.' That's not a big difference. I would say that is some real progress."

But the underlying strength of Mr. Chavez's political position appeared to be reflected in the fact that many of the countries that nominally supported the U.S. position insisted that the views of Venezuela and Mercosur be accommodated in the final language. That appeared to be a direct rejection of Mr. Bush's position.

"The man left beat-up," Mr. Chavez, a former paratrooper, said of Mr. Bush. "Didn't you see it?"

On Friday, the first day of the summit, Mr. Chavez had given the keynote address at a peaceful rally condemning FTAA and President Bush's policy in Iraq. Later that evening, protests against the trade pact turned violent, with groups of demonstrators vandalizing businesses in downtown Mar del Plata.

The summit confirms the Venezuelan as heir apparent to Fidel Castro as Washington's prime nemesis in its home hemisphere. Mr. Chavez favors heavy state involvement in the economy, and many Venezuelans fear he intends to impose a Cuban-style economic model. He has sharply increased government control over his country's all-important oil industry, forcing foreign oil companies to accept a majority government role in their local ventures. He also has seized what his government considers "idle" farmland from large rural estates and given workers in some factories an ownership stake and management voice.

At a time when Mr. Chavez has been using Venezuela's immense oil earnings to support political allies throughout Latin America, the aftermath of Mar del Plata could give him more credibility to export his leftist ideology. Moreover, a Chavez ally, Bolivian indigenous leader Evo Morales, who appeared alongside the Venezuelan during his anti-FTAA address, stands a good chance of being elected president of Bolivia.

For moderate leftist leaders in Latin America, such as Brazil's Mr. da Silva, Mr. Chavez's extreme positions can serve to make their own differences with Washington appear less significant. Nevertheless, that could be a double-edged sword. Mr. Chavez, for instance, has expressed support for the Brazilian landless peasant movement, which has disrupted the country's agrarian sector, the anchor of the Brazilian economy.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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