Readings/Sources PART W:   Economic Development Econ 385  Fall, 2007
Article marked by "*" are strongly recommeded reading.
 

1. Hail to the Taxers
2. Combating Corruption
* 3 . Don't Bank on the ADB by william easterly
4. Yes, culture should matter to economists
*5. The Materialism Fallacy   Font Size: By Arnold Kling : BIO | 05 Jan 2006
*6. The Link between Economic Freedom and Human Rights
7. Corruption: Latin America Improves
8. No Room for Entrepreneurs By MARY ANASTASIA O'GRADY WSJ October 8, 2007; Page A18
9. Capitalist Heroes
10. IMF to Cut Global Growth Forecasts
11. Bravo, Costa Rica
12. Why is Africa Still Under-developed? Arnold Kling  http://econlog.econlib.org/
13. Globalization and Inequality-Becker http://www.becker-posner-blog.com/
14. The Cotton Club WSJ October 15, 2007; Page A22
15. Organizations to participate in Stand Up Against Poverty Day Michelle Day Issue date: 10/11/07 Section: News College Heights Herald.  Thursday October 11, 2007
16. THE 2008 STATE BUSINESS TAX CLIMATE INDEX
17. Ailing Celtic tiger? Oct 12th 2007 From the Economist Intelligence Unit ViewsWire
18. A Market Nobel By PETER BOETTKE
19. Doug Campbell's Five-Page History of Public Choice  Bryan Caplan
20 . Center Study on Tax Rates
 
 
 
 
 
 
 
 
 
 
 
 

1. Hail to the Taxers
WSJ October 2, 2007

Actor Jeff Daniels makes a cool pitchman in those national TV spots inviting business to Michigan, but soon he may have to start pitching inside the state. At about 2 a.m. Monday, a handful of Republicans in the Legislature broke days of gridlock and handed Democratic Governor Jennifer Granholm the $1.48 billion tax increase she has been demanding.

The state's personal income tax will rise to 4.35% from 3.9%, and the rest of the revenue grab will come from a new 6% sales tax on business services. Already 14th in tax burden among the 50 states, according to the Tax Foundation, Michigan is now headed up in the rankings. Congratulations.

The Michigan Chamber of Commerce estimates that two-thirds of the $750 million in new sales tax revenue will apply to business transactions that are tax exempt in most states to avoid a compounding effect that raises costs to final consumers. The tax is especially unfair to small employers that contract out for activities, such as office services, that large businesses provide in-house with no sales tax applied. By the way, last year Michigan introduced a new 4.95% business income tax, which will be applied on top of the sales tax.

Last year, amid the national expansion, Michigan was the only state outside the Gulf Coast to lose jobs and see a decline in economic output. Comerica Bank recently moved its headquarters to Texas, in part because of Michigan's hostile business climate. Michigan's 7.4% jobless rate is the highest of all states and far above the 4.6% national rate.

The state is suffering from the decline of Detroit's car makers, but that's all the more reason to promote policies that attract new businesses -- or at least don't drive current employers to Florida. Ms. Granholm argues that the combination of new taxes to balance the budget, and to finance such new public "investment" as job retraining and education, will reinvigorate Michigan.

She should check her history books. In the past 25 years, the only period when Michigan's growth has exceeded that of the national economy was in the mid-1990s after then-Governor John Engler's tax cutting and welfare reform. For a time, Michigan became the unlikely national leader in job creation. Now the total tax burden is returning to where it was before the Engler years.

Michigan last went on a taxing binge in 1983, and voters were outraged enough to mount a successful recall campaign against two state Senate ringleaders. This time, two of three Michigan voters have told pollsters they want budget cuts, not new taxes. It may be that the only way to get jobs back into Michigan is to make sure the taxing politicians in Lansing lose theirs.
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2. Combating Corruption
WSJ October 2, 2007

Fighting poverty is a popular cause these days, from Bono's bracelets to fancy "poverty reduction strategies" at development banks. But if do-gooders are serious about reducing global poverty, fighting corruption is one of the best places to start.
[Clean and Dirty]

For supporting evidence, look no further than Transparency International's annual Corruption Perceptions Index. Released Thursday, the survey aggregates 14 polls and ranks 180 countries on "perceived corruption," defined as abuse of public office for private gain. The world's poorest countries -- think Burma or Bangladesh -- languish at the bottom of the list, while the world's richest countries get top marks.

Corruption keeps poor countries poor by squirreling away resources in the hands of elites, who are typically unelected and who spend the gains on, at best, inefficient public works and at worst, private ends. Examples of such wastage aren't hard to find; the Burmese junta's jungle capital at Pyinmana or Turkmenistan's revolving gold leaf statue of its president, Saparmurat Niyazov, spring to mind.

Corruption also drives away foreign investment and disincentivizes local entrepreneurs from starting new businesses. That doesn't mean that corrupt countries don't attract investment; China, which tied with India at a middling rank of 72, pulled down $63 billion of foreign direct investment, despite widespread corruption in the Communist Party ranks. But imagine how much money the mainland would receive if it made a more serious effort to bolster its legal system and enforce clean business practices -- like Hong Kong does, which ranks number 14.

This year, 40% of the countries that have "rampant" corruption (i.e. a score below 3, out of a range of 1 to 10) are also desperately poor -- a trend that's endured since the poll's inception in 1995. But as William Easterly explains on a nearby page in a piece on the Asian Development Bank, it's still devilishly difficult to persuade many actors that corruption is worth prioritizing. In a recent report on the World Bank's anticorruption unit, former Federal Reserve Chairman Paul Volcker found "ambivalence" in the Bank toward fighting corruption.

Reducing corruption means, among other things, better oversight of foreign aid, the encouragement of strong, independent judiciaries and support of civil society institutions to expose graft. Come to think of it, that's a good mission for development banks to adopt.
 

3. Don't Bank on the ADB
By WILLIAM R. EASTERLY
WSJ October 2, 2007

Pity the Asian Development Bank. It is trying to come up with a reason to exist for an Asian continent that already is achieving development and doesn't need a Development Bank. Given all the economic success stories in today's Asia, you'd think the ADB could pat itself on the back for a job well done and then pack up and go home. But not so fast, says the ADB, which is desperately trying to find new things to do with its 2,000 employees and $6 billion of annual lending.
[Don't Bank on the ADB]

To that end, the ADB is working on a Long Term Strategic Framework 2020, a project best read as bureaucratic jargon for the ADB's promise to keep producing bureaucratic jargon through the year 2020. For help with the framework, the ADB commissioned an Eminent Persons Group to tell it what to do with itself. The learned committee was chaired by Supachai Panitchpakdi, Secretary-General of the United Nations Conference on Trade and Development, a body that has long distinguished itself by promoting all the bad ideas that stifle both trade and development. The end result was a report called "Toward a New Asian Development Bank in a New Asia." The eminences have pointed out to the ADB what should be obvious to anyone who reads this newspaper: The ADB's original raison d'etre of providing capital is obsolete in a capital-surplus region with a large excess of saving over investment.

But rather than recommending that the ADB shut down, the eminences instead posit that the ADB should focus on transmitting "sophisticated, up-to-date knowledge…on major development issues." That would be a good idea, but it's tarnished by the poor quality of the ADB's current knowledge efforts. To take two recent examples, consider the ADB's recent report "Inequality in Asia," and its Aid-for-Trade project.

The inequality report is a good example of an iron law of aid: Aid agencies need bad news to justify their existence. Frantically trying to find some bad news in the greatest mass escape from poverty in world history, the quarter-century-old Asian boom, the ADB complains that economic growth worsens "absolute inequality." This is true, but meaningless. If I had a tenfold income increase and Bill Gates only a 10% raise, such economic growth would still worsen the "absolute" income gap between Mr. Gates and me because billionaire Gates's raise is larger in absolute size. But I think most of us would take this growth anyway. Even the ADB concedes the poor are growing richer with economic growth. But this obsession with inequality leads to bad policies, since the only way to avert rising absolute inequality is to stop growth. And anyway, if indeed that's the goal, we don't need the ADB to tell us how to accomplish it -- the Burmese junta has done an admirable job of avoiding growth, and the resulting "absolute inequality," without much advice from the ADB at all.

Then there is Aid-for-Trade. The program is intended to give poor countries financial assistance to "prepare" themselves for trade. But there's evidence that aid inflows actually make exporting more rather than less difficult by fueling currency appreciation. And even setting aside this inconvenient fact, the ADB more generally seems to be rather at sea as to how aid would increase trade. It has produced a lavishly illustrated Aid-for-Trade brochure, which says that aid will result in recipient countries' "mainstreaming trade in national development strategies."

But any Asian leader who hasn't already figured out that trade should be mainstream after Asia's world-historical trade explosion is past the point of rescue anyway. The ADB talks a lot about financing the supply of infrastructure like bridges and ports, overlooking that infrastructure must be demanded as well as supplied. Successful trade booms (and the accompanying infrastructure demand) come about through letting free market entrepreneurs run wild to find things foreigners want rather than consulting ADB bureaucrats on designing a "national development strategy."
* * *

All of which goes to show that the ADB's fundamental problem is that it needs advice from successful Asian countries more than they need advice from it. In the face of this, much of the ADB's framework contents itself with rearranging the deck chairs on the Titanic, tinkering with the bank's management structure perhaps in the hope that some function will follow the form.

The strategic framework suggests creating "prioritized sectors," distinguishing between "core operational areas" and "sectors from where ADB should plan to move out of operations." Unfortunately, the document fails to mention any sectors in the latter category, even while it has scads of ideas for new "operational areas."

Indeed, the ADB is currently following and will surely continue to follow another iron law of aid: Not only do old aid agencies never die, neither does any single old department of an old aid agency. The ADB's focus has if anything gotten less "prioritized," not more, over the quarter century that Asia has been booming. The foreign aid part of ADB, for example, is currently operating in 14 different sectors, each of which averages about 7% of the budget. A summary measure of this kind of splitting up of the budget into many small pieces at the ADB shows it getting steadily worse over the past quarter century.

The ADB should use any creativity it has to think about how it can specialize in something Asia wants instead of finding the imaginary bad news. Given the emergence of Asia as a development success story that doesn't need development banking, the Asian Development Bank must change or die.

Mr. Easterly is professor of economics at New York University, visiting fellow at the Brookings Institution, and the author of "The White Man's Burden: Why the West's Efforts to Aid the Rest Have Done So Much Ill and So Little Good" (Penguin, 2006).
 
 
 

Wednesday, December 14, 2005
4. Yes, culture should matter to economists
http://neweconomist.blogs.com/new_economist/2005/12/yes_culture_sho.html

Although sociologists and anthropologists "have accumulated a wealth of field evidence on the impact of culture on economic behavior", in the last fifty years "most economists have been reluctant to rely on culture as a possible explanatory variable". So write Luigi Guiso, Paola Sapienza and Luigi Zingales in a review article prepared for The Journal of Economic Perspectives, Does Culture Affect Economic Outcomes? (PDF). The authors are "trying to convince the reader that cultural hypotheses can be rigorously tested and are economically important".

    For example, we show that cultural differences in the extent thriftiness is taught to children can explain as much of the cross-country variation in savings as the best economic models on this topic. Time has come, thus, to fully integrate a cultural dimension in our economic analysis.

    Doing so will open a new exciting set of questions. First of all, how does culture emerge and how does it persist? Marx was definitely right that production technology plays a role, but culture is not only the byproduct of a class attempt to seize political power. Cultural norms arise also for efficiency and hygienic considerations. One big outstanding question, then, is how do these two forces – power and efficiency-- balance out? Another one is what determines the persistence of the cultural traits. Finally, what is the interaction between culture and formal institutions? Does culture determine formal institutions or is it the other way around?

    These answers await future research. In the meantime, we hope to have persuaded the readers that importing cultural elements in the economic discourse will not impoverish and hallow out our discipline, but it will make it richer, better able to capture the nuances of the real world, and ultimately more useful.

Recommended holiday reading. I particularly liked the charts on trust and religion at the back (figure 3 is simple, but very telling). You may also find the latest (May 2005) version of last year's NBER working paper 11005 by the same authors on Cultural Biases in Economic Exchange (PDF) of interest, and my previous post: Chen on the political economy of beliefs.

Wednesday, December 14, 2005 at 07:56 PM in Data, statistics, surveys, Discussion papers, Economic theory, Economy - international, comparative, Happiness, well-being, satisfaction | Permalink
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Muita gente vem aqui e acha que eu e o Leo somos chatos e não gostamos de cultura. Não é bem assim. A questão é que gostamos de argumentos assim, com fundamentos e contra-argumentos organizados. Nada contra os leitores, apenas... [Read More]
 

 NBER Working Paper No. 11005
Issued in December 2004
NBER Program(s):   CF    ITI

http://www.nber.org/papers/w11005
---- Abstract -----

How much do cultural biases affect economic exchange? We try to answer this question by using the relative trust European citizens have for citizens of other countries. First, we document that this trust is affected not only by objective characteristics of the country being trusted, but also by cultural aspects such as religion, a history of conflicts, and genetic similarities. We then find that lower relative levels of trust toward citizens of a country lead to less trade with that country, less portfolio investment, and less direct investment in that country, even after controlling for the objective characteristics of that country. This effect is stronger for good that are more trust intensive and doubles or triples when trust is instrumented with its cultural determinants. We conclude that perceptions rooted in culture are important (and generally omitted) determinants of economic exchange.

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5. The Materialism Fallacy   Font Size: By Arnold Kling : BIO | 05 Jan 2006
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"most of a country's wealth is captured by what we term intangible capital...Intangible assets include the skills and know-how embodied in the labor force. The category also includes social capital, that is, the trust among people in a society and their ability to work together for a common purpose. The residual also accounts for all those governance elements that boost the productivity of labor. For example, if an economy has a very efficient judicial system, clear property rights, and an effective government, the effects will result in a higher total wealth and thus a higher intangible capital residual...human capital and rule of law account for the majority of the variation"
-- Kirk Hamilton, et al, Where is the Wealth of Nations?

Economists are gradually shifting the way we think about the determinants of economic well-being. Traditionally, the focus was on resources. Increasingly, we appear to be moving toward a focus on beliefs.

A new study from the World Bank, called Where is the Wealth of Nations? (which I first saw mentioned in Ronald Bailey's article in Reason magazine), is a landmark event in this transformation of economic viewpoint. First, it adds to the growing body of evidence that institutional factors, such as property rights, play a significant role in economic development.

Moreover, the study comes from an organization that was founded on the opposite belief. The World Bank was created at the end of World War II in order to promote economic development by providing capital to poor countries. Given its history and raison d’être, the conversion of the World Bank to a belief in intangible factors as determinants of economic development would be equivalent to a fundamentalist religious group's endorsement of gay marriage.

From Tangibles to Institutions

Over the past 50 years, economists have become less materialistic. No, we have not become hippies, rejected consumerism, and discovered spirituality. As social scientists, however, we have noticed that a large share of wealth comes from factors other than basic labor and capital. This phenomenon was first documented by Nobel Laureate Robert Solow, and came to be known as the Solow Residual. The term "residual" suggests something small, mysterious, and unexplained. But the Solow residual is not small -- it is several times larger in importance than the stock of physical capital.

Because the Solow Residual is too large to ignore, much recent research has focused on explaining it. The current consensus is that institutions matter. The rule of law is important. Clear property rights are important. On the negative side, protectionism, corruption, and barriers to entrepreneurship are important.

From Institutions to Beliefs

If institutions are important, then this raises questions about how institutions get to be what they are. Are there strategies for achieving institutional reform, including ending corruption or strengthening property rights? Can institutions change suddenly, or do they evolve gradually? Why are we fortunate enough to have institutions that are conducive to growth, while other societies are stuck with dysfunctional institutions?

George Mason University economist Tyler Cowen believes that this line of thinking leads to an inquiry into The Cultural Foundations of Economics. He writes, "Imagine economics is no longer built around the dual of preferences and constraints. We would instead have the following starting points: ...beliefs ...peers ...stories..."

Here, I wish to focus on the role that beliefs play in determining economic institutions and performance. I claim that:

    1. People behave differently based on what they believe. Someone who believes that hard work in school is (a) admired by peers and (b) ultimately rewarding will work harder in school than someone who believes the opposite. Someone who trusts the mechanisms for trading with strangers will trade more than someone who fears trade with strangers.

    2. People support different institutions and policies depending on what they believe. Someone who thinks of wealth as something to be earned and created will support property rights and policies that reward work. Someone who thinks of wealth as something to be controlled and allocated will support a welfare state. People who see positive-sum possibilities in trade and technological change will be less protectionist than people who view such phenomena in zero-sum terms.

    3. Some patterns of beliefs are self-reinforcing. For example, if people believe that all government transactions involve corruption, then they are more likely to go along with corruption when they encounter it.

    4. People's beliefs tend to reflect the beliefs that they are exposed to in their immediate family and peer groups. For that reason, differences in beliefs across nations or religious groups tend to persist. However, I suspect that religion per se is over-rated as a determinant of beliefs, although interest in that topic appears to be on the upswing among economists.

    5. Because of the importance of peers and family, beliefs among a group can remain stable for a long time, and then rapidly evolve when a critical mass of people experience a change of mind.

Ironically, one of the most difficult beliefs to change is the belief that physical resources are the main causal factors in economics. From Karl Marx's Das Capital to Jared Diamond's Guns, Germs, and Steel, the materialist belief captures people's imaginations. However, as the evidence for the intangible sources of wealth becomes more and more salient, our beliefs will adapt accordingly. When a book produced under the auspices of the World Bank challenges the materialist assumption, a broader change of beliefs may be imminent.

Arnold Kling is author of Learning Economics.
 

September 28, 2007
6. The Link between Economic Freedom and Human Rights
by Anthony B. Kim

http://www.heritage.org/Research/WorldwideFreedom/wm1650.cfm
WebMemo #1650

In his address to the United Nations General Assembly on September 25, President Bush urged the nations of the world to work together "to free people from tyranny and violence, hunger and disease, illiteracy and ignorance, and poverty and despair."[1] That message echoes the enduring confidence that Americans have in freedom as a moral and liberating force for all peoples. It is the foundation of true democracy and human rights. Freedom is the engine that drives sustainable economic growth and provides increased access to prosperity for all people everywhere.

Economic Freedom Empowers People

Economic freedom is essentially about ensuring human rights. Strengthening and expanding it guarantees an individual's natural right to achieve his or her goals and then own the value of what they create. Amartya Sen, a Nobel laureate economist who has made considerable contributions to development economics, once noted that "Development consists of the removal of various types of unfreedoms that leave people with little choice and little opportunity for exercising their reasoned legacy."[2] People crave liberation from poverty, and they hunger for the dignity of free will. By reducing barriers to these fundamental human rights, forces of economic freedom create a framework in which people fulfill their dreams of success. In other words, the greater the economic freedom in a nation, the easier for its people to work, save, consume, and ultimately live their lives in dignity and peace.

This relationship is well documented in the Index of Economic Freedom, published annually by The Heritage Foundation and The Wall Street Journal, which measures economic freedom around the globe. The Index identifies strong synergies among the 10 key ingredients of economic freedom, which include, among others, openness to the world, limited government intervention, and strong rule of law. The empirical findings of the Index confirm that greater economic freedom empowers people and improves quality of life by spreading opportunities within a country and around the world. As Chart 1 clearly demonstrates, there is a robust relationship between economic freedom and prosperity. People in countries with either "free" or "mostly free" economies enjoy a much higher standard of living than people in countries with "mostly unfree" or "repressed" economies.[3]

Citizens in nations that are built on greater economic freedom enjoy greater access to ideas and resources, which are the forces that let "all of us exchange, interact and participate"[4] in an increasingly interconnected world. Access, another form of freedom that has practical promise, is an important transmitting mechanism that allows improvements in human development and fosters better democratic participation. A new cross-country study, recently commissioned and published by the FedEx Corporation, measures the level of access that a nation's people, organizations, and government enjoy in comparison to the world and to other countries. The study looks into trade, transport, telecommunication, news, media, and information services in 75 countries.[5]

There is strong positive linkage between degrees of economic freedom and levels of access. As Chart 2 shows, greater economic freedom allows people to have more access to necessary means to success such as new ideas and resources. Reinforcing each other, greater economic freedom and better access to ideas and information combine to empower people, improve their quality of life, and expand opportunities for nations to benefit from global commerce.

Higher economic freedom also has a strong positive correlation with the United Nation's Human Development Index, which measures life expectancy, literacy, education, and standard of living for countries worldwide.[6]By creating virtuous cycles and reinforcing mechanisms, the prosperity created by economic freedom results in reduced illiteracy (through greater access to education) and increased life expectancy (through access to higher quality health care and food supplies).[7]

Economic Freedom Paves a Path to Political Liberty

Debate over the relationship between economic freedom and political freedom and the question of causation has been somewhat controversial due to the complex interplay between the two freedoms. Yet it is well recognized that economic freedom leading to economic prosperity can enhance political liberty. As the late Milton Friedman, the father of economic freedom, once noted in his book Capitalism and Freedom:

    Economic freedom plays a dual role in the promotion of a free society. On the one hand, freedom in economic arrangements is itself a component of freedom broadly understood, so economic freedom is an end in itself. In the second place, economic freedom is also an indispensable means toward the achievement of political freedom.

As we have witnessed over the past decades, economic progress through advancing economic freedom has allowed more people to discuss and adopt different views more candidly, ultimately leading societies to be more open and inclusive. Although transformation has been somewhat slower than one might hope, the process has been facilitated by the battle of ideas and greater access to information, guided by forces of economic freedom and innovation. Economic freedom makes it possible for independent sources of wealth to counterbalance political power and to cultivate a pluralistic society. In other words, economic freedom has underpinned and reinforced political liberty and market-based democracy.

Conclusion

The cause of freedom has swept around the world over the last century. It is the compelling force of economic freedom that empowers people, unleashes powerful forces of choice and opportunity, and gives nourishment to other liberties. As the 21st century progresses, freedom's champions must confront both the dark ideology of extremists and those who would restore the failed socialist models of the past. Confidence in, and commitment to, economic freedom as a liberating force must continue to serve as the foundation of open societies and human rights.

Anthony B. Kim is Policy Analyst in the Center for International Trade and Economics at The Heritage Foundation.

[1]President Bush Addresses The United Nations General Assembly, Office of the Press Secretary, September 25, 2007, at www.whitehouse.gov/news/releases/2004/09/20040921-3.html.

[2]Amartya Sen, Development as Freedom (New York: Anchor Books, 1999), p. xii.

[3]The Index of Economic Freedom defines freedom categories as the following: "free": 80-100% free; "mostly free": 70-70.9% free; "moderately free": 60-69.9% free; "mostly unfree": 50-59.9% free; and "repressed": 0-49.9% free.

[4]"Access Review: Your Pass to a Changing World," FedEx Corporation, Volume 1, September 2007.

[5]Ibid.

[6]More information on the Human Development Index available at http://hdr.undp.org/.

[7]More empirical analyses on the relationship between wealth and quality of life can be found in Indur Goklany's recent bookThe Improving State of the World: Why We're Living Longer, Healthier, More Comfortable Lives on a Cleaner Planet, published by the Cato Institute.
 
 

Monday, October 01, 2007
7. Corruption: Latin America Improves
CORRUPTION CHAMPIONS: Presidents Hugo Chavez of Venezuela and Rene Preval of Haiti lead the most corrupt countries in Latin America. (Photo: MinCi)

http://www.latinbusinesschronicle.com/app/article.aspx?id=1684

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Brazil and Mexico improve, as do all trade groups. But Venezuela worsens again, reaching record levels of corruption.

BY CHRONICLE STAFF

Venezuelan president Hugo Chavez is planning to transfer the country's international reserves to the central bank under his direct control.  However, when those billions of dollars are transferred to the presidential coffers, they will likely only compound a growing problem in Venezuela: corruption.

"Under Chavez, corruption permeates all levels of society," James M. Roberts, a Research Fellow at The Heritage Foundation, said in a recent analysis. "Bureaucrats rarely follow existing bidding regulations and demand bribes from ordinary citi?zens while they neglect basic government services. A general atmosphere of lawlessness prevails. Gov?ernment officials and others connected to the regime drive new cars and wear designer labels."

INCREASED STATE, INCREASED CORRUPTION

As the state's control over the economy has grown under Chavez, who assumed power in 1999, so too have bureaucrats demanding bribes to influence the outcome of applications or simply do their job. Especially disturbing for traders is that Venezuela has dramatically increased the documents needed - and cost - for exporting and importing containerized freight through Venezuelan ports (see Trade: Panama Best, Venezuela Worst).

With billions of dollars in petro-cash floating around, few observers were surprised when a suitcase full of $800,000 in cash was discovered at Buenos Aires airport in August. The suitcase allegedly belonged to Guido Antonini, a Venezuelan businessman whose companies have benefited from close ties to Chavez. He had flown from Caracas to Buenos Aires on a private jet belonging to Argentine state oil company Enarsa. Chavez denies any wrongdoing, but the episode is seen as the latest evidence of the rising corruption in Venezuela.

And that corruption has soared dramatically under Chavez. The country's corruption perceptions score has fallen from 2.7 in 2000 - the first full year of Chavez' government - to 2.0 in this year's survey by Germany-based watchdog Transparency International. Its international ranking has fallen from 71st place (out of 90 nations) in 2000 to 162nd place this year (out of 179 nations).

Although Venezuela is not the most corrupt country in Latin America (that honor goes to Haiti), it is now seen as more corrupt than countries like Zimbabwe, Kazakhstan and Belarus. And it is only slightly less corrupt than countries like Congo and Laos, according to the 2007 Corruption Perceptions Index from Transparency released last week.

LATIN AMERICA IMPROVES SLIGHTLY

the deterioration in Venezuela stands in contrast with Latin America overall. Its corruption perceptions score improved slightly - by 0.1 percentage points - to an average of 3.5 points, according to a Latin Business Chronicle analysis based on Transparency data.

Nine countries improved their score, seven worsened their score and four kept their score. Brazil and Mexico - Latin America's largest and second-largest economies - improved their score by 0.2 percentage points to 3.5 points. That means they are seen as less corrupt than countries like Saudi Arabia and Thailand. Brazil also fares relatively well within the so called BRIC group. Its score is the same as those of fellow BRIC countries China and India and significantly better than the last BRIC country, Russia.

Ranked by Latin American trade groups, all made slight progress. CAFTA made most progress (its average score improved by 0.2 percentage points), while the region's other trade groups also saw slight improvements (up 0.1 percentage points each), according to the Latin Business Chronicle analysis. CAFTA includes six nations that signed a free trade agreement with the United States in 2004. However, one of those nations - Costa Rica - has yet to implement the accord and is holding a referendum on Sunday to decide whether to approve it or not (see Costa Rica’s CAFTA Choice). If Costa Rica is not included in the CAFTA average, its progress is identical to the other trade groups analyzed.

BIG DIFFERENCES

However, within each trade groups, there are strong differences:

    * Mercosur: Uruguay is best, with 6.7 points and Paraguay is worst, with 2.4.
    * Andean Community: Colombia (3.8 points) is best and Ecuador (2.1) is worst.
    * CAFTA: Costa Rica (5.0) is best and Honduras (2.5) is worst. (If Costa Rica is excluded, El Salvador is best, with 4.0 points)
    * ALBA: Cuba (4.2) is best and Venezuela (2.0) is worst.

Measured individually, Costa Rica is by far the biggest winner, with an improvement of its score of 0.9 percentage points. It also boosted its international ranking by nine places. Costa Rica is less corrupt than EU countries like Slovakia and Greece.

"The case of Costa Rica may serve to illustrate the importance of having autonomous and respected institutions in place that can help to adequately fight corruption," Transparency says. "Just a few years ago the country experienced a decrease in its CPI score, which could be attributed mainly to the fact that former presidents and high level officials have been found to be involved in bribery scandals. The independence and actions of the justice system in taking up the cases possibly contributed to an improved image of the government and politicians in the eyes of the expert community responsible for rating the countries listed in the CPI."

CHILE MOST TRANSPARENT

Despite the improvement, Costa Rica is not the most transparent country in Latin America. Chile holds that position. With a score of 7.0 points, Chile has less corruption that countries like Spain and Barbados. However, its score worsened by 0.3 percentage points from last year. Uruguay, the second-least corrupt country in Latin America, improved its score by 0.3 percentage points. It is less corrupt than countries like Portugal and the Czech Republic.

On the opposite end, Haiti, again cements its position as the most corrupt country in Latin America. Despite some progress in stabilizing its institutions, the country's corruptions score declined by 0.2 percentage points to 1.6 points. That makes Haiti the fourth-most corrupt country anywhere, according to Transparency. Only Iraq, Myanmar and Somalia are worse.

Meanwhile, Venezuela is expected to continue worsening its corruption level. "Meaningfully reducing corruption in Venezuela would require eliminating motives and opportunity for corruption and punishing those responsible," Gustavo Coronel, a former board member of PDVSA and former official of the Inter-American Development Bank, wrote in a detailed CATO report on Venezuelan corruption late last year. "It’s entirely clear that the battle against corruption in Venezuela cannot begin until Chávez has gone."

  © Copyright Latin Business Chronicle
 
 

8. No Room for Entrepreneurs By MARY ANASTASIA O'GRADY WSJ October 8, 2007; Page A18
Latin American policymakers must unleash entrepreneurial spirits.
 

Economist Joseph Schumpeter (1883-1950) may be best known for his innovative work showing the link between entrepreneurial discovery and economic progress.

But as Carl Schramm, president of the Kauffman Foundation of Entrepreneurship has pointed out, Schumpeter's insights about risk-takers didn't make him an optimist.

In a speech last year to European finance ministers in Vienna, Mr. Schramm explained Schumpeter's fears: He "worried that entrepreneurial capitalism would not flourish because the bureaucracies of modern government and big corporations would dampen innovation -- the process of 'creative destruction' would be too ungovernable for a modern, Keynesian-regulated economy to tolerate." As a result, Mr. Schramm said, Schumpeter thought that "the importance of entrepreneurs would fade over time as capitalism sought predictability from governments who would plan economic activity as well as order social benefits."

Mr. Schramm's comments caught my attention because they so accurately describe Latin America. There the entrepreneur has been all but run out of town by the bureaucracies that Schumpeter feared. Growth has suffered accordingly.

The World Bank's annual "Doing Business" survey, released last week, demonstrates the point. The 2008 survey, which evaluates the regulatory climate for entrepreneurs in 178 countries, finds that Latin America and the Caribbean was the slowest reforming region this year and that it "is falling further behind other regions in the pace" of reform.
[Declining Competitiveness]

The average time it takes to start a business -- one of 10 factors measured -- in Latin America and the Caribbean is 68 days, longer than anywhere else. Compare that with the Organization for Economic Cooperation and Development, where business start-ups take less than 15 days. Other common problems in the region are weak minority-shareholder rights, slow legal regimes and punishing tax systems.

Yet as bad as the regional averages are, entrepreneurs in Venezuela probably view them with envy. When it comes to the ease of doing business Venezuela now ranks six places from the bottom world-wide, between Eritrea and Chad. It also finishes dead last among the region's 31 countries -- and that includes Haiti. In the category of "employing workers" Venezuela ties with Bolivia at No. 177. The authors note that it is "not possible" to fire a Venezuelan employee. "Starting a business" takes 141 days and in ease of "paying taxes" it ranks No. 174.

Keeping Venezuela company in the cellar are Ecuador, which finishes 27th in the region, and Bolivia, which comes in 28th. Only Suriname, Haiti and Mr. Chávez's oil paradise have more hostile business climates.

To understand how Argentina went from being one of the world's top-performing economies during Schumpeter's lifetime to the basket case it is today, this report is instructive. The resurgence of Peronist economics helped it slide 16 places lower than its 2006 ranking. Not only has it failed to carry out any meaningful reforms but in the past year it complicated the insolvency process. And its tax system remains punitive: A company that pays all its taxes coughs up the equivalent of 113% of its profit. Argentina finishes 22nd in the region but ahead of Costa Rica, which comes in 24th. Guatemala, El Salvador and Nicaragua are all better places to be an entrepreneur than Costa Rica.

Brazil earned about the same ranking as last year. It made improvements to its legal regime but lost ground to more aggressive reformers in the category of "trading across borders." It also takes last place world-wide for the time it takes to comply with the tax code (2,600 hours) and ranks 137th in the "paying taxes" category.

Sluggish reform in the region has led some analysts to conclude that democracies in the developing world cannot overcome the obstacles to modernization presented by the political economy. Yet there are regional successes that prove that where there is political will, there is a way.

Take Mexico. In last year's report it jumped almost 20 places world-wide thanks to a reform-minded treasury ministry under former President Vicente Fox, which lowered tax rates and made property registration easier. It now has the fifth-most pro-business climate in the region. If the government of Felipe Calderón keeps its reform promises, more improvements should be on the way, though its price controls on bread and tortillas are not a good sign.
This year's superstar is Colombia. It is among the top 10 reformers world-wide and ranks 12th in the region. It made enormous progress in "trading across borders" by reducing the time goods spend in terminals, extending port operating hours and making more selective customs inspections. It also strengthened investor protections, adopted an electronic tax filing system and progressively lowered the corporate tax rate to 33% in 2008 from 35% in 2006. Much more work is needed but the moral of the story is that with leadership, such as that which President Álvaro Uribe has provided, reform is possible.

But the opposite is also true. Chile has fallen nine places since its No. 24 ranking in the 2006 report, suggesting that the center-left coalition running the country is not attuned to the importance of entrepreneurial freedom.

The most important lesson for Latin America from the World Bank's report is that its competitors around the world are working to unleash entrepreneurial spirits, and doing nothing is not an option. As Mr. Schramm told his Vienna audience, "Schumpeter saw what a century of evidence would prove: Socialism has not sustained economic growth." Now, if only more Latin American policy makers would catch on.

Back to Basics
WSJ October 8, 2007

Hong Kong cuts taxes to stay competitive.
 

Hong Kong has made more than its fair share of missteps in the global competitiveness stakes lately, but the government is getting one thing right: tax cuts. Chief Executive Donald Tsang delivers the first policy speech of his new term on Wednesday and it promises to make instructive reading for lawmakers elsewhere in the world who want to make their economies competitive.

Mr. Tsang's move was mooted earlier this year, when he promised to cut taxes on both salaries and corporate profits to 15% during his next term. The salaries tax currently stands at 16% and the profits tax at 17.5%. On Friday, the South China Morning Post reported he'll start the ball rolling this week, sooner in his term rather than later.

Singapore, Hong Kong's big competitor in the region, has been steadily cutting corporate taxes over the past few years. Its rate now stands at 18%. Hong Kong is firing a shot across its rival's bow, and so far it seems to be working. The mere mention of an impending tax cut helped boost Hong Kong's market 3.18% Friday.

Mr. Tsang is expected to propose a gradual stepping-down of the corporate tax over an as-yet unspecified time period. But why not a 2.5 percentage-point cut in one economy-stimulating swoop? That could be a reassuring step from a government that recently became the single largest shareholder in Hong Kong's publicly listed stock exchange operator.

Big spenders elsewhere in the world -- Democrats in the U.S. Congress, take note -- might argue that Hong Kong's big budget surplus ($7.1 billion last year) means it can "afford" a tax cut, while America's deficit means the U.S. can't. But the boost the Hong Kong market got from the mere report of an impending tax cut is one sign that America -- and other world financial centers -- can't afford not to cut levies. In the race to attract new business, New York and London are competing against a territory that thinks a 17.5% corporate tax is too high.
 
 
 
 
 
 
 

9. Capitalist Heroes
By DAVID KELLEY
WSJ October 10, 2007; Page A21

Fifty years ago today Ayn Rand published her magnum opus, "Atlas Shrugged." It's an enduringly popular novel -- all 1,168 pages of it -- with some 150,000 new copies still sold each year in bookstores alone. And it's always had a special appeal for people in business. The reasons, at least on the surface, are obvious enough.
[Atlas Shrugged]

Businessmen are favorite villains in popular media, routinely featured as polluters, crooks and murderers in network TV dramas and first-run movies, not to mention novels. Oil company CEOs are hauled before congressional committees whenever fuel prices rise, to be harangued and publicly shamed for the sin of high profits. Genuine cases of wrongdoing like Enron set off witch hunts that drag in prominent achievers like Frank Quattrone and Martha Stewart.

By contrast, the heroes in "Atlas Shrugged" are businessmen -- and women. Rand imbues them with heroic, larger-than-life stature in the Romantic mold, for their courage, integrity and ability to create wealth. They are not the exploiters but the exploited: victims of parasites and predators who want to wrap the producers in regulatory chains and expropriate their wealth.

Rand's perspective is a welcome relief to people who more often see themselves portrayed as the bad guys, and so it is no wonder it has such enthusiastic fans in the upper echelons of business as Ed Snider (Comcast Spectacor, Philadelphia Flyers and 76ers), Fred Smith (Federal Express), John Mackey (Whole Foods), John A. Allison (BB&T), and Kevin O'Connor (DoubleClick) -- not to mention thousands of others who pursue careers at every level in the private sector.

Yet the deeper reasons why the novel has proved so enduringly popular have to do with Rand's moral defense of business and capitalism. Rejecting the centuries-old, and still conventional, piety that production and trade are just "materialistic," she eloquently portrayed the spiritual heart of wealth creation through the lives of the characters now well known to many millions of readers.

Hank Rearden, the innovator resented and opposed by the others in his field, has not created a new type of music, like Mozart; rather he struggled for 10 years to perfect a revolutionary metal alloy that he hoped would make him a great deal of money. Dagny Taggart is a gifted and courageous woman who leads a campaign -- not to defend France from England on the battlefield, like Joan of Arc -- but to manage a transcontinental railroad and, against impossible odds, to build a new branch line critical for the survival of her corporation. Francisco d'Anconia, the enormously talented heir to an international copper company, poses as an idle, worthless playboy to cover up his secret operations -- not to rescue people from the French Revolution, like the Scarlet Pimpernel -- but to rescue industrialists from exploitation by ruthless Washington kleptocrats.

Economists have known for a long time that profits are an external measure of the value created by business enterprise. Rand portrayed the process of creating value from the inside, in the heroes' vision and courage, their rational exuberance in meeting the challenges of production. Her point was stated by one of the minor characters of "Atlas," a musical composer: "Whether it's a symphony or a coal mine, all work is an act of creating and comes from the same source: from an inviolate capacity to see through one's own eyes. . . . That shining vision which they talk about as belonging to the authors of symphonies and novels -- what do they think is the driving faculty of men who discovered how to use oil, how to run a mine, how to build an electric motor?"

As for the charge, from egalitarian left and religious right alike, that the profit motive is selfish, Rand agreed. She was notorious as the advocate of "the virtue of selfishness," as she titled a later work. Her moral defense of the pursuit of self-interest, and her critique of self-sacrifice as a moral standard, is at the heart of the novel. At the same time, she provides a scathing portrait of what she calls "the aristocracy of pull": businessmen who scheme, lie and bribe to win favors from government.

Economists have also known for a long time that trade is a positive sum game, yet most defenders of capitalism still wrestle with the "paradox" posed in the 18th century by Adam Ferguson and Adam Smith: how private vice can produce public good, how the pursuit of self-interest yields benefits for all. Rand cut that Gordian knot in the novel by denying that the pursuit of self-interest is a vice. Precisely because trade is not a zero-sum game, Rand challenges the age-old moral view that one must be either a giver or a taker.

The central action of "Atlas" is the strike of the producers, their withdrawal from a society that depends on them to sustain itself and yet denounces them as morally inferior. Very well, says their leader, John Galt, we will not burden you further with what you see as our immoral and exploitative actions. The strike is of course a literary device; Rand herself described it as "a fantastic premise." But it has a real and vital implication.

While it is true enough that free production and exchange serve "the public interest" (if that phrase has any real meaning), Rand argues that capitalism cannot be defended primarily on that ground. Capitalism is inherently a system of individualism, a system that regards every individual as an end in himself. That includes the right to live for himself, a right that does not depend on benefits to others, not even the mutual benefits that occur in trade.

This is the lesson that most people in business have yet to learn from "Atlas," no matter how much they may love its portrayal of the passion and the glory possible in business enterprise. At a crucial point in the novel, the industrialist Hank Rearden is on trial for violating an arbitrary economic regulation. Instead of apologizing for his pursuit of profit or seeking mercy on the basis of philanthropy, he says, "I work for nothing but my own profit -- which I make by selling a product they need to men who are willing and able to buy it. I do not produce it for their benefit at the expense of mine, and they do not buy it for my benefit at the expense of theirs; I do not sacrifice my interests to them nor do they sacrifice theirs to me; we deal as equals by mutual consent to mutual advantage -- and I am proud of every penny that I have earned in this manner…"

We will know the lesson of "Atlas Shrugged" has been learned when business people, facing accusers in Congress or the media, stand up like Rearden for their right to produce and trade freely, when they take pride in their profits and stop apologizing for creating wealth.

Mr. Kelley, author of "A Life of One's Own: Individual Rights and the Welfare State" (Cato Institute, 1998), is the founder of The Atlas Society.
 
 
 
 

10. IMF to Cut Global Growth Forecasts
By ANDREA THOMAS
WSJ October 9, 2007 8:59 a.m.

BERLIN -- The International Monetary Fund will cut its 2008 growth outlook for all major economies in its World Economic Outlook report due next week, a person with access to the IMF report said Tuesday.

In its report, which will come after its last update in July which took place ahead of global financial market turmoil, the Washington-based fund now forecasts world economic growth of 4.8% for 2008, compared with the 5.2% forecast in July, according to the person.

The IMF also cuts its forecast for U.S. growth to 1.9% from 2.8% previously, while forecasting Canada's real gross domestic product to grow 2.3% next year, compared with 2.8% forecast previously.

The euro-zone economy is expected to grow less strongly than previously forecast, by 2.1% in 2008, compared with 2.5%.

Europe's largest economy Germany should see 2.0% growth in 2008, down from the previous 2.4% forecast. France should also see 2.0% growth next year, compared with the 2.3% predicted previously.

The IMF also forecasts China's economy will grow by 10.0% in 2008, down from the previous 10.5% forecast.
 

Tuesday, October 9, 2007 ~ 3:45 p.m., Eugene Slave Wrote:
OECD Calls for a Higher VAT...Again. The Organization for Economic Cooperation and Development (OECD) recommended that Britain consider increasing the value added tax (VAT) in order to compensate for a corporate tax reduction, even though government spending has increased to record levels in the UK. The lower corporate rate is a good idea. Because of tax competition and relatively unfettered cross-border mobility for capital and labor, Britain faces pressure to cut its corporate tax rate and reduce taxes on private equity funds. While the OECD's tacit recognition that high corporate tax rates hamper economic growth is encouraging, its insistence that a tax reduction must be offset by a tax increase is misguided, particularly since the burden of government spending will reach 50 percent of economic output if current trends continue:

      Consumers could face an increase in value added tax if globalisation undermines Britain's ability to tax companies, the Organisation for Economic Co-operation and Development said yesterday. The UK faces continuing pressure to cut corporate tax rates, the Paris-based organisation said. "The United Kingdom was early in this game, but has lost in tax competitiveness as others have moved ahead." Raising more money from VAT was a possible response to intensifying pressure on corporate taxes, it said. The yield from VAT is lower than the OECD average, and less than half that of New Zealand. It said the UK's corporate tax rate was "no longer particularly low, neither in the OECD, nor in the European Union, where it is now the eighth-highest". It added, however, that the UK had the lowest rate of the G7 economies. Tax competition also affected personal tax policies, it said. "While the low taxation of partners in private equity funds has recently hit the headlines and is seen as inequitable, there may still be a case for taxing highly mobile professionals at a lower rate so as to prevent them from moving on to greener tax pastures.". It said there might be merit in an idea currently being considered by the Treasury to exempt foreign dividends from tax, "given the detrimental effect of worldwide taxation on the location of headquarters".
      http://www.ft.com/cms/s/0/07ff3baa-6d5e-11dc-ab19-0000779fd2ac.html
 
 
 

11. Bravo, Costa Rica
WSJ October 9, 2007; Page A16

Free traders celebrated a victory Sunday when Costa Rica approved the Central American Free Trade Agreement in a national referendum, with 51.6% of the vote. The decision to expand commercial relations both regionally and with the large U.S. market is a triumph of Costa Rican hope and confidence over the fear peddled by opponents.

Cafta succeeded despite the extraordinary last-minute intervention against the deal by House Speaker Nancy Pelosi, Senate Majority Leader Harry Reid and other Congressional Democrats. Vermont Senator Bernie Sanders and Representative Mike Michaud of Maine even traveled to San José to help anti-Cafta leader Ottón Solís in his bid to defeat the trade pact.

Their efforts seem to have backfired. When Costa Ricans looked into the voting records of Mr. Solís's friends, they found their interests didn't coincide. Democrats claimed Costa Rica could reject Cafta and retain preferential access to the U.S. market. But it turns out Mr. Sanders voted against trade preferences for Costa Rica in the House in 2000, as did Ohio's then-Congressman and now Senator Sherrod Brown, who with North Dakota's Byron Dorgan was also urging Costa Ricans last week to reject Cafta. Mr. Michaud is new to the House, while Ms. Pelosi and Messrs. Reid and Dorgan all voted against Cafta.

Voters seem to have trusted their own president, Oscar Arias, who warned that a "no" vote would transform the country from the Switzerland of Central America to "the Central American Albania, isolated by our own accord." Costa Rica's Congress must now pass implementing legislation by February 29, a process that will test the democratic bonafides of Mr. Solís. He said he would respect the outcome of the vote last week when his side was leading in the polls. Perhaps Ms. Pelosi will advise him that democracies honor election results.
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October 8, 2007
12. Why is Africa Still Under-developed? Arnold Kling  http://econlog.econlib.org/

Megan McArdle asks this question more colloquially.
 

    there's a whole, very large literature on why Africa is particularly screwed up. The awful climate under which most of it labors. The bad maritime geography: apparently one of the two coasts offers extremely little scope for building ports, the rivers don't go where you want them, and when they do happen to meander near something interesting, they are hard to navigate. The huge patchwork of ethnicities. The bad borders--in Asia, borders were drawn somewhat along ethnic power lines, whereas in Africa, they were drawn mostly to suit the convenience of whatever western country wanted to do business there after the colonian powers left, and there is an emerging literature indicating that border that cut across ethnic lines are a recipe for conflict, and thus poverty. The unique medical problems of Africa...
 

Roughly speaking, I would classify the factors that have been introduced into the discussion into the following categories:

1. Physical factors, including transportation difficulties and climate.

2. "Top-down" institutional factors, such as poorly-drawn colonial borders, or corruption reinforced by the "resource curse" and the "aid curse" (unearned wealth tending to foster corruption more readily than earned income).

3. "Bottom-up" sociological factors, such as bitter ethnic rivalry or low IQ.

At last Friday's Cato luncheon featuring Gregory Clark, Clark emphasized that settled agriculture is a much more arduous lifestyle than hunter-gathering (he said if he had to be tossed back in time prior to 1800 he would rather be placed in a hunter-gatherer society than in an agricultural one). To get the same amount of food, the civilized farmer has to work a much longer day.

When a modern factory becomes available, it's not such a great stretch for a farmer to adapt. But for a hunter-gatherer, the long work day and monotonous nature of labor are really alien. Thus, it was much easier for Japan or China to eventually industrialize than it has been for Australian aboriginals or for Africans.

UPDATE: lots of good comments. Some folks, who seem to know more than I do, say that Africa had mostly settled agriculture. Also, some links to interesting sites, such as a chart ranking the institutional quality of sub-Saharan African nations (Botswana is #3, Zimbabwe--as of 2005--is 31, ahead of 17 others)
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Why is Africa so screwed up?

08 Oct 2007 09:41 am

I have been asked this question before by commenters pushing hard-line racial theories of IQ. From which it's clear that they really do believe in an innate theory of intelligence, because there is, after all, an extensive literature on the subject with which none of them seems to be familiar.

Yes, Asia had a colonial regime, and Africa had a colonial regime, but that doesn't make them the same continent. Asian colonization was nowhere near as extensive as African colonization, and my understanding is that it tended to rely much more on co-opting existing power structures than building entirely new ones. That's because Asia had existing power structures to co-opt--local imperial barons that controlled large amounts of land. Moreover, much of Asia was not, in fact, colonized: the biggest Asian success stories right now (China, Japan, Korea) had repeated incursions by Western interlopers, but were never colonized in the formal sense that Africa was. It's worth noting that the bits of Asia that were colonized tend to be in worse shapes than the bits that werent.

At any rate, there's a whole, very large literature on why Africa is particularly screwed up. The awful climate under which most of it labors. The bad maritime geography: apparently one of the two coasts offers extremely little scope for building ports, the rivers don't go where you want them, and when they do happen to meander near something interesting, they are hard to navigate. The huge patchwork of ethnicities. The bad borders--in Asia, borders were drawn somewhat along ethnic power lines, whereas in Africa, they were drawn mostly to suit the convenience of whatever western country wanted to do business there after the colonian powers left, and there is an emerging literature indicating that border that cut across ethnic lines are a recipe for conflict, and thus poverty. The unique medical problems of Africa--what with us having emerged there, the local bugs have had longer to develop a taste for us than elsewhere, and there are lots of reservoirs of new disease in our near genetic cousins. And that's just scratching the surface. Africa has a lot of unique factors that we've identified causing huge problems in other places, all squished together into a toxic cocktail.

It's not that it's impossible that IQ varies by race--but we've got a lot of other variables that can account for our problem, so why look to race first, last, and only?

Update Yup, those were typos; one Asia changed to Africa, and one India to Korea. Next time, coffee before blogging, not the other way around . . .

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13. Globalization and Inequality-Becker http://www.becker-posner-blog.com/

A report to be issued this coming week by the IMF (the technical analysis was released early) shows that greater globalization during the past two decades contributed significantly to rising inequality during this period in most developing as well as developed countries. The media greeted this conclusion about the connection between inequality and globalization with claims that the new report is "handing critics of globalization a powerful weapon" and "The report is an unusual admission by the IMF of the downsides of globalization" (Wall Street Journal, October 10, p.9). Yet a careful evaluation of the report's findings on income and inequality provides in most respects an optimistic assessment of the effects of globalization on developing nations.

The report analyzes what happened to incomes and inequality in over 50 countries. It finds that essentially all these countries had large increases in per capita incomes since the early 1980's. While the growth was positive at different income levels, including those at the very bottom, income growth was not uniform among different skills, or at different parts of the income distribution. Incomes grew faster for the more skilled and in higher income quintiles, which implies that various measures of inequality typically increased in developing nations.

To explain these results, the IMF authors divide the effects of greater globalization into expanded world trade, greater foreign investment, and increased transfers of modern technologies. They find that all three dimensions of globalization tended to increase per capita incomes of both developing as well as developed countries. International trade theory implies that trade by a poorer country would increase the relative earnings of its lower skilled workers because richer countries want products from poorer countries that use relatively large quantities of unskilled workers, such as textiles. The report's evidence quite strongly supports this building block of trade theory: greater trade alone would have lowered earnings inequality within developing countries.

However, the most powerful effect on inequality from globalization is due to transfers of modern technologies. The evidence from developed economies has been that modern technologies, like the computer and Internet, favor more educated and other skilled workers; in economic parlance, that these technologies are skill biased. This effect of technological progress has been used to explain the sharply rising gap in earnings between college graduates and others during the past three decades in the United States (see my discussion of inequality in the blog entries for April 23 and December 10, 2006). Not surprisingly, the IMF's study finds that a similar skill bias applies to international technology transfers, that they raised the earnings gap between more skilled and less skilled workers in developing countries. In other words, foreign direct investment has a skill bias too, so that its sharp growth over the past 25 years raised inequality in developing countries. Better capital markets had a similar effect on inequality. However, the evidence in this report indicates that the effects on inequality due to foreign investment and capital market liberalization, while not minor, were much smaller than the effects of technology transfers.

Is this greater gap between the earnings of more and less skilled workers a good or bad result of globalization? Let us accept that greater inequality is not good, other things the same, but other things are different in the IMF results on inequality. The increased earnings gap between persons with more and less education in developing countries reflects that the earnings of more educated individuals rose faster than the earnings of the less educated. The IMF report clearly shows that generally the poorer and less educated in developing nations also became better off in that they have more to spend on food, shelter, health, automobiles, and the other goods that they desire. This improvement in wellbeing at the lower end of the income distribution surely should count as a benefit of globalization.

The larger earnings gap by education essentially means that the returns on investments in schooling increased. Few critics of globalization would claim that its effects were bad if globalization significantly raised the returns to financial or physical capital owned by local investors in developing countries. So how can one complain that globalization is bad because it raises the returns on the education of local human capital investors? Higher returns to human capital investments as well as greater returns to plant and equipment mean that the economy is more productive, which should be a welcome development to poorer as well as richer countries.

Yet intellectuals and politicians in many countries of Latin America, Africa, and even parts of Asia have heavily criticized globalization and its effects. I believe that developing countries in which the criticisms are strongest are generally countries that have done a bad job of educating its population. Higher returns on investments in education and other human capital are small comfort to the children of poor families who often do not have easy access to secondary schools, let alone to universities and other forms of advanced investments in human capital. The lesson of the IMF report and other studies is that globalization is not the source of these serious problems. Rather, the lesson is that many developing countries have to do much more to open up access to better and greater education for children coming from lower income families. Only then would these families be able to take advantage of the higher returns to education produced by greater trade and the inflow into their economies of modern technologies and foreign capital.

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Globalization and Inequality--Posner's Comment

Becker has accurately summarized the International Monetary Fund’s recent report on the effect of globalization (meaning increased integration of the world’s economy) on inequality. (It is chapter 4 of the IMF's "World Economic Outlook" published this month and available online at http://www.imf.org/external/pubs/ft/weo/2007/02/pdf/c4.pdf.) In essence, the report, while acknowledging serious data limitations, finds that average incomes have increased significantly in most nations in recent decades, but that income inequality has also increased in most nations, mainly because of disproportionate increases in the incomes of the top fifth of the populations. The incomes of the other quintiles have increased too, but not as fast, so that overall the gap between rich and poor has increased although the poor are better off--just not as better off. Both the increase in average incomes, and especially the increase in inequality, are driven mainly, the report finds, by increased utilization of advanced technology, which increases the returns to high-skilled workers relative to the returns to low-skilled or unskilled ones. The report suggests that greater investment in education would tend to reduce inequality by increasing the proportion of high-skilled workers.

I want to question three assumptions of the IMF report. The first is that increased income inequality is a bad thing, the second is that an increase in world average incomes is a good thing, and the third is that greater investments in education are bound to reduce inequality.

I do not think that increased income inequality is bad (regrettable, unfortunate, deplorable, etc.), in general (an important qualification, relaxed below), when it does not involve any reduction in the incomes of a substantial fraction of the population. Suppose that over some period the average income of people in the bottom four quintiles of a nation's income distribution increases by 2 percent and the average income of people in the top quintile increases by 10 percent. The result is increased income inequality, but so what? Everyone is better off, and why should the fact that the rich are better off by a larger percentage concern anyone? What is true is that if the baseline is extreme inequality and many people are below the poverty level, a further increase in inequality can be politically destabilizing. Suppose 99 percent of a nation's people live in poverty and the other 1 percent are rich and over some period the average income of the 99 percent rises barely at all, lifting few above the poverty level, while the average income of the 1 percent who are already rich doubles. Such a pattern would exacerbate what would doubtless already be a high degree of social unrest. I argued in my blog post of December 10, 2006, that the continuing enrichment of the already superrich stratum of the American population is a potential source of political problems too. But concern with the impact of particular forms and degrees of inequality in particular countries at particular junctures in their history does not justify concern with a rise in inequality in the world as a whole, an approach that while natural for the IMF to take treats the entire world as if it were a single nation, thus abstracting from particular circumstances of particular nations, though it is the particulars that determine whether inequality is a serious problem.

It might be argued that, given diminishing marginal utility of income, average and total human happiness would be increased if the incomes of the poor grew more rapidly than those of the rich, because presumably an extra dollar confers less utility on a rich person than on a poor one. But this observation would be pertinent only if rising inequality were a product of unsound policies, whereas the IMF report attributes it to economic factors, such as technological progress and absence of barriers to foreign investment, that are vital to continued growth in average incomes. The poor, unless consumed by envy, are not made better off by policies that leave them as poor (or make them even poorer) but reduce the incomes of the rich.

Concern with inequality, it should be noted, is distinct from concern with poverty. It would be possible to alleviate poverty without reducing the share of income going to the wealthiest quintile of the population. Focusing on quintiles tends to break the link between equality and welfare. Suppose some adjustment in the tax code resulted in reducing the average income of persons earning $100,000 a year by 2 percent and increasing the average income of persons earning $50,000 a year by 1 percent (the difference reflecting the much larger number of persons in the lower income bracket and the deadweight cost of the tax increase on the higher-income taxpayers); would that increase average happiness? I doubt it.

My second proposition is that, while again it is natural for an international organization like the IMF to consider increased global wealth a very good thing, there is no reason for any given individual to think that. None of us is a citizen of the world. We are citizens of particular countries, and our personal welfare is bound up with the welfare of our country rather than with that of the world as a whole. Do Americans benefit from the rapidly increasing wealth of China? Some do, of course, both as consumers and as suppliers. But there many losers (besides the obvious ones--those who make products that compete with imports to the United States from China), since China's rapid growth has increased the price of commodities such as oil, severely aggravated the problem of global warming, and contributed to the rapid growth of Chinese military power, which is a potential danger to the United States. Russia's increasing wealth has made Russia more bellicose and less friendly to the United States; and, in general, nations such as Russia that are rich in natural resources, especially oil, are not dependable allies of the United States--and they are all growing richer. And the technological progress that is such a big factor in increased world wealth makes international terrorism more dangerous than it would otherwise be. Where would terrorists be without cellphones, the internet and web, and cheap international air fares?

Third, it is not certain that increased investments in education would result in less inequality. There is the cost of such investments to consider, and who within a society would bear that cost. (Taxpayer-subsidized tuition for students at Berkeley does not increase income equality in the United States.) One must also consider who would benefit the most from education. Suppose everyone in a nation had the identical opportunity to obtain as much education as he or she could benefit from. The abler students would receive a better education than the less able, and the preexisting inequality of human capital might persist or even increase. For notice that in the United States income inequality has been growing even though educational opportunities are abundant, with more than a third of the population obtaining some college education; most of the rest could obtain it as well if they thought they would benefit from it. Presumably, then, the countries that ought to be considering greater investment in education for the sake of reducing income inequality are those in which that inequality is greater than it is in the United States. In countries in which it is less, a greater investment in education would increase average incomes but might leave inequality unchanged--or even increase it to the U.S. level.
 
 
 

14. The Cotton Club WSJ October 15, 2007; Page A22

It is believed, with some cause, that partisanship is the reason "nothing gets done" in Washington. So what if there was an issue, involving the poorest of the poor, on which there was bipartisan agreement, and still nothing got done? Our most battle-scarred readers will guess immediately what is at issue -- farm subsidies!

At the moment, the sun and moon have aligned to form a left-right coalition to raise the lot of some of Africa's farmers. Arguably the greatest misfortune to befall these farmers is their crop: cotton. In the U.S., the lords of King Cotton still have the Washington political system locked up to ensure a steady flow of subsidies, no matter how outrageous. This year, a coalition to unlock the subsidy programs includes Oxfam America on the left, the Environmental Working Group more or less in the center and the Cato Institute on the right.

In a June 2007 study on the effects of U.S. subsidies on West African cotton producers, University of California Davis economists Daniel Sumner and Julian Alston, and Henrich Brunke, formerly a research specialist at UC Davis, estimated that some 10 million Africans could see their incomes from cotton increase 8% to 20% if the U.S. reformed its subsidies and world supplies of cotton returned to market levels. "For farmers living on less than $1 a day, this means more money for food, medicines, school fees and fertilizer," write the authors. The paper's research was supported by Oxfam America, the left-wing NGO.

One reason the cotton program persists is that it has been made so arcane that it is fully understood only by the farmers who benefit and some gnomes at the Agriculture Department.

The program provides three guarantees to growers. There is a direct payment tied to base acreage and historical yields whether cotton is grown or not. There is also a so-called counter-cyclical payment designed to ensure an artificially high "target price" set by the government when market prices are low. Finally, and most egregious, there's a guaranteed government loan rate for the farmers that can be repaid at lower world market prices.

In 2005 cotton subsidies totaled $3.3 billion, up from $30 million in 1995, according to the Environmental Working Group, which tracks U.S. subsidies. This industrial policy primarily benefits large corporate farms and their wealthy owners. Of the $19.1 billion that EWG says was paid out over that decade, the top 10% of cotton-subsidy recipients got more than 80%, or almost $15.5 billion. The bottom 80% of recipients had to make do with $1.4 billion. This is a brazen wealth transfer to fat cats from the tax-paying middle class.

Because the subsidies eliminate risk and reward production, they also create a glut on world markets. The main culprit is the loan rate. Growers borrow from the government at 52 cents per pound of cotton and pay back their loans at the lower world price. So they produce without regard to market conditions. As production increases, prices are further depressed, but no sweat for the grower. He's capturing the spread on his loan plus his counter-cyclical payments. No wonder the U.S. exports 70% to 80% of the cotton it grows, and world prices always run well below the government's high "target" price of 72 cents.

But wait, there's more: Another price of the cotton program is damage to U.S. credibility in world trade talks. Three years ago a WTO panel ruled against the U.S.'s "Step II" cotton subsidy. This subsidy guaranteed cotton exporters the artificial domestic price of their crop and guaranteed that U.S. mills could buy cotton at the lower international price of cotton. This created a protected U.S. market and worsened the problem of too much U.S. cotton being dumped on world markets. The WTO also said the "price suppression" caused by subsidies introduced "serious prejudice" against Brazil.

The U.S. has dropped the Step II program, but it has refused further change despite losing appeals on the other subsidies. A WTO compliance ruling is soon expected to give Brazil the right to retaliate to the tune of $4 billion. Brasilia could go after intellectual property, a genuine U.S. strength, rather than the traditional route of imposing tariffs on U.S. goods.

With commodity prices at all time highs, environmental consciousness all the rage, the U.S. looking to open new markets and the 2002 farm bill expiring, the case for reducing subsidies has never been stronger. Much of this mess was the work of Republicans five years ago. With the Senate getting ready to debate its farm bill, Democrats have a chance to do something for the world's poor and America's taxpayers. If they don't, it will be because they don't want to.
 

Event aims to end poverty
15. Organizations to participate in Stand Up Against Poverty Day Michelle Day Issue date: 10/11/07 Section: News College Heights Herald.  Thursday October 11, 2007

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Matt Vaughan wanted to change the world when he came to college.

The freshman from Mexico, Mo. has his first opportunity as a leader of Western's chapter of Americans for an Informed Democracy, which is sponsoring Stand Up Against Poverty Day at 6:30 p.m. Tuesday at the Colonnade.

Stand Up Against Poverty is a 24-hour global event organized by the Global Call to Action Against Poverty and the United Nations Millennium Campaign.

Stand Up is meant to raise awareness about poverty and demand that governments keep their promises to end extreme poverty by 2015, said Ciara O'Sullivan, GCAP media and communication coordinator.

The global event lasts from 4 p.m. Tuesday until 4 p.m Wednesday. Individual programs around the world must take place within that time period, with respect to time zones.

About 23.5 million people worldwide stood up last year, setting a new Guinness World Record.

The GCAP and the United Nations Millennium Campaign want to break the record this year, according to a Stand Up press release.

The program will consist of live music and giveaways.

Kim Smith, Stand Up regional coordinator, will speak at the event and bring an international speaker. The speaker hasn't been announced.

Everyone who attends will stand up at the same time at the end of the program, Vaughan said.

The event should last about 30 minutes, but there will be activities afterward for people who want to stay, Vaughan said.

The event is seeing an increase in youth involvement, and young people are better able to organize, because they're at school during the week, O'Sullivan said.

GCAP wants to see more youth involvement to increase creativity and long-term involvement in the campaign against poverty, she said.

"By getting more youth involvement, it will become a more sustainable campaign," O'Sullivain said. "There will be no dramatic change by the end of the 17th, but we want to build momentum for the future."

Vaughan, who is also a Student Government Association senator, sponsored a resolution officially recognizing and supporting Stand Up Against Poverty Day that passed SGA Senate Tuesday.

"It's necessary for SGA to support this global cause," Vaughan said. "It helps Western to be a leading university with an international reach."

Reach Michelle Day at news@chherald.com.
 
 
 
 
 

Junior raises awareness about African issues
Michelle Day
Issue date: 10/11/07 Section: News   College Heights Herald. October 11, 2007
 

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Media Credit: Alex Slitz

Alex Fortson has developed his own philosophy about life.

"I decided the best way to live my life was for the benefit of others," Fortson said.

The junior from Orlando, Fla., developed that philosophy after traveling to Uganda and touring for four months in a 15-passenger van around the mid-Atlantic region of the United States to raise awareness about Invisible Children.

Invisible Children is a media-based organization that documents the stories of children affected by war in areas such as northern Uganda, said Michelle Larson, office manager for Invisible Children.

The organization's goal is to inspire leaders to push for change in war-torn countries and supply financial aid for those countries, Larson said.

Fortson is working with Social Justice and Students Against Monotony to increase awareness at Western about Schools for Schools, Invisible Children's effort to raise $2.5 million to rebuild 10 schools in Uganda.

Fortson is working to bring the Schools for Schools movement to Western as a joint fundraiser with SAM and Social Justice.

"We want to tell as many people as we can to raise awareness," Fortson said.

He is currently trying to get support for the effort.

His current efforts follow several months of helping Ugandan children through mission work and touring with Invisible Children.

He went to an event sponsored by Invisible Children in February 2006 in which people left their homes and slept outside to raise awareness about displacement camps in Uganda.

Fortson met an Invisible Children employee at the event. She invited him to apply to work for Invisible Children and promised him a recommendation.

Fortson took the employee's invitation and applied to Invisible Children.

He got the job and moved to California to begin booking a tour to screen Invisible Children's documentary.

His team toured in Kentucky, North Carolina, Virginia and Tennessee. The screenings were mostly in high schools and colleges, including Western.

"People were very accepting of us and our message," Fortson said.

Lisa Dougan, regional manager for Invisible Children, traveled with Fortson during the tour.

Dougan remembers that Fortson constantly read books about the issues in Africa.

"He was always hungry to learn," Dougan said. "I was so impressed and humbled."

Fortson lives very simply, Dougan said.

"He doesn't mess around with small talk." she said. "If he has a conversation, it's going to be genuine."

Fortson first saw the Invisible Children documentary while living in Orlando.

"It opened my eyes," Fortson said.

The film inspired him to go on a trip to Uganda in the summer of 2006 with Children of Nations, a Christian non-profit organization that was counseling formerly abducted child soldiers.

"The war was still going on at the time, and I really respected that this organization would walk right in anyway," Fortson said.

Fortson sat in on the counseling sessions and spent time talking to and playing games with the children.

"I learned that the things on television are real," he said.

Fortson said his trip to Uganda re-enforced his understanding of the problems in Africa and gave him the experience he needed to get the job with Invisible Children.

Fortson said the movie "Hotel Rwanda" first got him interested in African issues because he connected with the people in the movie.

"It's easy to watch the news and view things like its an us and them world," Fortson said. "The movie made it a more us world, and there wasn't a them."

Fortson said the United States should make helping people in Africa a priority.

"In Africa, nine out of 10 situations are life or death," he said.

Reach Michelle Day at news@chherald.com
 

16. THE 2008 STATE BUSINESS TAX CLIMATE INDEX
------------------------------------------------------------------------

The newly released 2008 State Business Tax Climate Index ranks how
"business friendly" the 50 state tax systems are, providing a
roadmap for state lawmakers concerned with keeping their states
tax-competitive, says the Tax Foundation.

According to the Foundation:
   o   The five most business friendly states are Wyoming, South
       Dakota, Nevada, Alaska and Florida.
   o   Next on the list are Montana, New Hampshire, Texas, Delaware
       and Oregon.
   o   At the opposite end of the spectrum are Rhode Island, New
       Jersey, New York, California and Ohio, the least business
       friendly states.
   o   Following those are Iowa, Vermont, Nebraska, Minnesota and
       Maine.
"There's no question that states are competing with one another
for companies, jobs and people," said study co-author Curtis
Dubay.  "Taxes matter to businesses and the states with
better business tax climates will reap the rewards."
 

Dubay added, "States need to constantly be on the lookout for ways
to improve their business tax climates.  If they're standing
still, they're losing ground to states actively improving their
climates."

Source: "Which States Are Best for Business? The 2008 State
Business Tax Climate Index," Tax Foundation, October 10, 2007.

For text:
http://www.taxfoundation.org/news/show/22660.html
For report:
http://www.taxfoundation.org/files/bp57.pdf
For more on Taxes:

http://www.ncpa.org/sub/dpd/?Article_Category=20

17. Ailing Celtic tiger? Oct 12th 2007 From the Economist Intelligence Unit ViewsWire
Ireland's economy may suffer from a property slump

Ireland's property market is already showing signs of a correction. Estate agents report prices down in some areas by around 10% this year, and shares in companies with property market exposure have also experienced falls. But is a contraction a welcome correction in a bloated market? Or could the property market spiral downwards, harming the broader economy via a weakened construction sector, lower household spending and rising unemployment? These are serious risks, though the data so far points to a soft landing.

In the decade up to 2006 residential property prices in Ireland rose more rapidly than in any other developed-world economy. Strong demand partly explains this: incomes, employment and population all grew robustly. The increase in the supply of new housing was just as phenomenal—the number of annual housing completions in 2006 was almost five times that in the early 1990s, which compares with static output in the euro area and the UK. Considering both these dynamics, prices in recent years have almost certainly overshot, as suggested by a range of indicators. For example, the house price/average income ratio is the second-highest in the OECD. Also, as household indebtedness has grown more rapidly than in any other OECD country over the past decade, to approach 100% of national income, and as most mortgage debt remains subject to variable interest rates, sensitivity to changes in rates is greater than in any other OECD country. And rental yields are at historical lows. Despite this, large numbers of investors continued to enter the market in 2006 in anticipation of further price increases.

With a cooling of the market already underway, Ireland may be about to experience a period of sharply falling property prices. With the cost of mortgage servicing rising, many borrowers are beginning to be squeezed. The many investors who have bought to let are particularly vulnerable. Those who have borrowed to finance property purchases are experiencing a widening in the gap between rents and mortgage repayments. For many investors, the logic of holding property is now based entirely on the assumption of future capital gain. If this assumption changes, there is likely to be a rush to offload properties. This is the most likely trigger for a correction in the Irish property market and an almost certain, sharper than forecast slowdown in the wider economy.
A robust economy—for now

Ireland’s economy has continued to expand strongly, with recently released national accounts data pointing to year-on-year GDP growth of 5.4% in the second quarter of 2007. However, this represents a slowdown on the first quarter (7.8%) and the rate of expansion appears to be decelerating further following a marked drop in the level of activity in the previously booming residential construction sector. While the fixed capital formation component of the national accounts recorded solid aggregate growth of 6.5% in the second quarter, this masks sharp divergences between the performances of different categories of investment. Specifically, a year-on-year slump of 7.8% in residential building was more than offset by sharp rises of 14.6% in “other building” and of 12.4% in machinery and equipment investment (excluding aircraft purchases). Fixed capital formation can be expected to exert a drag on GDP as the slowdown in residential building becomes more pronounced. After house building activity peaked at 93,000 units in 2006; large falls in completions in the first two quarters of 2007 were recorded and further declines are expected.

Disaggregated labour market data corroborate national accounts data in that they show emerging weakness in construction sector. While construction continues to record year-on-year growth, with the numbers employed up by 6.7%, on a quarter-on-quarter basis there was a decline of 0.6% in the April-June period, the first such drop in the sector in more than four years.

Buoyant rates of personal consumption growth have so far helped to offset the effects of the housing slowdown. In the second quarter of 2007 consumption increased year on year by 6.1%, broadly in line with the rate of expansion of the past 18 months. Retail sales data also point to strong consumption activity in the first half of the year, with volume sales accelerating from an average of 6.2% in 2006 to 7.1% in the first quarter and 7.8% in the second. Nor is a housing downturn likely to harm spending excessively. Unlike in the UK, homeowners have not cashed in on the rising value of their properties to fund spending, so the affect of a downturn would be muted. But this is not to underestimate the risks. Negative wealth affects resulting from lower prices will deter spending certainly among the most recent buyers who find themselves in "negative equity".

Moreover, a shakeout in the construction sector—a major employer—could drive up unemployment, with secondary affects on consumer spending. Unemployment could also worsen as a result of a major economic slowdown in the US, which takes over 18% of Ireland's exports—the highest proportion in the EU. A retrenchment by US multinationals would also have a disproportionate impact on Irish employment.

Finally, falling house prices or just a lower volume of sales in the event of market freeze, will substantially reduce stamp duty revenues to the treasury, something that has become an increasingly profitable source as prices have risen and tax bands have remained unchanged. A soft landing still looks to be the most likely outcome, but a confluence of economic problems could create major downside risks.

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18. A Market Nobel By PETER BOETTKE
WSJ October 16, 2007; Page A21

Yesterday Leonid Hurwicz, Eric Maskin and Roger Myerson won the Nobel Prize in Economic Science for their pioneering work in the field of "mechanism design." Strangely, some have used this occasion to disparage free-market economics. But the truth is the deserving recipients owe a direct debt to free-market thinkers who came before them.

Mechanism design is an area of economic research that focuses on how institutional structures can be manipulated by changing the rules of the game in order to produce socially optimal results. The best intentions for the public good will go astray if the institutional arrangements are not consistent with the self-interest of decision makers.

Mr. Myerson's work on how to design auctions to elicit information about the value of the good being auctioned -- and how to maximize the revenue extracted from the auction -- has informed numerous privatizations of publicly owned assets over the past quarter-century. Mr. Maskin also contributed to auction theory, and applied the idea of mechanism design to assess political institutions such as voting systems.

Mechanism design theory was established to try to address the main challenge posed by Ludwig von Mises and F.A. Hayek. It all starts with Mr. Hurwicz's response to Hayek's famous paper, "The Use of Knowledge in Society." In the 1930s and '40s, Hayek was embroiled in the "socialist calculation debate." Mises, Hayek's mentor in Vienna, had raised the challenge in his book "Socialism," and before that in an article, that without having the means of production in private hands, the economic system will not create the incentives or the information to properly decide between the alternative uses of scarce resources. Without the production process of the market economy, socially desirable outcomes will be impossible to achieve.

In the mid-1930s, Hayek published Mises's essay in English in his book, "Collectivist Economic Planning." From there the discussion moved to the U.K. and the U.S. Hayek summarized the fundamental challenge that advocates of socialism needed to come to grips with. Hayek's argument, a refinement of Mises, basically stated that the economic problem society faced was not how to allocate given resources, but rather how to mobilize and utilize the knowledge dispersed throughout the economy.

Hayek argued that mathematical modeling, which relied on a set of given assumptions, had obscured the fundamental problem. These questions were not being probed since they were assumed away in the mathematical models of market socialism presented by Oskar Lange and, later, Abba Lerner. Milton Friedman, when he reviewed Lerner's "Economics of Control," stated that it was as if economic analysis of policy was being conducted in a vacuum. Lange actually argued that questions of bureaucratic incentives did not belong in economics and were best left to other disciplines such as psychology and sociology.

Leonid Hurwicz, in his classic papers "On the Concept and Possibility of Informational Decentralization" (1969), "On Informationally Decentralized Systems" (1972), and "The Design of Mechanisms for Resource Allocation" (1973), embraced Hayek's challenge. He developed mechanism-design theory to test the logic of the Mises-Hayek contention that socialism could not possibly mobilize the dispersed knowledge in society in a way that would permit rational economic calculation for the alternative uses of scarce resources. Mises and Hayek argued that replacing the invisible hand of the market with the guided one of government would not work. Mr. Hurwicz wanted to see if they were right, and under what conditions one could say they were wrong.

Those efforts are at the foundation of the field that was honored by the Nobel Prize committee. To function properly, any economic system must, as Hayek pointed out, structure incentives so that the dispersed and sometimes conflicting knowledge in society is mobilized to realize the gains from exchange and innovation.

Last year Mr. Myerson acknowledged his own debt to Mr. Hurwicz -- and thus Hayek -- in "Fundamental Theory of Institutions: A Lecture in Honor of Leo Hurwicz." The incentive-compatibility issue has highlighted the problems of moral hazard and adverse selection (perverse behavior due to incentives caused by rules that are supposed protect us and selection problems due to imperfect information). Mr. Hurwicz helped repair a mid-20th century neglect of institutions in economic analysis.

While we celebrate the brilliance of Messrs. Hurwicz, Maskin and Myerson, we should also remember that Hayek's challenge provided their inspiration. Hayek concluded that the private-property rights that come with the rule of law, freedom of contract, and freedom of association is still the one mechanism design that mobilizes and utilizes the dispersed information in an economy. Furthermore, it does so in a way that tends to capture the gains from trade and innovation so that wealth is continually created and humanity is made better off.

Mr. Boettke is a professor of economics at George Mason University and the Mercatus Center.
 

October 10, 2007
19. Doug Campbell's Five-Page History of Public Choice  Bryan Caplan

Doug Campbell's written a great short history of public choice for Region Focus, the newsletter of the Richmond Fed. Or at least that's what my Inner Megalomaniac thinks, since 50% of this short history is about my work! One highlight:

    To Caplan, his work adds up to something in between a reorientation and a debunking of public choice theory. “I can still accept 75 percent of [public choice theory], but with a big asterisk,” Caplan says. “It’s not so much about sneaking bad policy underneath the radar as it is tapping into public opinion.”

Campbell also describes some critical remarks from Cato's Bill Niskanen:

    The weakness in Caplan’s premise, Niskanen says, is his reliance on a survey with open-ended questions. It may be that the general public believes that raising the minimum wage is a good idea while economists disagree. But if you extend the question with the information that raising the minimum wage may decrease employment for the least-skilled workers, the public may be less enthusiastic. And if so, then that is evidence against systematic irrationality. It is, quite plainly, rational ignorance.

I have a whole chapter ("Chapter 4: Classical Public Choice and the Failure of Rational Ignorance") on this point, but to give the quick version:

1. Rational ignorance doesn't explain why the ignorant make the same kind of errors.

2. Rational ignorance doesn't explain why people are not agnostic about fields - like economics - that they haven't studied.

3. Rational ignorance doesn't explain why most people resist and even get angry when economists explain the negative side effects of popular policies.

Niskanen's right that people would favor different policies if you changed their minds about the facts. The problem is that changing their minds about the facts is like pulling teeth.
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Monday, October 15, 2007 ~ 11:50 a.m., Dan Mitchell Wrote:
20 . Center Study on Tax Rates Discussed in Washington Times Column. Richard Rahn's commentary piece elaborates on the relationship of tax rates to work effort - and also the impact on tax revenues:

      A new econometric study by A.J. de Bruin of Erasmus University in the Netherlands, looking at the effect of changes in tax rates on labor over the last two decades in Belgium, France, Italy, the Netherlands, the United Kingdom and the United States, has just been published. It is an extension of some recent work by Nobel laureate Edward Prescott of Columbia University, which not only verifies the damaging effect of income taxes on labor, but also estimates the magnitude of the effect for several countries and the time it takes for changes in tax rates to affect labor markets. ...The conclusion...is that a decrease in marginal tax rates on productive activity in high-tax societies causes a rise in economic activity (more growth). This increase in economic activity generates additional government revenues that, in part, compensate for the revenue loss due to the lower tax rate. The reverse is of course also true: An increase in tax rates will lower economic activity and provide the government with less additional revenue (and higher unemployment) than would be expected without any behavioral changes.
      http://www.washingtontimes.com/apps/pbcs.dll/article?AID=/20071010/CO MMENTARY/110100011
 
 
 
 

Monday, October 15, 2007 ~ 9:28 a.m., Dan Mitchell Wrote:
Hong Kong's Flat Tax Rate Dropping to 15 Percent. Unlike American politicians, Hong Kong lawmakers understand that lower tax rates are a key to staying ahead in a competitive global economy. The Chinese Territory's chief executive has just announced that the flat tax will drop by one percentage point, from 16 percent to 15 percent. As BBC news reports, the corporate rate also will drop, with further reductions likely:

      Hong Kong has said it will cut taxes, in a move to promote further growth and lure foreign investment. Leader Donald Tsang said taxes would be cut by 1 percentage point, to 16.5% for firms and 15% for individuals, in the first policy speech of his new term. ...In announcing the tax cuts, Mr Tsang said: "We will consider further profits tax relief if our economy remains robust and our public finances stay sound."
      http://news.bbc.co.uk/2/hi/business/7037445.stm

Link to this Blog Entry

Hope and Reform   Font Size:
By Alvaro Vargas Llosa : BIO| 16 Oct 2007
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The recent extradition of former Peruvian President Alberto Fujimori to face charges of human rights violations and corruption is a welcome development. It is also a monumental challenge to the institutions of a country that has not been able to establish the rule of law as successfully as it has been able to generate economic growth in recent years.

Among other charges, Fujimori, who was extradited to Lima by Chilean authorities, will be tried in relation to two civilian massacres at the hands of a military death squad active during his regime. His political organization -- mostly a collection of relatives and cronies -- is using its 13 members of Congress to pressure the government and the magistrates to set him free.

Some Peruvians rationalize the human rights violations and the corruption of the Fujimori years with the argument that the country was at war with the Maoist terrorist organization known as Shining Path and that his government spurred the economic recovery of the last decade.

The greatest challenge in the upcoming trials will not be political pressure on judges or the publicity of a highly charged case at a time when global financial institutions are on the verge of granting Peru an investment grade, the highest economic rating. The greatest challenge will be testing the Peruvian people's capacity to decouple in their minds their personal views of Fujimori's government from the moral and legal implications of the crimes for which he will be tried.

The capacity or incapacity to make that distinction will tell us whether Peru has gone from being a society that puts institutions and moral principles at the mercy of political necessity -- the mark of underdevelopment -- to a society that embraces the principle that the law is an impersonal set of rules over and above personal preference, political convenience or sheer passion.

Because many Peruvians were not ready to make that distinction in the 1990s, Fujimori's government was able to concentrate colossal amounts of power with popular support -- hence the crimes and the corruption for which dozens of his former collaborators have gone to jail. There was a time, shortly after Fujimori fled to Japan and resigned his post by fax in 2000, when many Peruvians, shocked by spectacular revelations of high-level corruption, seemed ready to understand that accountability, limits on government, and the separation of powers are extremely important. However, with the passing of time a substantial number of people have started to forget the tragic events of the recent past. Even if they distance themselves from Fujimori personally, they seem to advocate, for instance with regard to law and order issues or the uncomfortable presence of NGO activists in parts of the country, some of the dictatorial tactics that made human rights violations and corruption systematic in the 1990s.

The mental transition from the idea that strongmen are the solution to a nation's problems to the idea that impersonal institutions should be more powerful than those who rule is crucial. Much of the progress that has taken place in the world in recent centuries stems precisely from that transition. The countries that have not shaken off the tradition of strongman rule need to learn not to subject basic human rights to the whims of politicians acting on a wave of popular fear.

Peru is undergoing Asian-style growth rates and its entrepreneurial class is rapidly adopting new technologies and becoming competitive. But the other part of the development equation -- decoupling the institutions from the political process in order to protect individual rights permanently -- is not yet fully in place. That is an age-old cultural trait that will need to be overcome through leadership and reform.

One way to start is to show the population that Fujimori's trials are not part of any political revenge and that he will be treated more fairly than he treated his enemies. But Peru's still precarious judiciary will also need to show that it is ready to do its job impartially, no matter how much political pressure Fujimori's supporters bring to bear.
 

In Europe, Two Moods on Change
Germany Wavers
On Cuts to Benefits;
France Gets Serious
By MARCUS WALKER in Berlin and DAVID GAUTHIER-VILLARS in Paris
WSJ October 17, 2007; Page A7

An unexpected shift is happening in the heart of Europe: France's government is getting serious about economic overhaul while Germany's politicians are getting cold feet about the painful changes they have undertaken in recent years.
•  The Shift: France's government is getting serious about economic overhaul while Germany's politicians are getting cold feet about the painful changes they have undertaken in recent years.
•  Back Story: Germany is competitive again and gaining global market share amid solid economic growth and falling unemployment, but public opinion has turned against market-oriented changes. Meanwhile, France has gone from being one of Europe's strongest economies to one of its problem cases.
•  Tomorrow's Test: France's railway and power unions prepare a nationwide strike to protest cuts in pension entitlements.

In Paris, President Nicolas Sarkozy's drive to reinvigorate the French economy faces its first serious test tomorrow, as France's railway and power unions prepare a nationwide strike to protest cuts in their pension entitlements.

"We will bring France to a halt," said Didier Le Reste, head of the railway branch at the Confédération Générale du Travail labor union.

Despite this show of force, the strike isn't expected to derail the government's plans, as have past union-led protests. Polls show that a majority of French people oppose the strike and support Mr. Sarkozy's economic plans as a way to boost the country's poor growth.

"There is a change in the mindset of the French: People have come to the conclusion that something has to be done," says Eric Chaney, chief European economist at Morgan Stanley in Paris.
[Nicolas Sarkozy]

In Germany, however, public opinion has turned so strongly against market-oriented changes that Chancellor Angela Merkel's governing coalition is debating whether to reverse past measures. Social Democrats, who under the previous Chancellor Gerhard Schröder alienated their traditional working-class supporters by passing deep welfare cuts, now want to raise benefits again for older, unemployed people.

The Social Democrats, junior partners in Ms. Merkel's coalition, are split between cabinet ministers who want to defend Mr. Schröder's legacy, and members led by party Chairman Kurt Beck, who want to reach out to lost voters who view benefit cuts as unfairly penalizing weaker members of society.

Ms. Merkel's conservatives, who already have retreated from free-market policies that were a liability in the last election, already back more-generous benefits for older, jobless people.

"Politicians have taken note of a change in the public mood: The voters have had enough of reforms. Now they want social justice, whatever that means in practice," says Eckart Tuchtfeld, an economist at Commerzbank in Frankfurt. "It means there will be no more reforms until the next elections [in 2009], and perhaps beyond," he says.

These parallel trends mark a turnaround from the past five years, during which Germany has painfully unwound parts of its welfare state and its tight regulation of the economy, while German companies have pressured unions into accepting pay restraint and more flexible working practices.

French governments, meanwhile, have repeatedly backed away from changes in the face of union opposition and street demonstrations. French companies haven't raised their efficiency as aggressively as their German rivals, and many smaller companies in particular are struggling against rising global competition.
[Reform]

The results are plain: Germany has made its economy competitive again and is gaining global market share amid solid economic growth and falling unemployment. France has gone from being one of Europe's strongest economies to one of its problem cases.

Germany's economic growth last year, at 2.7%, outpaced France's 2% expansion -- the first time since 1995 that the German economy has grown faster than the French, according to the International Monetary Fund. German unemployment has dropped from about 12% in early 2005 to just less than 9% now, whereas French unemployment has been stuck at nearly 10% in that time, according to government figures.

A sense that France is being left behind in global economic competition helped Mr. Sarkozy win election in May on a platform that included an unusually large number of proposals to make the economy more flexible and dynamic, ranging from allowing easier layoffs by companies to fostering more competition among universities to improve academic standards.

"It is quite an astute tactic," said French economist Michel Godet, a professor at the Conservatoire National des Arts et Métiers. "He has opened so many fronts that labor unions are lost and don't know which one to fight first."

The German backlash against cuts to benefit entitlements was perhaps to be expected after several years of welfare overhaul. It also shows what Mr. Sarkozy could face further down the road if he presses ahead too quickly.

Write to Marcus Walker at marcus.walker@wsj.com and David Gauthier-Villars at David.Gauthier-Villars@wsj.com

SHORING UP THE WALL
Communists Move to Adapt
Their Rule to a Richer China
Ways to Air Complaints
Ease Pressure on Rulers;
Democracy: Not in Sight
By ANDREW BATSON and JASON DEAN
WSJ October 17, 2007; Page A1

BEIJING -- China is the only one of the world's 10 largest economies that isn't a multiparty democracy. As the Chinese Communist Party gathers this week for a key meeting, the leadership is fine-tuning its rule to make sure things stay that way.

Over the past 30 years, the party's historic wager -- that delivering stability and economic growth would ensure acceptance of its authoritarian rule -- has largely paid off. But China is now a more complex nation, of homeowners and entrepreneurs protective of their new prosperity and in closer touch with the rest of the world. And a widening wealth gap, crumbling social services and environmental degradation have fueled public frustration, especially among the rural majority.

The secretive group of about two dozen people that runs China, the Communist Party's Politburo, is responding by taking steps to make its rule more accountable to the public. It has also adopted a more-populist approach to government policy, expanding education and health-care programs while still pushing for fast economic growth. At the same time, the Politburo is toughening controls on outright political dissent.
[Hu Jintao]

That strategy of gradual adaptation is on display this week at the party's 17th National Congress, which began Monday. The congress will ratify a platform of policies for the coming five years that emphasizes more-balanced economic growth and cautious institutional reform.

The party will also endorse a reshuffling of the Politburo (short for "Political Bureau") and of its smaller but supremely powerful Standing Committee, which currently has eight members. In 2012, one of the committee's new members will probably succeed the current party chief, President Hu Jintao.

The changes in how the party governs aren't meant to prepare the way for multiparty democracy. On the contrary, they are intended to secure the position of Mr. Hu and his successors as the unchallenged rulers of China. "All this will enable the party to remain a ruling, Marxist party," Mr. Hu said in a speech this week as he outlined his policies.

If the Communists fail to adapt quickly enough, party officials say, their hold on power could weaken. That could mean more political freedom for China's 1.3 billion people, or it could lead to greater instability in what will soon be the world's third-biggest economy after the U.S. and Japan.

Reinforcing the Structure

"They are trying to reinforce the structure, to make the authorities at each level of government more responsive," says Jing Huang, a scholar at the Brookings Institution. "But they are afraid of uncontrollable consequences if they start to change. So, their ideal is to change little by little."

If the party succeeds in maintaining its power monopoly, it could defy the post-Cold War conventional wisdom in the West that modern economies need the flexibility of democratic decision-making to ensure long-term success. In Russia, President Vladimir Putin is already testing that view by rebuilding authoritarian rule.
[Wen Jiabao]

One change afoot in China involves the way laws are made. Until a few years ago, almost every new law was adopted in secret and presented as a fait accompli. Now, many are published in draft form, and some are revised after input from people outside government. This year, a new law on employment was revised after public pressure to include tougher provisions against discrimination in hiring.

Victor Yuan has seen another facet of the party's adjustments. A former Ministry of Justice official, he founded China's best-known polling firm in 1992. Much of its initial business was market research for companies. In recent years, the firm, Horizon Group, has been hired by local governments in China to gauge public support for their policies.

"I see this administration as trying to work out some mechanisms for more openness," the pollster says. "It's a practical response. There is very real pressure from society."

Even as its socialist ideology has collapsed, the Communist Party has found ways to stay relevant, such as by expanding membership to include businesspeople. Today the party has some 73 million members, roughly one in 18 Chinese. New party members have to be "introduced," or nominated, by two existing members.

China has changed remarkably since 13 people, the Politburo's predecessors, convened the Communist Party's first National Congress in Shanghai in 1921. The collectivism and economic isolation that began when Mao Zedong led the party to power in 1949 was junked starting in 1978, two years after his death. The party's secretive centralized rule has changed far less.

Behind Closed Doors

Regional officials have gained some autonomy, but the Politburo makes all big political and economic decisions, from appointing provincial officials to setting exchange-rate policy. Most decisions are made behind closed doors, often in the massive walled Zhongnanhai compound next to the Forbidden City in Beijing. Few outsiders get in.

Still, Politburo members have come to recognize that their power hinges on public support. "The party's ruling position is not inherent, and is not permanent," top officials wrote in a 2004 document outlining plans to improve the party's "ability to govern."
[Xi Jinping]

How best to do that is the subject of heated debate. Liberal Chinese scholars have urged substantive changes, such as expanded elections for local government posts. Such ideas have gained little traction, reflecting the leadership's deep-rooted fears of unleashing unrest. A push for political reform in the late 1980s, led by then-party chief Zhao Ziyang, ended after pro-democracy demonstrations in 1989 sparked the brutal Tiananmen Square crackdown. Leaders have consistently defended the killing of demonstrators.

At the same time, Mr. Hu's administration has resisted turning the clock back to the deeply repressive methods of the Mao era. It has defended economic change from left-leaning scholars and retired officials who vocally complain that capitalism has gone too far. Mr. Hu has allowed some discussion of political change, too. The party "will continue to expand citizens' orderly participation in politics," he said in a speech in June.

Much remains off-limits. Pollsters aren't allowed to gauge support for Mr. Hu. But the party is paying more attention to what the public thinks of other leaders. In 2003, it issued rules requiring that polls be used in evaluating officials for promotion, says Mr. Yuan of Horizon Group.

Often those poll results are kept confidential. But in 2005, the mayor of Zhengzhou, capital of the central province of Henan, told Horizon to publish the results of polls to pressure city government officials to perform better, Mr. Yuan says. One poll finding was widespread public frustration with bribe taking by city officials.

Mr. Yuan says his polls generally show that "people believe this government is good at doing business work, but not good at social services."

The government has also begun inviting public suggestions and limited criticism of official policy, such as on Web sites set up for the annual session of the legislature that took place in March. "We must create the conditions for the people to supervise and criticize the government," Premier Wen Jiabao, the party's No. 3 official, said then.

Consider the way China makes laws. Since the first time it published draft legislation for public consideration, in 1998, growing numbers of new laws have been made with public input. The government controls the final outcome and sets limits on debate, but the input can make a difference. Laws that are particularly contentious are often held up and revised.

In the case of the Employment Promotion Law, authorities published a draft in March, just as local media attention was focusing on lawsuits filed by carriers of the hepatitis B virus saying they had been unfairly denied jobs. Around 120 million Chinese people, nearly 10% of the population, are believed to carry the virus, which can damage the liver and raise the risk of liver cancer. Though the virus can't be spread through casual contact, it is poorly understood here and many Chinese say they are uncomfortable working with carriers.
[China]

Nonprofit organizations lobbying for hepatitis B carriers swung into action, publishing surveys and reports documenting widespread discrimination. In July, officials held an online discussion forum about the problem, and their Web site was flooded with complaints. One labor ministry official said she was "disturbed" by the accounts of discrimination and that the government would try to safeguard the rights of virus carriers.

In the end, a chapter aimed at preventing different kinds of job discrimination was added to the law. It said an employer "may not refuse to employ someone on the grounds that he or she is a carrier of an infectious disease." The law was passed in August but has not yet taken effect.

The government, under legislation passed in 2000, allows challenges from citizens who believe a law or regulation violates China's constitution. Such complaints are usually ignored. But the government has occasionally changed position after filings gathered media coverage. In one example, standards for compensating accident victims were adjusted recently.

"It's a tightly controlled process, but it is a valve to release some pressure, and is also a way for officials to gather information about possible conflicts," says Keith Hand, a Yale University legal scholar in Beijing who has studied the system.

Informal Rules

The Politburo has established informal rules, including term limits and retirement ages, that govern appointments to top jobs, helping restrain power struggles among senior leaders. Those norms have put pressure on Mr. Hu to prepare for an orderly succession.

China watchers seeking to spot the next supreme leader are focused on two men. One is Xi Jinping, now the top party official in Shanghai. The other is Li Keqiang, party chief of Liaoning province in China's northeast, who is seen by many as President Hu's protégé.

Both men are younger than Mr. Hu by more than a decade and are seen as more international-minded than many of the current Standing Committee members. But as loyal party operators, they are likely to hew to the established line on political reform. The new roster of the Standing Committee likely won't be announced until next week.

Official responses to public complaints of corruption remain very rare. The government operates a traditional system of xinfang, or "letters and visits," which handles about 12 million petitions and complaints from citizens each year. Scholars estimate that only two of every thousand cases are resolved.

The opening to limited public discussion of policy has been accompanied by tighter restraints on those who try to push the boundaries. The party still ruthlessly suppresses dissent. Under President Hu, the government has arrested several lawyers who have attempted to use the legal system to challenge the government over alleged human-rights violations and other issues. In one of the most notorious examples, a Chinese court last year issued a prison sentence of more than four years to a blind rural activist who had used his self-taught knowledge of the law to help women who had been forced to have late-term abortions.

Since 1999, China has put more journalists in prison than any other country, according to the Committee to Protect Journalists, a nonprofit group based in New York. And the government has worked hard to curb free expression on the Internet and to block access to Web sites it finds politically objectionable. Such limits are regularly tightened further around the time of important political events such as the party congress.

Transforming the System

Some within the party want to open up more. Last month, Li Rui, a party elder and gadfly who once served as Mao's secretary, published an open letter to Mr. Hu in a Beijing journal arguing for much greater change. "The autocratic system must be transformed so that constitutional democracy can be implemented," he wrote.

Senior leaders repeatedly say they will not "copy" such Western political models. But senior leaders' new willingness to talk openly about political reform could also strengthen popular expectations for change. In his speech to the party congress this week, Mr. Hu mentioned "democracy" more than 60 times, though mostly in reference to internal party procedures.

In other public remarks this year, Mr. Wen, the premier, said democratic political change is a necessary complement to the market-based economic overhaul China has already undertaken. "Without political reform, economic reform will not succeed," the premier said in a speech to domestic and foreign businesspeople in August.

Write to Andrew Batson at andrew.batson@wsj.com and Jason Dean at jason.dean@wsj.com
 
 

What Makes an Industrial Revolution?
WSJ November 8, 2007
 

Today WSJ.com published the most recent Econ One on One. This month’s exchange between two economists (James Robinson, of Harvard University, and Gregory Clark of the University of California, Davis) concerns the Industrial Revolution and deals with the preconditions necessary for a country to experience massive industrialization. Below is an excerpt

The breakneck pace of industrialization in China -- where millions have left the countryside, flocked to cities and found factory jobs -- has drawn comparisons to the economic and social upheaval that swept England during the 19th Century. It was then that a combination of coal, steam engines, spinning machines and an army of former agricultural workers coalesced into the West's Industrial Revolution. But why was England -- followed by other European countries and their North American offshoots -- first able to break out of its stagnant cycle of subsistence economics? And why were East Asian countries such as Japan and South Korea later able to pull off the same stunt? Finally, what accounts for the newfound industrial vigor of countries such as China, while other nations still struggle?
JOIN THE DISCUSSION

[Econ One on One]
Share your views on industrial revolutions of the past, and the present, in an online forum.

The Wall Street Journal Online tapped James Robinson, a professor of government at Harvard University, and Gregory Clark, a professor of economics at the University of California, Davis, to discuss the moment when the economic fate of the industrialized world began to break off from that of the rest of the globe. Long known as the Industrial Revolution, some have recently begun to talk more broadly about the period -- when standards of living began to improve in industrial countries -- which they call "the Great Divergence."

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[Image]

Gregory Clark writes: The Industrial Revolution was the great event of history. It finally freed living standards from the subsistence prison they had been trapped in for 100,000 years.

Most economists think English political institutions ensuring free markets and individual incentives caused the Industrial Revolution. Consequently efforts to aid areas like sub-Saharan Africa, with living standards now BELOW those of the Stone Age, have focused on getting them "good" institutions. However, my book, "A Farewell to Alms," argues from the long historical record that good incentives -- secure property rights, low taxes, stable governments -- often just produce complete economic stagnation.

England in 1800 had economic incentives. But medieval England in 1300 was even more incentivized. Ancient Babylon in 2,000 BC likely had all the incentives economists think guarantee growth. None of these earlier societies had an Industrial Revolution. Between 1857 and 1947 the British provided India with economic institutions Margaret Thatcher would have been proud of. The result? India de-industrialized under the Raj.

Even now dirt-poor Malawi has better economic incentives than rich Sweden, where the government seizes 50% to 60% of an extra income wage earners produce, and distributes free medical care, education and pensions. My book argues instead that modern growth is largely a cultural achievement. Societies cannot grow without a cultural transformation.

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[Image]

James Robinson writes: The emergence of Britain as the first industrial society in the 18th century had little to do with a change in culture. Rather, it was the result of the political struggles of the 17th century, particularly the Glorious Revolution of 1688. This political revolution marked the rise of Parliament and the end of absolutism in Britain. It created a state that was willing and able to promote the economic interests of the country and it put in place some key missing economic institutions, such as secure property rights and the destruction of monopolies.

Yes, some economic institutions were good in medieval England, but many were not. Moreover, political institutions were a disaster with an absolutism that was unchecked and unbalanced and not interested in promoting the welfare of society.

The same is true of colonial India. The Raj did guarantee some important economic institutions -- for example free trade within the Empire, and after the British-government's takeover from the East India Company, an end to property expropriation. But other aspects of economic institutions were terrible. The British were uninterested in promoting economic development. For example they almost completely failed to invest in education or infrastructure, except to the extent that it served military needs. The Raj failed to do the basic things that governments are supposed to do because it was completely insensitive to the demands of its citizens.

As for Malawi, take a look at the World Bank's "Doing Business" Web page. The country was ranked 135 in the world -- out of 178 -- on contract enforcement or 127 out of 178 on the general climate for business. Malawi certainly needs to change its institutions in order to grow, not its culture.

* * *
[Image]

Gregory Clark writes: Jim's statement is a spirited summary of economists' beliefs, but not an appeal to any compelling facts. It is a statement of faith, a Nicene Creed. It shows the yearning, the longing, of economists for eventual salvation through institutions. The facts, however, are that the Industrial Revolution was the result of cultural changes in England, not better incentives. By 1800 in successful economies people had embraced "thrift, prudence, negotiation, and hard work." In most failed economies it is the failure of people to embrace these bourgeois values that explains economic failure.

In the original economic creed -- the economics of Adam Smith -- government just need to allow free and secure exchange, and growth results. Jim accepts that episodes like the British Raj in India show that libertarian prescription fails. So, he invokes the idea that governments must provide more: education to the masses, infrastructure for growth. But only democratic governments will have incentives to provide such goods the citizenry demand.

Yet, in the first nation to achieve modern economic growth, England, the government did none of this. There was no government support for education in England until 1870. Compulsory education to age 10 came only in 1880. The English educated themselves. The canals and the railways were all private enterprises, without even government subsidy.

Limited government produced growth in England but not in Malawi, because English society was very different from that of modern Malawi. Does limited government explain why Malawi is importing high cost Chinese workers even for unskilled labor?

* * *
[Image]

James Robinson writes: There is no silver bullet for economic success, but there are certain institutions that have to be in place: secure property rights and a society where social mobility is possible so people can exploit their talents and ideas. The Raj not only failed to invest in education and infrastructure in India, but it also consolidated a social system where local elites used their power to extract rents from peasants. They had little incentive to innovate and there was little social mobility.

The organization of British society was different. In the 16th and 17th centuries new dynamic commercial and mercantile interests emerged, but they could not spur the Industrial Revolution until they had their interests represented by the political system. That happened after the Glorious Revolution. Britain may have led the Industrial Revolution without investing in education, but this is irrelevant for the economies of the 20th century. The East Asian miracle economies caught up with Europe and the U.S. by heavily investing in education. Japan did not become rich by changing its culture, but it did dramatically change its institutions after the Meiji Restoration of 1868.
James Robinson is a professor of government at Harvard University. He was born in England and studied economics at the London School of Economics, the University of Warwick and Yale University, where he received his doctorate in economics in 1993. He previously taught at the University of Melbourne, the University of Southern California and the University of California, Berkeley. Most of his work focuses on comparative economic and political development and his 2006 book "Economic Origins of Dictatorship and Democracy" -- written with Daron Acemoglu, a professor of economics at the Massachusetts Institute of Technology -- won the American Political Science Association's Woodrow Wilson Award that year, as "the best book published in the United States during the prior year on government, politics or international affairs."
Gregory Clark is the chair of the economics department at the University of California, Davis. His main interest is economic growth in the very long run and his research centers on global living conditions between 100,000 BC and 1800, as well as the origins of the Industrial Revolution of the 1800s. Much of it is summarized in his recent book, "A Farewell to Alms: a Brief Economic History of the World" (Princeton University Press, 2007). He received his doctorate in economics from Harvard University in 1985, and has held faculty positions at Stanford University and the University at Michigan.

* * *
[Image]

Gregory Clark writes: I accept that growth may require moderately secure property rights and social mobility. But these existed thousands of years before modern economic growth. They exist even now in some extremely poor economies (Zambia for example). Institutionalists like Jim have to promote a mythic history. The world before 1800 has to be composed of scenes from bad history movies: rapacious lords, a groaning supine peasantry. That is how he needs to portray even India under the Raj.

But many pre-industrial societies had secure private property and significant social mobility. For example, the average tax rate in medieval England was 1%. With money you moved up socially, and you could even buy nobility.

India under the Raj was no different. In "A Farewell to Alms," I show how British imperialism created in India a world of complete mobility for capital, entrepreneurs, and workers. But the economy didn't develop because Indian labor could not be profitably employed in industry, even at minimal wages. The types of government promotion of education and infrastructure Jim advocates as that extra institutional ingredient for growth will promote just waste, looting and nepotism in many of these poor societies, given the prevailing cultural norms. Look at how publicly provided education in India operates even today in states like Bihar and Uttar Pradesh.

* * *
[Image]

James Robinson writes: Secure property rights are part of the institutions a society requires. I am sure Greg would not argue that economic institutions in Zimbabwe were good. Across the Zambezi River, in Zambia, it is not expropriation that is the problem, but a political system focused on the generation of monopolies and rents to steal and redistribute as patronage. This system robs people of opportunities and incentives.

One reason that the Chinese are welcome is the same as the reason that Indians have flourished in East Africa or the Lebanese in West Africa. Since these people are not potential competitors for political power, they do not pose a threat to Zambian elites if they become prosperous. For more on this phenomenon, see the discussion of Lebanese businessmen in Ghana in the 1960s in this work by Tony Killick.

To argue that there was social mobility in the Raj flies in the face of what we know about the caste system and Indian rural institutions, both intensified by British rule. How can there be social mobility for untouchables?

In medieval England, taxes paid to the king may have been low, but some have calculated that peasants spent 50% of their time working for their lords. In Sweden people pay high taxes but they get health insurance, education and public goods in return. In Medieval England, peasants got nothing in return.

* * *
[Image]

Gregory Clark writes: I could explain how English serfs expropriated the land from their supposed masters by 1300! But we need to confront another issue -- what does the Industrial Revolution imply about Third World growth now?

The lessons are that growth requires a combination of social culture, and half-decent institutions, but culture dominates. The right culture can compensate for poor institutions -- as in Sweden. Look at China now. Not a democracy, rife with corruption and nepotism, no respect for law -- yet spectacular growth.

Further foist the institutions of the West on countries with the wrong cultural background -- as the World Bank has attempted -- and the formal institutions of democracy, rule of law, public education, transparency, get corrupted into nepotism, looting, and faction. How can we transform the economic cultures of poor societies to be more like rich ones?

Migrants from poor societies exposed to economic life in rich economies are a potential nucleus for industrialization. But such migrants usually choose to remain in rich economies. Aid to poor societies through programs designed to expose their students and workers to life and work in the west before returning home, as Lant Pritchett recently advocated, will be more effective than trying to make these societies' institutions more like those of the West. Transform people first.

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[Image]

James Robinson writes: I totally disagree with Greg. The institutions of Sweden look very different from those of the U.S. but they still deliver secure property rights and allow people with talent to exploit it. Sweden has good institutions. There are just many ways to skin a cat.

The institutions of China look even different, but the current rapid growth of China since 1978 -- when the Communist Party under Deng Xiaoping launched an ambitious program of economic liberalization -- has been fueled by the reform of the centrally planned economy and the introduction of market incentives. Did Chinese culture change in 1978?

But why, Greg implicitly asks, does anyone invest when the Communist Party is still so powerful? The simple answer to this is that after the disasters of the Great Leap Forward and the Cultural Revolution, the party has to deliver prosperity to stay in power. People understand this, so they know they will benefit from their investments and efforts. At least for now.

African countries suffer from terrible political and economic institutions. These are difficult to change because they reflect the underlying structure of political power in these societies. This means that simple-minded institutional advice will fail. The most important thing in solving the problem of underdevelopment, however, is to get the right diagnosis. I think the World Bank more or less have this right now but they face a big problem: Section 10 of its charter stipulates that the World Bank is not supposed to meddle with politics, but solving the problem of underdevelopment is all about "getting politics right" in poor countries.

Write to Matt Phillips at matt.phillips@wsj.com
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Sustaining growth is the century’s big challenge

By Martin Wolf

Published: June 10 2008 19:08 | Last updated: June 10 2008 19:08 The Financial Times Limited 2008

Pinn illustration

Is it possible for the vast mass of humanity to enjoy the living standards of today’s high-income countries? This is, arguably, the biggest question confronting humanity in the 21st century. It is today’s version of the doubts expressed by Thomas Malthus, two centuries ago, about the possibility of enduring rises in living standards. On the answer depends the destiny of our progeny. It will determine whether this will be a world of hope rather than despair and of peace rather than conflict.

This – not the effectiveness of its particular prescriptions – is the biggest question raised by the report of the growth commission discussed here last week. It is also the focus of a powerful new book by Jeffrey Sachs, director of Columbia University’s Earth Institute*.

The challenge is stark. World real incomes per head could rise 4.5 times by 2050 and world population by 40 per cent. This would mean a sixfold increase in global output, concentrated in the developing world (see charts). Is such an increase feasible? The answer he gives is: yes and no – yes, because changes in incentives, technology and social and political institutions would make a benign outcome feasible; and no, because the path we are now on is unsustainable. Professor Sachs is an optimistic prophet of doom. He falls in between those environmentalists who see no solution and those free-marketeers who see no problem.

By inclination, I am far closer to the latter than the former. But it has become evident, at least to me, that the human impact on the planet on which we depend has risen to enormous proportions. We have treated the global commons as if they were free. Self-evidently, they are not.

Prof Sachs emphasises three goals: first, “the end of extreme poverty by 2025 and improved economic security within the rich countries as well”; second, “stabilisation of the world’s population at 8bn or below by 2050 through a voluntary reduction of fertility rates”; and, third, “sustainable systems of energy, land and resources use that avert the most dangerous trends of climate change, species extinction, and destruction of ecosystems”. Finally, to achieve these ends, he recommends “a new approach to global problem-solving based on co-operation among nations and the dynamism and creativity of the non-governmental sector”.

One might view the first of the above goals as that of prosperity for everybody. Population control is related to this end because the world’s poorest people are burdened by the costs of rearing its largest families. Finally, only by managing the global commons will it be possible to sustain rising living standards.

The most illuminating concept in the book is that of the “anthropocene” – the era in which human activities dominate the world. Peter Vitousek of Stanford University has documented the ways in which humanity has appropriated the bounty of the earth for its own use: human beings now exploit 50 per cent of the terrestrial photosynthetic potential; they have put up a quarter of the carbon dioxide now in the atmosphere; they use 60 per cent of the accessible river run-off; they are responsible for 60 per cent of the earth’s nitrogen fixation; they are responsible for a fifth of all plant invasions; over the past two millennia they have made extinct a quarter of all bird species; and they have exploited or over-exploited more than half of the world’s fisheries.

Like it or not, we humans are now in charge. So what should we do? In his response, Prof Sachs shares the optimism of most Americans: we must fix it, but, he insists, we can do so only together. In this great venture, he argues, the US must share the leadership, but it cannot dictate to the rest of humanity.

In regard to the dynamics of catch-up growth in developing countries, Prof Sachs’ views are close to those of the growth commission. More distinctive is his recommendation of an aid-supported, big-push investment strategy, aimed at lifting the world’s poorest people, predominantly Africans, out of the poverty traps into which, in his judgment, they have fallen. Prof Sachs has made notable contributions to our understanding of the obstacles to development created by geography, the environment and devastating diseases such as malaria. In the current book, he emphasises how shortages of water are contributing to poverty and conflict across the planet.

Yet I am more sceptical than Prof Sachs of the returns to the big-push strategy. In many cases, it will fail. But it has to be tried, because there is no morally tolerable or credible alternative. I agree, too, that huge efforts must be made to accelerate the fertility decline in the world’s poorest countries, albeit on a voluntary basis.

Now suppose that economic growth then spreads across the planet, as we would wish. Can it be sustainable? Prof Sachs is notably optimistic on direct resource inputs into growth. His view is that fossil fuel resources, renewable energy and availability of fresh water should be sufficient to support continued growth over the next half century. But this would almost certainly require a transition from oil-based energy technologies to ones based on coal and renewables. Energy would, almost certainly, be much more expensive than in the 1985-2000 period, but not prohibitively so.

The challenge, in Prof Sachs’ view, is rather to make growth compatible with sustaining the global commons: species survival and, above all, climate change. Yet what is perhaps most intriguing of all is the optimism he shows on the latter task. While he embraces the view that climate change is a huge threat, he also believes it can be dealt with at modest cost, provided suitable incentives are put in place: less than 1 per cent of global income.

In all, in fact, Prof Sachs believes we can achieve all the goals he has set – elimination of mass poverty, population control and environmental sustainability – for less than 2 per cent of global incomes. This is about half a year’s global growth and, as such, surely cheap at the price.

This, then, is an analysis that manages to be both pessimistic and optimistic at the same time. One might not be quite as optimistic about the cost of the solutions. But one must recognise the salience of the challenges. If economic growth halted, conflict among the world’s people would risk becoming unmanageable. If the environmental consequences proved overwhelming, the costs of growth would become unbearable. We are the masters of our planet now. The great question for the 21st century is whether we can also become masters of ourselves.

*Common Wealth: Economics for a Crowded Planet (Allen Lane, 2008)

martin.wolf@ft.com

More columns at www.ft.com/wolf

Per capita income

Copyright The Financial Times Limited 2008
 
 
 

What Makes Finnish Kids So Smart?
Finland's teens score extraordinarily high on an international test. American educators are trying to figure out why.
By ELLEN GAMERMAN
WSJ February 29, 2008; Page W1

Helsinki, Finland

High-school students here rarely get more than a half-hour of homework a night. They have no school uniforms, no honor societies, no valedictorians, no tardy bells and no classes for the gifted. There is little standardized testing, few parents agonize over college and kids don't start school until age 7.

Yet by one international measure, Finnish teenagers are among the smartest in the world. They earned some of the top scores by 15-year-old students who were tested in 57 countries. American teens finished among the world's C students even as U.S. educators piled on more homework, standards and rules. Finnish youth, like their U.S. counterparts, also waste hours online. They dye their hair, love sarcasm and listen to rap and heavy metal. But by ninth grade they're way ahead in math, science and reading -- on track to keeping Finns among the world's most productive workers.
Finland's students are the brightest in the world, according to an international test. Teachers say extra playtime is one reason for the students' success. WSJ's Ellen Gamerman reports.

The Finns won attention with their performances in triennial tests sponsored by the Organization for Economic Cooperation and Development, a group funded by 30 countries that monitors social and economic trends. In the most recent test, which focused on science, Finland's students placed first in science and near the top in math and reading, according to results released late last year. An unofficial tally of Finland's combined scores puts it in first place overall, says Andreas Schleicher, who directs the OECD's test, known as the Programme for International Student Assessment, or PISA. The U.S. placed in the middle of the pack in math and science; its reading scores were tossed because of a glitch. About 400,000 students around the world answered multiple-choice questions and essays on the test that measured critical thinking and the application of knowledge. A typical subject: Discuss the artistic value of graffiti.

The academic prowess of Finland's students has lured educators from more than 50 countries in recent years to learn the country's secret, including an official from the U.S. Department of Education. What they find is simple but not easy: well-trained teachers and responsible children. Early on, kids do a lot without adults hovering. And teachers create lessons to fit their students. "We don't have oil or other riches. Knowledge is the thing Finnish people have," says Hannele Frantsi, a school principal.

Visitors and teacher trainees can peek at how it's done from a viewing balcony perched over a classroom at the Norssi School in Jyväskylä, a city in central Finland. What they see is a relaxed, back-to-basics approach. The school, which is a model campus, has no sports teams, marching bands or prom.
[photo]
Fanny Salo in class

Trailing 15-year-old Fanny Salo at Norssi gives a glimpse of the no-frills curriculum. Fanny is a bubbly ninth-grader who loves "Gossip Girl" books, the TV show "Desperate Housewives" and digging through the clothing racks at H&M stores with her friends.

Fanny earns straight A's, and with no gifted classes she sometimes doodles in her journal while waiting for others to catch up. She often helps lagging classmates. "It's fun to have time to relax a little in the middle of class," Fanny says. Finnish educators believe they get better overall results by concentrating on weaker students rather than by pushing gifted students ahead of everyone else. The idea is that bright students can help average ones without harming their own progress.

At lunch, Fanny and her friends leave campus to buy salmiakki, a salty licorice. They return for physics, where class starts when everyone quiets down. Teachers and students address each other by first names. About the only classroom rules are no cellphones, no iPods and no hats.
TESTING AROUND THE GLOBE
 
[FinnPromo]1
Every three years, 15-year-olds in 57 countries around the world take a test called the Pisa exam, which measures proficiency in math, science and reading.
• The test:2 Two sections from the Pisa science test
• Chart:3 Recent scores for participating countries
DISCUSS
 
Do you think any of these Finnish methods would work in U.S. schools? What would you change -- if anything -- about the U.S. school system, and the responsibilities that teachers, parents and students are given? Share your thoughts.4

Fanny's more rebellious classmates dye their blond hair black or sport pink dreadlocks. Others wear tank tops and stilettos to look tough in the chilly climate. Tanning lotions are popular in one clique. Teens sift by style, including "fruittari," or preppies; "hoppari," or hip-hop, or the confounding "fruittari-hoppari," which fuses both. Ask an obvious question and you may hear "KVG," short for "Check it on Google, you idiot." Heavy-metal fans listen to Nightwish, a Finnish band, and teens socialize online at irc-galleria.net.

The Norssi School is run like a teaching hospital, with about 800 teacher trainees each year. Graduate students work with kids while instructors evaluate from the sidelines. Teachers must hold master's degrees, and the profession is highly competitive: More than 40 people may apply for a single job. Their salaries are similar to those of U.S. teachers, but they generally have more freedom.

Finnish teachers pick books and customize lessons as they shape students to national standards. "In most countries, education feels like a car factory. In Finland, the teachers are the entrepreneurs," says Mr. Schleicher, of the Paris-based OECD, which began the international student test in 2000.

One explanation for the Finns' success is their love of reading. Parents of newborns receive a government-paid gift pack that includes a picture book. Some libraries are attached to shopping malls, and a book bus travels to more remote neighborhoods like a Good Humor truck.
[photo]
Ymmersta school principal Hannele Frantsi

Finland shares its language with no other country, and even the most popular English-language books are translated here long after they are first published. Many children struggled to read the last Harry Potter book in English because they feared they would hear about the ending before it arrived in Finnish. Movies and TV shows have Finnish subtitles instead of dubbing. One college student says she became a fast reader as a child because she was hooked on the 1990s show "Beverly Hills, 90210."

In November, a U.S. delegation visited, hoping to learn how Scandinavian educators used technology. Officials from the Education Department, the National Education Association and the American Association of School Librarians saw Finnish teachers with chalkboards instead of whiteboards, and lessons shown on overhead projectors instead of PowerPoint. Keith Krueger was less impressed by the technology than by the good teaching he saw. "You kind of wonder how could our country get to that?" says Mr. Krueger, CEO of the Consortium for School Networking, an association of school technology officers that organized the trip.

Finnish high-school senior Elina Lamponen saw the differences firsthand. She spent a year at Colon High School in Colon, Mich., where strict rules didn't translate into tougher lessons or dedicated students, Ms. Lamponen says. She would ask students whether they did their homework. They would reply: " 'Nah. So what'd you do last night?'" she recalls. History tests were often multiple choice. The rare essay question, she says, allowed very little space in which to write. In-class projects were largely "glue this to the poster for an hour," she says. Her Finnish high school forced Ms. Lamponen, a spiky-haired 19-year-old, to repeat the year when she returned.
[photo]
At the Norssi School in Jyväskylä, school principal Helena Muilu

Lloyd Kirby, superintendent of Colon Community Schools in southern Michigan, says foreign students are told to ask for extra work if they find classes too easy. He says he is trying to make his schools more rigorous by asking parents to demand more from their children.

Despite the apparent simplicity of Finnish education, it would be tough to replicate in the U.S. With a largely homogeneous population, teachers have few students who don't speak Finnish. In the U.S., about 8% of students are learning English, according to the Education Department. There are fewer disparities in education and income levels among Finns. Finland separates students for the last three years of high school based on grades; 53% go to high school and the rest enter vocational school. (All 15-year-old students took the PISA test.) Finland has a high-school dropout rate of about 4% -- or 10% at vocational schools -- compared with roughly 25% in the U.S., according to their respective education departments.

Another difference is financial. Each school year, the U.S. spends an average of $8,700 per student, while the Finns spend $7,500. Finland's high-tax government provides roughly equal per-pupil funding, unlike the disparities between Beverly Hills public schools, for example, and schools in poorer districts. The gap between Finland's best- and worst-performing schools was the smallest of any country in the PISA testing. The U.S. ranks about average.

Finnish students have little angstata -- or teen angst -- about getting into the best university, and no worries about paying for it. College is free. There is competition for college based on academic specialties -- medical school, for instance. But even the best universities don't have the elite status of a Harvard.
[photo]
Students at the Ymmersta School near Helsinki

Taking away the competition of getting into the "right schools" allows Finnish children to enjoy a less-pressured childhood. While many U.S. parents worry about enrolling their toddlers in academically oriented preschools, the Finns don't begin school until age 7, a year later than most U.S. first-graders.

Once school starts, the Finns are more self-reliant. While some U.S. parents fuss over accompanying their children to and from school, and arrange every play date and outing, young Finns do much more on their own. At the Ymmersta School in a nearby Helsinki suburb, some first-grade students trudge to school through a stand of evergreens in near darkness. At lunch, they pick out their own meals, which all schools give free, and carry the trays to lunch tables. There is no Internet filter in the school library. They can walk in their socks during class, but at home even the very young are expected to lace up their own skates or put on their own skis.

The Finns enjoy one of the highest standards of living in the world, but they, too, worry about falling behind in the shifting global economy. They rely on electronics and telecommunications companies, such as Finnish cellphone giant Nokia, along with forest-products and mining industries for jobs. Some educators say Finland needs to fast-track its brightest students the way the U.S. does, with gifted programs aimed at producing more go-getters. Parents also are getting pushier about special attention for their children, says Tapio Erma, principal of the suburban Olari School. "We are more and more aware of American-style parents," he says.

Mr. Erma's school is a showcase campus. Last summer, at a conference in Peru, he spoke about adopting Finnish teaching methods. During a recent afternoon in one of his school's advanced math courses, a high-school boy fell asleep at his desk. The teacher didn't disturb him, instead calling on others. While napping in class isn't condoned, Mr. Erma says, "We just have to accept the fact that they're kids and they're learning how to live."

Write to Ellen Gamerman at ellen.gamerman@wsj.com5
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Order in the jungle

Mar 13th 2008
>From The Economist print edition
The rule of law has become a big idea in economics. But it has had its difficulties
JAC

“AM I the only economist guilty of using the term [rule of law] without having a good fix on what it really means?” asks Dani Rodrik of Harvard University. “Well, maybe the first one to confess to it.”

The rule of law is usually thought of as a political or legal matter. The world's newest country, Kosovo, says its priority is to improve the rule of law in order to reduce corruption and build up the state. But in the past ten years the rule of law has become important in economics too. Indeed, it has become the motherhood and apple pie of development economics—which makes Mr Rodrik's confession the more striking. The rule of law is held to be not only good in itself, because it embodies and encourages a just society, but also a cause of other good things, notably growth. “No other single political ideal has ever achieved global endorsement,” says Brian Tamanaha, a legal scholar at St John's University, New York.

But as an economic concept the rule of law has had a turbulent history. It emerged almost abruptly during the 1990s from the dual collapses of Asian currencies and former Soviet economies. For a short time, it seemed to provide the answer to problems of development from Azerbaijan to Zimbabwe, until some well-directed criticism dimmed its star. Since then it has re-established itself as a central concept in understanding how countries grow rich—but not as the panacea it once looked like.

Economists became fascinated by the rule of law after the crumbling of the “Washington consensus”. This consensus, which was economic orthodoxy in the 1980s, held that the best way for countries to grow was to “get the policies right”—on, for example, budgets and exchange rates. But the Asian crisis of 1997-98 shook economists' confidence that they knew which policies were, in fact, right. This drove them to re-examine what had gone wrong. The answer, they concluded, was the institutional setting of policymaking, especially the rule of law. If the rules of the game were a mess, they reasoned, no amount of tinkering with macroeconomic policy would produce the desired results.

This conclusion was strengthened by events in the former Soviet empire. Many post-communist countries got their policies roughly right fairly quickly. But it soon became clear this was not enough. “I was a traditional trade and labour economist until 1992,” says Daniel Kaufmann, now head of the World Bank Institute's Global Governance group. “When I went to Ukraine, my outlook changed. Problems with governance and the rule of law were undermining all our efforts.”

Pretty quickly, “governance”—political accountability and the quality of bureaucracy as well as the rule of law—became all the rage. Economists got busy calculating what it was, how well countries were doing it and what a difference it made. Mr Kaufmann and his colleague Aart Kraay worked out the “300% dividend”: in the long run, a country's income per head rises by roughly 300% if it improves its governance by one standard deviation. One standard deviation is roughly the gap between India's and Chile's rule-of-law scores, measured by the bank. As it happens, Chile is about 300% richer than India in purchasing-power terms. The same holds for South Africa and Spain, Morocco and Portugal, Botswana and Ireland. Economists have repeatedly found that the better the rule of law, the richer the nation. (The chart below shows the results of three studies, put on a comparable basis by Mr Kaufmann.) Every rich country with the arguable exceptions of Italy and Greece scores well on rule-of-law measures; most poor countries do not.

Mr Rodrik reviewed the contributions to growth of governance (“institutions”, he called it), geography and openness to trade. He concluded, to use the title of an article he published in 2002, that “Institutions Rule”. Writing from the perspective of a political scientist, Francis Fukuyama of Johns Hopkins University concurred: “I believe that the institutionalists have won this argument hands down.”

Partly because of this, and also because the rule of law is desirable for its own sake, governments and aid agencies began splurging money on rule-of-law reforms, such as training judges, reforming prisons and setting up prosecutors' offices. Such reforms had begun in Latin America in the mid-1980s. Now they became universal.

The European Union insists that all its members satisfy standards for the rule of law. It requires applicants to commit themselves to legal reforms to meet those standards and dispatches armies of lawyers to advise them how to bring their legal systems up to scratch. America's Millennium Challenge Corporation, set up in 2004 to improve the effectiveness of American official aid, confines its largesse to countries that have committed themselves to minimum rule-of-law standards (one of three basic requirements). Western donors have poured billions into rule-of-law projects over the past 20 years. The World Bank is now running such projects (narrowly defined) worth almost $450m; on a wider definition, almost half the bank's total lending of $24 billion in 2006 had some rule-of-law component (for example, advice on conflict resolution in village-development projects, or on bankruptcy law in privatisation programmes). In roughly a decade the rule of law has gone from a specialist political and legal topic into a staple of economic thinking and the subject of a vast aid-giving effort.

So it came as an unwelcome surprise when, in 2003, one of the world's acknowledged experts on governance wondered aloud whether the emperor had any clothes. Thomas Carothers of the Carnegie Endowment for International Peace, a think-tank in Washington, DC, wrote a paper politely entitled “Promoting the Rule of Law Abroad: The Problem of Knowledge”. According to Mr Carothers, the problem was, as William Goldman said of Hollywood, that nobody knows anything.

Mr Carothers argued that the intrinsic difficulty of defining the rule of law, combined with the problems of knowing how specific laws work in practice, meant that “the rapidly growing field of rule-of-law assistance is operating from a disturbingly thin base of knowledge at every level.” Many of the difficulties are inherent, he said. But not all: aid organisations always look forward to the next project, rather than back to the lessons of experience; lawyers who carry out the work are not much interested in development; university professors are not gripped by applied policy research. As a result, according to one rule-of-law promoter, “deep down, we don't really know what we are doing.”

The shock of Mr Carothers's argument was salutary. In response, there has been a flurry of rule-of-law studies. A new body of work has appeared, which could be called the economics of the rule of law. It shows the rule of law can indeed be improved. It has made clearer what economists and others mean when they talk about the rule of law. It has laid down some guidelines about reforms, helping show what works when, say, training judges or policemen. What it has not yet shown beyond doubt is that the rule of law is a precondition for economic growth everywhere. In the process, the subject of law as an economic matter has begun to grow up. It has passed from vigorous childhood into more troubled adolescence.
Unruly law

In “The Rule of Law and Development” (to be published next month by Edward Elgar), Michael Trebilcock of the University of Toronto and Ron Daniels of the University of Pennsylvania tackle the question of what economists mean by the rule of law. A report by a new research group, the Hague Institute for the Internationalisation of Law, does the same thing. Both publications argue that people routinely use two quite different definitions, which they call “thick” and “thin”.

Thick definitions treat the rule of law as the core of a just society. In this version, the concept is inextricably linked to liberty and democracy. Its adherents say a country can be spoken of as being ruled by law only if the state's power is constrained and if basic freedoms, such as those of speech and association, are guaranteed. The “declaration of Delhi” drawn up by the International Commission of Jurists in that city in 1959 followed this line in saying that the rule of law “should be employed to safeguard and advance the civil and political rights of the individual” and create “conditions under which his legitimate aspirations and dignity may be realised.” Among other proponents of a thick definition are Friedrich Hayek, an Austrian economist, and Cass Sunstein of the University of Chicago. In their view, the rule of law includes elements of political morality.

Thin definitions are more formal. The important things, on this account, are not democracy and morality but property rights and the efficient administration of justice. Laws must provide stability. They do not necessarily have to be moral or promote human rights. America's southern states in the Jim Crow era were governed by the rule of law on thin definitions, but not on thick.

The existence of competing definitions of something may seem fatally to undermine its usefulness. If you argue that the rule of law is vital to growth, which version do you mean—the one that defends human rights or the one that guarantees property rights? But economists love competition. Their differing definitions of the rule of law reflect competing explanations of what drives economic growth.

One account of growth—associated with Douglass North of Washington University in St Louis, Missouri—is “institutional”. It focuses on the importance of property rights, transaction costs and economic organisation. On this view, stable, predictable laws encourage investment and growth. Thin definitions of the rule of law fit this well. The other—associated with Amartya Sen of Harvard—says that if you expand people's “capabilities” (Mr Sen's term), they will do things that help countries grow rich. Freeing people to take advantage of their capabilities usually means lifting the oppressive burden of the state and guaranteeing certain basic rights—a much thicker concept.

The distinction between thick and thin versions of the rule of law overlaps another distinction between legal traditions. Starting in 1997, a group of economists led by Andrei Shleifer of Harvard and Robert Vishny of Chicago started to compare the economic performance of common-law countries (such as America and Britain) with that of civil-law ones (France, Germany and Scandinavia). They argued that common-law countries have more secure property rights, better protection of shareholders and creditors, more diversified share ownership, and tougher disclosure and liability laws—to the benefit, they claimed, of stockmarket performance.

Like the initial claims for the rule of law, those on behalf of the common law were subject to harsh criticism at about the same time, mostly from continental economists. Some claimed the differences between common and civil law were not as sharp as they seemed, and were proxies for differences of politics, history and culture. Others pointed out that a country's legal origins do not seem to explain much about how it is faring economically or in terms of the rule of law. North and South Korea have the same legal origins.

But just as rule-of-law scholars have responded to criticism with more research, so have the legal-origins crowd. In a stream of papers they have found strong evidence that civil-law countries encourage government ownership of the media and banks, a higher burden of entry into business, more labour-market regulation and greater formalism of court procedures—to their detriment, they claim.

Perhaps such arguments can never be resolved. As Rainer Grote of the Max Planck Institute for Comparative Public Law and International Law in Heidelberg says, the rule of law “belongs to the category of open-ended concepts which are subject to permanent debate.” This part of the new economics of the rule of law clarifies its role, but no more. Other findings, though, are more constructive.
Scales of justice

There have been huge improvements in monitoring and measuring the rule of law, even though people cannot agree exactly what it is. “Fifteen years ago, we didn't talk about this stuff,” says Steve Radelet of the Centre for Global Development, a Washington think-tank. “Ten years ago, there was no data.” Now, the Worldwide Governance Indicators project—“one of the best kept secrets at the World Bank”, believes Gordon Johnson, a grand old man of aid-giving—is the state of the art. It gathers data on more than 60 indicators (the extent of crime, the quality of police, judicial independence and so on) to create rule-of-law and governance measures for virtually every country in the world. Aggregating like this (and being honest about the margin of error), says Mr Kaufmann, is far from perfect, but is a decent approximation.

These measures confirm what is clear anyway: some countries have been able to improve their legal framework even in a short time. In 2000 Mikhail Saakashvili, then Georgia's minister of justice, sacked two-thirds of his country's judges for failing to pass an exam. Four years later as president, he fired all the country's traffic police. Georgia's World Bank rule-of-law score rose from nine out of 100 in 2002 (in the bottom 10%) to 33 at the end of 2006—low, but better. Central European and Baltic countries are doing better still: the radical legal changes required by membership of the EU improved their economies as well as their judicial systems.

In general, the measures suggest, bold reforms work better than gradual ones. Latin America modernised its penal codes and made trials more transparent. Chile, for instance, established a new public-prosecution system beginning in 2003. But many of its officials lack experience and have met resistance from the police. Russia implemented some judicial reforms in the 1990s and raised spending on the courts in 2000—to no avail: its rule-of-law scores have fallen in five of the past seven years.

The difference between central Europe and Latin America may be one of political backing. Messrs Trebilcock and Daniels divide countries into three: those where politicians, legal professionals and the public all support reform (central Europe after the fall of communism, South Africa after apartheid); those where politicians support reform, but lawyers and police do not (Chile and Guatemala); and those where lawyers want change, but not politicians (Pakistan). Only in the first group, the professors say, does rule-of-law reform get far.

Consistent with that rather gloomy finding, some new research finds only a weak link between the rule of law and economic growth. The connection with wealth is well established (see chart again) but that is different: it has been forged over decades, even centuries. The link with shorter-term growth is harder to see. China appears to be a standing contradiction to the argument that the rule of law is needed for growth. It is growing fast and is the world's largest recipient of foreign investment, yet has lots of corruption and nothing that most Westerners would recognise as a rule-of-law tradition. (It does, though, guarantee some property rights and its government is good at formulating and implementing policies.)

On the other hand, there is surely a connection between the legal reforms carried out in central Europe and the Baltics and their fast growth rates, or between Spain's post-Franco legal opening and its long boom. And there are proxy indicators connecting legal reform with growth in other areas. The value of rural land in Brazil, Indonesia, the Philippines and Thailand increased sharply when people were given title deeds, because owners were more willing to invest. One independent study for the World Bank a decade ago found a surprising link between projects the bank financed and civil liberties: projects in countries with strong civil liberties had far higher rates of return than those in countries with weak traditions of liberty.

But such links do not tell you anything about causation. Perhaps growth helps the rule of law, not vice versa. Perhaps countries can afford the luxury of the rule of law only after they have grown rich. The persistence of “frontier justice” into the 1930s in America gives a colour of plausibility to that idea.

Yet it is not Mr Kaufmann's view. He argues that rule-of-law improvements tend to help growth; that few countries have sustained gains in growth without improving their rule of law; and that places that have grown without such improvement have subsequently lurched backwards (Argentina used to be one of the ten richest countries in the world). The real puzzle is to explain the exceptions: why crony capitalism has flourished in parts of fast-growing Asia or Kremlin banditry in Russia. The answer, he says, is that, without a rule of law, well-connected crooks can grab an unfair share of the spoils of growth, especially if these include windfall gains from oil and raw materials.

The existence of crony capitalism and “state capture” by robber barons is, of course, an argument for trying to strengthen the rule of law where you can, since it suggests growth will not necessarily create law automatically. There are other arguments, too: the rule of law is desirable for its own sake—to improve human rights or to increase citizens' chances of justice against predatory governments. As John Locke wrote in 1690, “wherever law ends, tyranny begins.” Plainly, in some countries, such as Myanmar and Zimbabwe, legal abuses and over-mighty regimes are direct obstacles to growth. Reforms would help—if they could be implemented.

But as a generalisation, the efforts of the past few years have thrown up mixed messages. They suggest the rule of law can be improved sharply; that rule-of-law reform is at root a political not a technical undertaking; and that it is linked to growth, if weakly in the short term. But they do not really bear out the assertion that the rule of law is an underlying prerequisite for growth. Rather, the more economists find out about the rule of law, the more desirable it seems—and the more problematic as
 a universal economic guide
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Contemporary China and Contemporary Russia, A Dramatic Contrast
Paul Weyrich
Wednesday, August 13, 2008
http://townhall.com/Common/PrintPage.aspx?g=242799d9-0703-45d4-937f-2ca0c53dc14d&t=c

As I watched the opening ceremony of the Olympic Games and witnessed the incredible images created by the Chinese people, my mind flashed back to the late Boris Yeltsin who imparted to me an insight on China which I thought would be of interest. Yeltsin told me that he saw to it that the people of Russia had political and religious freedom before they had any sort of economic freedom. "Because I knew if they had those it would be harder to go back." There has been a retrenchment of freedom in Russia but compared with what is gong on in China Yeltsin had it right.

Yeltsin's Chief of Staff, Gennady Burbulous, told me that when Chinese leaders met with Yeltsin they rebuked him, saying that they would retain control of China for the Communists. The Chinese leaders told Yeltsin, "You will regret the day you have given up control." Followers of both Russia and China know that there are fewer freedoms in Russia today than there were under Yeltsin.

Yet compared with China Russia is a bastion of freedom. While there are no longer independent television stations in Russia, many Russians get signals from various parts of the world. And there are many newspapers critical of the government. Not so in China. The Russian people are rather well informed about what is going on elsewhere in the world. Not so the Chinese. The Chinese people hear only what the Chinese Government wants them to hear. It is fairly easy to travel abroad from Russia. It is much more difficult for the Chinese. There is some freedom of religion in Russia. True, the Russian Orthodox Church is again the official religion of Russia but other denominations are permitted to practice there. Not so in China. Leaders there are persecuted for their religious beliefs.

Economic conservatives in this country have argued for decades that economic freedom inevitably leads to political freedom. Where is the proof? In ways China has some economic freedom. Is there any political freedom? I am open to be convinced but I can't find any.

Russia fancies herself now as a major world power as she was before the fall of the Soviet Union. We shall see. China will be a major world power soon. But the Chinese people have no real say about the direction of their government.

Many economic conservatives in the USA celebrate because cheap Chinese goods are available on the American market place. Millions of well-paying American jobs have been exported to China. I know I am considered a heretic in some circles because I would prefer to have those jobs here even if we would find ourselves paying for the goods at a higher cost to the consumer. Moreover, it concerns me greatly that China is financing our huge national debt. We are beholden to the Chinese to the tune of trillions of dollars.

Clearly China is capable of becoming a modern, powerful country. But it presently is a country in which freedom beyond the market place is nearly non-existent. Yeltsin, for all his faults, was correct. I doubt that Russia, despite the Cold War-type rhetoric of its leaders, will be a real threat to the West, particularly since its demographics are in steep decline. China is a different matter. Some of its leaders have an active plan to get the USA out of Asia. I am not sure our leaders take this threat seriously.
 
 

Copyright © 2008 Salem Web Network. All Rights Reserved.

Lee's Economic Mojo
FROM TODAY'S WALL STREET JOURNAL ASIA
WSJ August 14, 2008

At last, some good news from the Korean peninsula: South Korean President Lee Myung-bak is starting to get his economic mojo back. The privatization plan he unveiled this week is a modest but important step toward much-needed reform.
[Lee Myung-bak]

Mr. Lee proposes to sell off government stakes in 41 of more than 300 state-owned companies. Among the biggest names on that list: Korea Development Bank (due for privatization) and Industrial Bank of Korea (which would see its government stake reduced). He also wants to sell 49% of the country's largest airport, preferably, he says, to an experienced foreign operator.

The move comes as South Korea is struggling to cope with rising prices and a slowing global economy. Koreans supported Mr. Lee last year largely because of his economic reform platform, a key plank of which was privatizing inefficient state-owned or state-run companies. But in the first six months of his administration, his reform push lagged amid a string of political missteps, ranging from controversial cabinet appointments to his failure to stand down protesters opposed to U.S. beef imports.

So the new privatization plan is a welcome sign of reformist life. Die-hard reformers are disappointed the plan isn't as bold as what he suggested during last year's campaign. And at least some of the assets, such as shipbuilder Daewoo Shipbuilding & Marine Engineering, could be closed to foreign bidding. Nonetheless, privatization is progress and the Ministry of Strategy and Finance says the government expects several more rounds to be announced in coming months.

Refocusing on the economic reform platform that voters endorsed may also boost Mr. Lee's 20% public approval rating. A round of privatization, even a modest one, is a good start.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.

And add your comments to the Opinion Journal forum.
 
 

No more celtic tiger

Aug 11th 2008
From the Economist Intelligence Unit ViewsWire
Trouble for Ireland's economy, in particular for its financial-services industryI

Strong growth in domestic and internationally traded services up to 2007 supported a robust expansion in Ireland's financial services industry. However, with negative GDP growth forecast for this year and in 2009, continued turmoil in the world's financial markets and strains in the international banking system, the outlook for both the domestic and the foreign-oriented sides of the industry is less than rosy.
Lending squeeze

Demand for loans will continue to weaken in the next few years. Mortgage borrowing, corporate investment and, to a lesser extent, personal consumption are all expected to be considerably lower, as the economy slows and the property market undergoes a correction. Despite this decline in demand, though, it is possible that ongoing difficulties in the banking sector, either domestically or internationally, could hinder the ability of financial institutions to supply even these lower levels of credit.

Domestic private-sector credit growth accelerated rapidly from 2003 until the end of 2005, when it peaked at 30%. This was driven to a considerable extent by a phenomenal expansion in mortgage lending and borrowing by companies in the property sector. Growth in the stock of mortgage lending has declined steeply (and smoothly) since early 2006, far from the peak of almost 35% year on year to a rate of growth below 10% by the middle of 2008.

The other major element of household credit—credit for non-housing purposes—has also experienced considerable growth in recent years, but it remains modest (the restraint of consumers is illustrated by private consumption as a percentage of GDP falling over the past 15 years). Mainly owing to high levels of mortgage borrowing, household debt (as a proportion of national income) has risen rapidly in recent years and is now among the highest among the OECD economies. In combination with the high proportion of those borrowing at variable rates, Ireland is more sensitive to changes in interest rates than any other euro area country.
Housing slump

In the decade up to 2006 residential property prices in Ireland rose more rapidly than in any other developed economy. Strong demand partly explains this: incomes, employment and population all grew robustly. The increase in the supply of new housing was just as phenomenal—the number of annual housing completions in 2006 was almost five times that of the early 1990s, which compares with static output in the euro area and in the UK. However, when supply and demand fundamentals are considered in tandem, the enormous increase in prices was unjustified.

Consequently, the country's property market is now going sharply into reverse. Prices have been falling for 18 months and excess supply makes further declines all but inevitable. In the event of an even sharper correction than is currently predicted, the main lenders would probably suffer badly. Although Ireland's banks have been highly profitable over a long period and are thus well capitalised, they are hugely exposed to the domestic property market. The international credit crisis, should it continue, could cause serious financing problems for the banks, adding to concerns about their balance sheets.

One of the variables to keep a close eye on is the extent of foreclosures in the coming years. Thus far, there has been little sign of widespread non-performing loans, but if the rate of repossession of properties by banks accelerates, the resale of these repossessed properties into a falling market would further depress prices. This could result in the recession being deeper and longer than anticipated.
Banking bother

In terms of competition in the banking system, only modest intensification is expected in the short to medium term. Concerns about the lack of competition in the sector have been regularly highlighted by both the Competition Authority and the Irish Financial Services and Regulatory Authority, despite the arrival of overseas players in the savings, mortgage and business markets. The result is that costs to businesses (in particular) will remain high, with overdraft rates, for instance, above those of other euro area countries.

One development that has the potential to shake up the market would be the takeover of one or both of the main clearing banks, Bank of Ireland and Allied Irish Bank, by a larger European institution. Although such a development has long been on the cards—as expectations of consolidation in European banking grew following the launch of the euro in 1999—the collapse in these banks' share price since mid-2007 and their related over-exposure to the falling Irish property market may make them more vulnerable to a takeover.
Structural limitations

Ireland's equity culture has developed in recent years, yet its importance for corporate financing is likely to remain limited. Many of the reasons for this are structural. The limited size of the economy means that Irish firms are mostly small or medium-sized, and as the indigenous equity market is neither particularly deep nor wide, there is a tendency for those firms that do reach a critical mass to list on foreign markets. The launch of the euro has also taken its toll, as euro area markets have integrated, lessening the attraction of smaller exchanges.

For similar reasons, the Irish corporate bond market is underdeveloped. The creation of a market for corporate bonds in 2003 has resulted in an expansion of this form of company financing, but growth will also be restricted. The market for government bonds has suffered illiquidity problems in recent years, as public debt has fallen to low absolute levels (as a percentage of GDP it is among the lowest in the OECD).

However, a rapid move into deficit by the government will see the need for significant new issuance. Although this may slightly reduce the small premium investors demand for holding Irish government debt, it will be more than offset if the recent widening in yield spreads over the euro area benchmark bond (the ten-year German bund) persists or widens.
 

copenhagen series
 
Prizes to Improve Life
By NEWT GINGRICH
WSJ August 11, 2008

Two weeks ago The Wall Street Journal kicked off a debate on how best to allocate scarce resources to solve the world's problems. Bjorn Lomborg offered a summary of the latest findings from his Copenhagen Consensus project, where he has enlisted some of the world's top economists to address the issue. Now we're offering views on the subject from top political and business leaders. How would you spend $10 billion of American resources (either directly or through regulation) over the next four years to help improve the state of the world?
[The Copenhagen Consensus]
David Klein

Historically the greatest improvements in the quality of life have come from two long patterns -- the extension of the rule of law and the development and diffusion of technology.

First, there has been a gradual extension of the rule of law, which protects the weak from the predatory and ensures private property rights, which encourages the accumulation of wealth and the expenditure of effort.

In places like Darfur, Myanmar and Zimbabwe, the extension of the rule of law would do more to improve human lives than any other approach. In authoritarian states like Russia, the reassertion of the rule of law would improve the process of wealth creation and increase the security and prosperity of the middle class.

Unfortunately, the extension of the rule of law is a complex and difficult process and $10 billion would have little effect on it.

Therefore it would be better to focus on the development and diffusion of technology.
[nowides]
COPENHAGEN CONSENSUS
 
For full coverage, visit our Copenhagen Consensus page.

New technologies have been improving life for virtually all of known history (think of fire or the wheel as examples of early technological breakthroughs). Given the inefficiency and slowness of bureaucracies with a four-year time horizon and a limited amount of money, I would favor the use of large tax-free prizes.

Prizes are powerful because they send signals to everyone that they can compete. Furthermore they are payable on achievement rather than on application.

The modern emphasis on peer-reviewed research has three bad side effects. One, it leads people to spend an amazing amount of time on the paperwork of application rather than on actually doing the experiment or undertaking the research. Second, it limits the applications to credentialed people. Third, it is a very cautious process that emphasizes relying on the approval of peers who tend to be cautious.

The Wright brothers could never have gotten peer-reviewed government funding for their airplane; in fact the Smithsonian Institution had failed to invent a workable airplane even though it spent more money than the Wright brothers.

Henry Ford could never have gotten government funding for the development of his first car; he was a shift foreman at the Edison Electric Plant in Detroit when he started.

Thomas Edison could never have gotten a government bureaucracy to subsidize the estimated 49,000 failures by Edison and his assistants that led to the invention of the electric light bulb.

Prizes would be a useful experiment in large-scale breakthroughs.

Here are seven prizes, the first three at $2 billion tax free and the last four at $1 billion each tax free (tax free because not paying taxes makes these prizes psychologically worth much more):

1) A low-cost vaccine or preventive intervention for malaria -- possibly the single biggest potential improvement in the quality of life in poor tropical countries.

2) A modestly priced, mass-manufacturable hydrogen engine for cars, which would be the biggest single contribution to reducing carbon loading of the atmosphere and reducing subsidies through high oil prices to dictatorships.

3) A cheap method for turning large quantities of seawater into fresh water.

4) A reusable system that could get people into space at 10% of the current cost, thus enabling genuine space tourism and launching an age of exploration.

5) The first privately financed permanent lunar base.

6) A method for reusing nuclear waste to make Yucca Mountain, Nevada unnecessary as a repository.

7) A method of learning math and science that kids like, and that enables us to leapfrog India and China by breaking out of our unionized, bureaucratic curriculum. This would enable us to replace "No Child Left Behind" with a more effective education model that could be called "Every American Gets Ahead."

Mr. Gingrich, a Republican, is a former speaker of the House of Representatives.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.

And add your comments to the Opinion Journal forum.

Downshifting China's Economy
By SAM BAKER
FROM TODAY'S WALL STREET JOURNAL ASIA
WSJ August 5, 2008

China's National Development and Reform Commission reported last month that unsold inventories of cars in China rose to a four-year high of 170,000 units, a rise of roughly 50% from the beginning of the year. That inventory bulge was little noticed in the popular financial press, but it represents a potential trigger for the unwinding of what has appeared up to now to be a bulletproof growth boom for the Chinese economy.

The sharp inventory increase in such a strategically important industry is a dangerous red flag. Up to now, record investment has been driving booming GDP growth, which in turn has been slowly but surely pushing up consumer spending. Surging automobile sales have been a key barometer of this trend, especially since 2004, when foreign capital inflows began to surge into China, and -- not coincidentally -- the economy started to take off into the current boom, which suddenly looks vulnerable.

That such a large number of cars have gone unsold this year is a sign that consumers are increasingly reluctant to ramp up their spending. It's especially worrying since, given the complexity of automobile manufacturing, a slowdown in auto sales can ripple through the larger Chinese economy via the large network of suppliers supporting the industry.

Worse than the inventory overhang itself is the fact that there isn't an easy policy solution. If consumer price inflation had not already started to hit problematic levels in China, policy makers would have a straightforward fix. The central bank could cut interest rates to boost consumption of consumer durables such as automobiles, and inventory levels of unsold cars would eventually normalize.

Although the year-on-year measure of headline inflation has moderated over the past few months, from a high above 8% in February to 7.1% in June, inflationary pressures remain a clear and present danger for policy makers given the continued upward trend in producer prices, which tend to filter into consumer prices with a lag of roughly six months or so. Producer prices grew 8.7% in June for the highest year-on-year gain since 1999. Less than 12 months ago producer prices were posting modest gains consistently below 3%. Thus, with underlying inflationary pressures still brewing in China, and with the one-year policy lending rate at 7.47% -- less than 50 basis points above what is still a heavily managed consumer price index number -- it is hard to imagine the People's Bank of China cutting interest rates to boost growth into the foreseeable future.

The last time Chinese policy makers faced such a daunting challenge in charting the domestic economy through such treacherous waters was during the Asian crisis period, when capital flight risked destabilizing the economy. Unfortunately, they can't apply the lessons they learned then to the current situation. During the Asian crisis, policy makers could just "hang on" with a basket of temporary policy measures until the economy stabilized and capital flight slowed -- and eventually reversed. Chinese policy makers deftly implemented a de facto currency depreciation via rebates to the export sector, which helped provide a lifeline to the economy while Asian economies eventually recovered. China avoided the fate of Asian crisis countries and the world exhaled. Chinese policy makers were successful because temporary measures provided a sufficient bridge through which the country could traverse turbulent external conditions.

This time around, China is facing the opposite policy challenge, with so-called hot money inflows (not outflows) causing accumulated distortions in the financial sector and throughout the economy, and spurring massive policy interventions. Just "hanging on" won't solve what is a crisis of "reverse capital flight" -- too much hot money flowing into an economy that is already bursting at the seams with excess liquidity.

Nothing short of a domestic economic implosion seems likely to slow -- let alone reverse -- hot money capital inflows into China. The growth rate of foreign exchange reserves doubled in 2006 and 2007 and is set to double again in 2008. Foreign exchange accumulation in the first half of 2008 already matches total accumulation for 2007. With such enormous capital inflows continuing into China, the temporary measures policy makers have used to neutralize the impact of capital inflows are starting to show signs of fatigue.

Rising inventories have always been a potentially important "canary in the coal mine" indicating imminent macroeconomic vulnerabilities for China's economy. A sudden buildup of inventories is something the government has less direct control over compared to policy levers such as interest rates and the exchange rate, or compared to consumer price inflation, which remains systematically suppressed in China through a variety of measures including price controls, subsidies and shortages.

If rising automobile inventories continue to accumulate and spread to other industries in related downstream sectors, and if the impact of rising inflation continues to dampen consumption and corporate profits, then investment is likely to decline. This would trigger a self-reinforcing cycle of economic gloom that would be the opposite of the positive reinforcing cycle we have seen throughout China's economic boom over the past four years.

It is possible that rising automobile inventories are a temporary phenomenon caused by reluctant consumption in the wake of the back-to-back natural disasters like the winter blizzards and May's Sichuan earthquake that have pummeled China's economy. However, because car sales have continued to slow into June, it is more likely automobile sales are slowing for the more fundamental reason of higher inflation cutting into household disposable income.

Mr. Baker is director of Asia research at the Trans-National Research Corporation.
 

Iceland's blend of old and new
Iceland's blend of old and new
http://www.voxeu.org/index.php?q=node/1387

Thorvaldur Gylfason
10 July 2008
 
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Understanding Iceland and its current financial predicament requires some history and context. Here Iceland’s best known professor of economics explains the essentials.

Iceland has never been boring, far from it.

Despite its dearth of people, it thrives on its culture, a curious blend of old and new, from Njál’s Saga1 to Björk.2 This is one of the keys to Iceland’s ability to reclaim the thousands upon thousands of its young people who have studied abroad. At present, one percent of the country’s population attends universities in 36 different countries around the globe. If the past is any guide, most of these young people will return to Iceland to live and work. True, high-quality culture is more fun if you share first place in the United Nations Human Development Index as Iceland did, with Norway, in 2007.

Low-quality politics does not scare the young away, at least not yet. In the past, it is true, there were times when a number of them might have voted with their feet, but they didn’t. Well, Björk did, but that was irresistible pull, not push.
“Within at least calling distance”

Iceland’s politics, unlike its culture, is a somewhat unbalanced blend of old and new. Understanding Iceland and its current financial predicament requires some history and context. Since Home Rule in 1904, the rural areas have been overrepresented by a large margin in the Icelandic parliament, imparting a provincial, protectionist bias to economic policy and to the structure and functioning of the economy. Throughout most of the 20th century, each farmer was able to cast the equivalent of three to four votes in parliamentary elections. Until 2003, the provinces kept their majority in parliament even if nearly two thirds of the people now live in Reykjavík. The bias built into the electoral law resulted in a slow and lopsided transition from a quasi-planned economy toward a mixed market economy, and in a similarly reluctant depolitization of economic life, including the banks whose privatization was completed only a few years ago.

The privatization was long overdue, but its implementation was flawed; for example, a couple of major players in the ruling coalition that privatized the banks either became rich – very rich – or kept their seats on the banks’ boards after the privatization, or both. The editor of Morgunblaðið, a daily newspaper with close ties to the Independence Party, the largest political party, described the privatization process in a celebratory essay on the prime minister in 2004, presumably published with the subject’s prior approval. The editor wrote that, given that the then second-largest political party had secured its claim to the second largest state bank, the prime minister, now self-appointed Central Bank governor, “considered it necessary that Landsbanki would land in the hands of persons within at least calling distance of the Independence Party” (my translation, TG).

The main aim of the privatization ought to have been to sever completely the old ties between the political parties and the banks, as I advised the government in 1993 in a published report, but that was not to be.
Good sisters get along

The vestiges of the old differences between the rural areas and Reykjavík, whose population grew from 6,000 in 1904 to 180,000 today, manifest themselves in many ways.
Today, despite significant liberalization in recent years, they help explain a somewhat inward-looking, protectionist economic culture that gave too much say in economic affairs to politicians, especially rural politicians with far fewer votes behind them than elected representatives from Reykjavík. If by an emerging country is meant a country where politics matters at least as much as economics to the markets, a common definition, Iceland remains a contender.

This inward-looking economic culture, in turn, helps explain why four of the five political parties represented in parliament are still against Iceland’s entry into the EU and EMU even if, according to most opinion polls, the majority of the supporters of each of the five parties from left to right favours Icelandic accession. Presumably, this is why politicians against membership do not want a referendum, with one vote per person, to be held to settle the matter.

Judging by opinion polls, Iceland might well have joined the EU with Austria, Finland, and Sweden in 1995 had a referendum been held at the time. Had Iceland adopted the euro along the way, and perhaps even without the euro, the domestic part of the current crisis could thus have been avoided if, years ago, political leaders had managed to secure a better balance of power between town and country, for they are sisters – and good sisters get along.
A welcome correction

The recent financial turbulence and the increasing likelihood of a hard landing have strengthened popular support for Icelandic EU membership. Some employers’ associations, frustrated by the wild gyrations of the króna, have now at last come to the conclusion that the króna, the smallest independently fluctuating currency in world markets, is too volatile and that the euro is the sole viable alternative. Even so, employers in the fishing industry remain against membership, mostly out of fear that this would force Iceland to share its fish with other EU members. The króna has depreciated by a third since the beginning of 2008 while the national stock market index has likewise decreased by a third, and by more than a half since its peak a year ago.

The stratospheric rise of the stock market – by a factor of nine from 2001 to 2007, equivalent to a 44 percent average annual increase six years in a row – was clearly a bubble. An increase in general stock prices by a factor of nine in just six years is a world record, as pointed out by Professor Robert Aliber in a forthcoming paper presented at the University of Iceland in June 2008. A correction, therefore, was inevitable.

Also, in view of the rapid escalation of foreign indebtedness in recent years and the ensuing spending spree, the króna was bound to depreciate.3 This, too, is a welcome correction, painful though it is for many firms and households, especially those who took low-interest euro-denominated loans before the fall. For Iceland to be able to join the EU and EMU, the exchange rate of the króna must be right. There are indications that the króna may need to depreciate a bit more in real terms before it reaches a level that is consistent with sustainable external balance.4 Given the double-digit inflation rate at present, this would require a further depreciation in nominal terms. Once this correction has been completed and inflation has been brought back down below three percent a year, Iceland will be ready to join, provided that the necessary realignment of political forces takes place. Trying to talk up the króna, as some have done, is tantamount to trying to talk down the prospects of EU membership.
Where do we stand?

Iceland‘s per capita GDP continues to rank high among the high-income countries. In 2007, as noted before, Iceland shared first place in the Human Development Index with Norway, a ranking based on longevity and education as well as per capita income. As for the income part of the index, GDP per hour worked would be a better measure than GDP per person because the former takes into account the work behind the output.

Figure 1 shows GDP per hour worked in the OECD region. The numbers are taken from the University of Groningen database5 that includes internationally comparable estimates of hours of work.

Figure 1 OECD: GDP per hour worked 2007 (US$ at PPP)

We see that, in 2007, the PPP-adjusted GDP per hour worked in Iceland was $36 compared with $44, $45, and $46 in Finland, Denmark, and Sweden and $70 in Norway. The figure exposes the inefficiency (e.g., from excessive farm protection with food prices to match and lack of competition in some other areas as well, including banking) that continues to plague Iceland where it still takes a lot of work – like in Japan and the United States – to sustain a high level of GDP per person.

High prices and high interest rates reduce the purchasing power of households and compel wage earners to work long hours – and to borrow – to make ends meet. This lack of efficiency is an important part of the reason why Iceland needs to join the EU.

There are three main reasons for the relatively low labour productivity in Iceland.

    * First, there has been too little investment in machinery and equipment. Since 1995, investment in construction has doubled relative to GDP.6 The share of machinery and equipment in total investment has decreased from a bit less than a half in 1990 to a third in 2007. These trends are exacerbated by the fishing industry, whose fleet has not contracted significantly despite reduced catches, in part presumably due to overfishing, discarding, and illegal landings like elsewhere in Europe7 as well as stakeholder conflicts and the inequitable nature of the fisheries management system which the UN Committee on Human Rights has recently declared a violation of human rights and instructed the Icelandic government to rectify.8 Reduced catches without a corresponding cutback of input use mean lower productivity in the fisheries.
    * Second, despite great strides on the education front in recent years, the share of the Icelandic labour force (25-64 year olds) with no more than primary education is twice that of Denmark, or 37 percent in Iceland compared with 19 percent in Denmark, 21 percent in Finland, 23 percent in Norway, and 16 percent in Sweden.9 The long hours of work also seem likely to lower productivity and living standards.
    * Third, the LSP agenda – liberalization, stabilization, privatization – of recent years was carried out in ways that allowed the banks and their debts to grow far out of proportion to the size of the country while the Central Bank neglected to raise reserve requirements as needed instead of reducing them to accommodate the banks and neglected also to build up adequate foreign exchange reserves.10 These mistakes rendered the Central Bank unprepared to guarantee the stability of the financial system, let alone low inflation, as required by law. Lax fiscal policy did not help. Even so, thanks in part to its young people who keep returning home from abroad, Iceland’s medium-term prospects are bright.

Footnotes

1 Njál‘s Saga, with an introduction by Thorsteinn Gylfason, Worldworth Classics of World Literature, 1998.
2 Her 1990 disc Gling-Gló, sung mostly in Icelandic, is a local classic.
3 See my recent VoxEU column “Events in Iceland: Skating on thin ice?” See also Gylfi Zoega‘s VoxEU column “Icelandic turbulence: A spending spree ends.”
4 See Robert Tchaidze (2007), “Estimating Iceland’s Real Equilibrium Exchange Rate,” International Monetary Fund Working Paper No. 07/276.
5 See http://www.ggdc.net.
6 See Daniel Gros (2008), “Iceland on the brink?,“ CEPS Policy Brief No. 157, April.
7 See my VoxEU column “Dwindling fish: what’s the catch?“
8 See International covenant on civil and political rights, CCPR/C/91/D/1306/2004, 14 December 2007.
9 See OECD, Education at a Glance 2007, table A1.2a.
10 See Robert Wade, “Iceland pays price for financial excess,“ Financial Times, 1 July 2008.

This article may be reproduced with appropriate attribution. See Copyright (below).

Topics: Europe's nations and regions
Tags: Iceland
 
 

Thorvaldur Gylfason
Professor of Economics, University of Iceland and CEPR Research Fellow
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THE RICH WORLD AND THE FOOD CRISIS
Why are markets full of food that developing-nation consumers
       can not afford to buy, asks Adam Lerrick?... AMERICAN
       ENTERPRISE INSTITUTE

------------------------------------------------------------------------

Leaders of the G-8 nations are gathered this week in Tokyo, Japan, to
root out the culprits in a food crisis that has moved hundreds of
millions from subsistence to starvation.  In fact, they only have
themselves to blame, says Adam Lerrick, a visiting scholar at the
American Enterprise Institute.

The G-8 countries' interventions have distorted global agricultural
markets to the paralysis point, says Lerrick.   Indeed, the
new famine is not about a crisis in global supply.  Markets are
full of food that developing-nation consumers can not afford to buy:
   o   Prices for rice, corn, wheat and soy beans, the staple crops
       for world sustenance, have doubled in a single year.
   o   This pinches families in developed countries who allocate 15
       percent of their income to food.
   o   In poor countries, where many spend 75 percent of their
       earnings to eat, real wages have been cut by a life-changing
       one-third.
In response, countries whose people are being hit hard are adopting
policies that mortgage their economic future:
   o   From Mexico and Indonesia to Egypt and Côte d'Ivoire,
       governments have responded to protest and riots with backward
       measures that keep domestic prices down but choke off
       incentives to plant and harvest more.
   o   One-third of the world's population now lives under food
       price controls.
   o   Subsidies to keep rice and bread on the table are eating up
       scarce funds.
   o   In the name of conservation, U.S. farmers have been bribed to
       keep fields fallow -- 36 million acres of cropland, the size
       of Iowa, at a taxpayer cost of $2 billion a year.
   o   In Europe, large farmers have been compelled to leave 10
       percent of their holdings idle.

Source: Adam Lerrick, "The Rich World and the Food Crisis,"
Wall Street Journal, July 8, 2008.
For text:
http://online.wsj.com/article/SB121547397953534035.html
For more on Trade Issues:
http://www.ncpa.org/sub/dpd/?Article_Category=42

------------------------------------------------------------------------
G8 SHOULD ABANDON CURRENT MODEL OF AID FOR HEALTH

   o   We should completely rethink the way foreign aid is delivered,
       bypassing corrupt and inefficient government ministries and
       making far greater use of private organizations, according to
       report... CAMPAIGN FOR FIGHTING DISEASES
------------------------------------------------------------------------

As the G8 gathers this week in Hokkaido, leaders will pledge billions
more aid for health in Africa -- despite the fact that previous aid has
had almost no impact.  In fact, countries around the world should
completely rethink the way aid is delivered, bypassing corrupt and
inefficient government ministries and making far greater use of private
organizations, says the Campaign for Fighting Diseases (CFD).

Consider:
   o   Recent years have seen massive increases in foreign aid for
       health, rising to 13 percent of total overseas aid in 2005 and
       accounting for over 19 percent of all health spending in
       Sub-Saharan Africa.
   o   In spite of this, the region is making no progress towards
       meeting the health-related Millennium Development Goals.
Much of this failure is due to aid going directly to ministries in
developing countries, who are then supposed to use the money to deliver
health care, says the CFD.

Mismanagement, corruption and waste ensure that very little of it
reaches patients.

Instead, the CFD suggests that donors should stipulate that their funds
be used to finance competitive, outcome-based contracts to deliver
health care.  Such contracts would see non-profit, private sector
and government entities competing to provide health services, with
continued funding contingent on actually delivering results.
Where they have been used, contracts have outperformed government
provision in cost, effectiveness and equity, says the CFD.  For
example:
   o   The government of Cambodia has been so successful with their
       contracting program that it has now been extended to cover one
       in ten Cambodians.
   o   Six other case studies show that contracting delivers results
       far superior to government provision.
Source: "G8 Should Abandon Current Model of Aid for Health - New
Report," Campaign for Fighting Diseases, July 03, 2008.
For text:
ttp://www.fightingdiseases.org/main/pr.php?pr_id=28
For text to the study:
http://www.fightingdiseases.org/pdf/Foreign_Aid_Health_WEB.pdf
For more on International Issues:
http://www.ncpa.org/sub/dpd/?Article_Category=26

Microfinance, Big Impact
By SYED KAMALL
FROM TODAY'S WALL STREET JOURNAL EUROPE
WSJ July 7, 2008

BRUSSELS

The leaders of the world's richest nations are in Toyako, Japan, this week to discuss how to stabilize their economies. While climate change and human rights may also make the agenda, there will be none of the grandstanding initiatives on debt relief or aid for Africa that we have seen from G-8 leaders in recent years.

This may be no bad thing; no poor country ever got rich on a G-8 aid package. The money too often distorts their economies or falls into the wrong hands. When I meet successful African entrepreneurs, many of them cannot hide their resentment of the years they spent battling with their local bureaucracies. This red tape has frustrated their wealth-creating endeavors at every turn and often meant that they had to cut deals with local officials simply to be in business.

The rich nations that feed this bureaucracy should help instead by lowering their trade barriers to the poor. But they are too busy arguing at the World Trade Organization over narrow or arcane agriculture issues, such as hormone-treated beef or support for cotton farmers. Poor countries must take the initiative by opening up their own economies. It is no coincidence that those countries which have lowered their own trade barriers unilaterally, such as China, have grown fastest in recent years.

Wealth creation in these countries depends on support for the skills and institutions that give businesses the confidence to trade and grow. Take Opportunity International, the U.K.'s biggest microfinance charity. It treats poor people as clients rather than as victims and ensures that it is investing money wisely by requiring would-be recipients to complete financial education lessons before it hands them a loan – usually a very small amount, like $50. These loans get people started in business, such as helping a Ugandan mother to build up her chicken farm or a 60-year-old widow in Ghana to become an employer of 10 orange sellers, netting enough income to build a house and send her six grandchildren to school.

As the former governor of the Central Bank of Malawi, Francis Pelekamoyo, has explained to me, this system of microfinance is the best way of bringing out the natural entrepreneurship of some of the world's poorest people. It is a self-sustaining model that creates wealth among individuals and their communities and can help drive national economies.

One of my favorite charities, the Kitchen Table Charities Trust, not only funds microfinance schemes but provides direct finance to other charities, too. It paid, for example, for the Mango Tree charity to establish orphan support programs in Kenya and Malawi. It also paid for a workshop where men with polio are taught to make children's toys so they no longer need to beg to support their families.

With the right funding, these sorts of charities could play an even bigger role in developing economies. Governments, on the other hand, should restrict themselves to the establishment and enforcement of basic market rules: respect for private property, responsibility for one's actions, the honoring of contracts, and the protection of society from violence and social strife.

The model for economic growth has already been written in parts of southern and eastern Asia and in Latin America. Last year more people were lifted out of poverty than in any other year in human history. And there are signs of hope now in Africa. From Rwanda in the east to Botswana in the south and Ghana in the west, we are witnessing a flourishing of economic activity at ground level.

These poor but stirring economies hold a lesson for the leaders of the G-8. Open economies with high skill levels and accessible capital markets are best placed to prosper. Protectionism inhibits long-term wealth creation and is no guarantee of short-term stability. There are no quick fixes – you only have to look at Africa to learn that.

Mr. Kamall is a Conservative member of the European Parliament for London.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.
 
 
 

How Inflation May Topple Mugabe
By ROGER BATE
WSJ July 7, 2008

Amid Zimbabwe's political violence is an economic lesson for anyone who doesn't keep an eye on inflation. The country's dictator, Robert Mugabe, who was sworn in on June 29 to his sixth term as president, has killed a few hundred of his opponents in the past few months, but his country's inflation is killing far more than that. With food aid only trickling back into the country and hundreds of thousands without enough cash to buy food, it was clear during a trip there last month that the crisis is deepening.
[Robert Mugabe]

Consumer prices have more than doubled every month this year, in some cases doubling every week. A conservative estimate provided by Robertson Economic Information Services, a Southern African consultancy, says that prices are now three billion fold greater than seven years ago. That's right, billion. The exchange rate is currently an astronomical 90 billion Zimbabwe dollars to one U.S. dollar.

When I first went to Zimbabwe in 1996, $1 would buy you eight Zimbabwe dollars – a depreciation in exchange rate of perhaps 10 billion fold in 12 years. A decade ago, 500,000 Zimbabwe dollars would have bought you a house; today it can't buy you anything.

Incredibly, the situation on the ground is even worse than any available data can reflect. Inflation numbers are almost meaningless, with some reports showing that prices triple now on a daily basis, and for some food items prices double hourly. Hyperinflation is approaching the status of the post World War I Weimar Republic and post World War II Hungary, the worst recorded inflations in history.

Joshua Kipuru (not his real name, since he is concerned about reprisals for criticizing the government) told me via telephone that he gave up trying to get cash at his bank in Harare last week, since the lines were too long and slow moving. In the end Mr. Kipuru bought groceries with his debit card, which remarkably still works. The card, he explained, maxes out at just under 10 billion Zimbabwe dollars. So he had to run it 74 times, given that his food bill was nearly 730 billion Zimbabwe dollars.

Buying anything is a "bizarre experience," said Lucy Chimtengwende from Bulawayo, who spent $12 U.S. on lunch recently, with the bill in local currency being an astonishing 1.1 trillion Zimbabwe dollars. The menu had no prices on it, she told me by phone, prices are quoted to you and are constantly changing. And if you want to pay by check, good luck. Most proprietors don't accept them, and for those that do, the price is double, given the time it takes the vendor to receive payment.

Ms. Chimtengwende was breaking the law by paying for her meal in U.S. currency (or "greens" as they're known locally), as was the owner of the restaurant accepting it. But the economy is dollarizing as the local currency literally becomes worthless: "We are billionaires and can't buy anything," bemoaned Mr. Kipuru.

The only immediate hope to end to this inflationary nightmare is if the presses are turned off and the Mugabe government simply runs out of currency. There are local indicators of this; the lines to get cash from Harare's banks are getting longer by the day, suggesting a restriction in the supply of banknotes.

Mugabe's supplier has also reportedly cut off the printing press. In the weeks prior to the March 29 election, the German company, Giesecke & Devrient (G&D), ran its printing presses at maximum capacity, delivering 432,000 sheets of banknotes to Mugabe's government each week. The money, equivalent to nearly $173 trillion Zimbabwe dollars ($32 million at that time), was then dispersed among key constituencies, notably the security forces, as bribes.

After the March election, G&D kept the presses running, worsening the situation. Thankfully, after a public protest outside its German headquarters, critical articles in the German and international press, and pressure from the German foreign ministry, G&D announced on July 1 that it would stop printing the bank notes.

It is uncertain how much of a supply Mugabe's regime still has, but with the current inflation rate driving demand for cash skyward, it is possible the regime will run out of notes in weeks, unless another supplier, perhaps from China, steps in.

While the international community, the African Union and Zimbabwe's neighbors may not be able to stop Mugabe, the economy might. With no means of exchange, a barter economy is already taking hold with services being traded instead of cash. If Mugabe doesn't relinquish power soon, Zimbabwe will resemble a medieval economy – and a poor one at that – within weeks.

Mr. Bate is a resident fellow at the American Enterprise Institute.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.
 
 

In "Famine Mentality in a Time of Bumper Crops," Cato research fellow Swaminathan S. Anklesaria Aiyar writes: "International rice and wheat prices have doubled or tripled in the last two years, but world grain production will reach a record high this year. So how come millions are falling into poverty and starting food riots across the world? The answer lies not in any outsized surge in world demand or fall in world supply, but in the fact that several countries, including China, have imposed duties, quotas and outright bans on agricultural exports. ... Today, each country wants to curb agricultural exports and stimulate imports to reduce prices. But if every country limits exports, the result is a decline in world imports, so prices rise instead of falling. Solving the problem may require coordinated international action. After the Great Depression, the world community created the Global Agreement on Tariffs and Trade -- which later morphed into the World Trade Organization -- to negotiate simultaneous cuts in import barriers by major trading powers. This coordinated approach thwarted free riders, and gradually gained acceptance by all."
More

 Famine Mentality in a Time of Bumper Crops
http://www.cato.org/pub_display.php?pub_id=9403

by Swaminathan S. Anklesaria Aiyar

Swaminathan S. Anklesaria Aiyar is a research fellow at Center for Global Liberty and Prosperity at the Cato Institute.

Added to cato.org on May 16, 2008

This article appeared in the South China Morning Post on May 15, 2008.
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International rice and wheat prices have doubled or tripled in the last two years, but world grain production will reach a record high this year. So how come millions are falling into poverty and starting food riots across the world? The answer lies not in any outsized surge in world demand or fall in world supply, but in the fact that several countries, including China, have imposed duties, quotas and outright bans on agricultural exports. This has reduced the amount of grain available for world trade.

The United Nations Food and Agriculture Organization estimates that world production of cereals was a record 2,108 million tons in 2007, and will hit a new record of 2,164 million tons in 2008. Rice production will rise by 7.3 million tons and wheat by 41 million tons. World cereal consumption has been growing slightly faster (3%) than production (2%) for a decade, so global stocks have fallen to 405 million tons. But this is not a disaster scenario, and it hardly explains skyrocketing prices.

Swaminathan S. Anklesaria Aiyar is a research fellow at Center for Global Liberty and Prosperity at the Cato Institute.
More by Swaminathan S. Anklesaria Aiyar

In the U.S., one-fifth of the corn crop has been diverted to ethanol, and in Europe, some vegetable oil has been diverted to biodiesel. These ill-conceived policies have induced farmers to switch significant acreage from wheat to corn, soybeans and rapeseed, but world wheat output has nevertheless risen from 596.5 million tons in 2006 to an estimated 647.3 million tons in 2008. Corn-based ethanol cannot explain the runaway increase in the price of rice, which grows in very different conditions.

Biofuels caused an initial spike in prices, which then led to panic, export protectionism and speculation in commodities futures -- and these latter factors have increased prices much further. To protect domestic consumers from rising world prices, dozens of governments have curbed the export of rice and wheat -- principally Argentina, Brazil, Russia, China, India, Ukraine, Vietnam, Cambodia, Pakistan, Egypt, and Indonesia.

Export controls have reduced the amount of rice and wheat available for world trade. The FAO estimates that world trade in rice will fall from 34.7 million tons in 2007 to 28.7 million tons in 2008, and trade in wheat from 113 million tons to 106 million tons. Actual trade may fall even more, as more and more countries impose export controls. Absent these limitations, it would be inconceivable for trade in grain to contract so sharply after record world harvests.

Countries limiting exports hope to reduce hoarding, which could send prices even higher. India has set limits on the stocks that each trader can hold.

But countries imposing export controls, have, in effect, become hoarders themselves, creating an artificial scarcity in the world market, and an artificially high world price. Farmers know what their crops could fetch on the world market, so they demand higher prices at home. And around and around we go.

This has eerie similarities to the Great Depression, when many countries resorted to import protection to protect jobs at home, and simultaneously devalued their currencies to try and push up exports. Yet the Great Depression got worse, thanks to what John Maynard Keynes called the fallacy of composition.

If one country alone resorts to import protection and devaluation, it can temporarily increase jobs. But at a global level, one country's exports are another's imports. If all countries reduce their imports, they unwittingly end up reducing their exports, too. And job losses get worse.

Today, each country wants to curb agricultural exports and stimulate imports to reduce prices. But if every country limits exports, the result is a decline in world imports, so prices rise instead of falling.

Solving the problem may require coordinated international action. After the Great Depression, the world community created the Global Agreement on Tariffs and Trade -- which later morphed into the World Trade Organization -- to negotiate simultaneous cuts in import barriers by major trading powers. This coordinated approach thwarted free riders, and gradually gained acceptance by all.

WTO rules permit food export limitations. In the Doha Round of trade negotiations, WTO has sought to reduce agricultural subsidies causing excess production. It never anticipated that export controls might create scarcities.

The new developments may improve the prospects of the Doha Round. But quick action is needed to tackle rising hunger. The WTO should convene an emergency meeting for countries to jointly reduce export controls. Even modest concessions can be in exporters' self-interest, as they would cause world prices to fall sharply, and thus ease domestic price pressures.

The terrible irony is that world grain production will be at a record high in 2008. People are hungry, and it's not because there isn't enough food to go around.
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 Defending the US dollar in Panama
http://www.latinbusinesschronicle.com/app/article.aspx?id=2548
Steve H Hanke, one of the world's leading currency experts, defends the use of the US dollar in Panama in a letter to the editor published in the Financial Times today. He takes issue with a comment from Wolfgang Münchau last week that "the Irish could use the euro if they wanted to but this would be like Panama using the dollar – a little sad, really.” In a table used with his letter, Hanke points out that Panama's inflation the past 25 years has been an average of 1.22 percent versus 7.01 percent in the European Union and a whopping 75.2 percent in Latin America.  Meanwhile, GDP growth has averaged 7.7 percent the past five years versus 2.5 percent in the EU.  "The table ... indicates just why the US dollar evokes nothing but joy in Panama," Hanke writes.
 

MARKETS FOR THE POOR IN MEXICO
------------------------------------------------------------------------

Helping the poor may be virtuous, but when the poverty industry starts
losing "clients" because the market is performing good works,
watch out, warns the Wall Street Journal.

For instance, Compartamos Banco is a Mexican bank that specializes in
microfinancing for low-income entrepreneurs in a country that never
used to have a financial industry serving the poor.  Compartamos
not only figured out how to meet the needs of this excluded population,
but also how to make money at it.  As a result, the bank has been
growing fast:
   o   In 2000, to raise new capital, it formed a for-profit company
       to utilize private-sector capital as well as loans and grants
       from government agencies and charities.
   o   In 2002, it issued $70 million in debt, and four years later
       its client base had grown to more than 600,000.
   o   After 10 years, Compartamos was financing 60,000
       microborrowers.
   o   With an average loan size of only $450, it now has more than
       900,000 clients -- 15 times as many as it had in 2000.

This strong growth suggests that the bank's for-profit model makes both
borrowers and lenders better off.  Yet the triumph is not good
news for everyone.   In the economic sector that Compartamos
serves -- those making about $10 a day -- the international charity
brigade is at risk of becoming obsolete, says the Journal.
Perhaps this explains why people who make their living giving away
other people's money are badmouthing Compartamos for the vulgar
practice of earning "too much" profit.

However, says the Journal, allegations of earning "too much"
profit can be evaluated only by the market, when innovative new
entrants see they can provide services at a better price.  This
has been happening since for-profit microfinance began to emerge, and
the result has been greater competition.  Rates have decreased,
and the demand for and availability of services have increased.

Source: Mary Anastasia O'Grady, "Markets for the Poor in
Mexico," Wall Street Journal, June 30, 2008.
For text:
http://online.wsj.com/article/SB121478119445214333.html
For more on Economic Issues:
http://www.ncpa.org/sub/dpd/?Article_Category=17
 
 
 
 

Markets for the Poor in Mexico
WSJ  June 30, 2008; Page A11

Capitalism is bringing financial services to the poor in
       Mexico, but will nonprofit groups allow it?..

Helping the poor may be virtuous, but when the poverty industry starts losing "clients" because the market is performing good works, watch out.

Compartamos Banco knows what it's like to have a tarnished halo. The Mexican bank specializes in microfinancing for low-income entrepreneurs in a country that never used to have a financial industry serving the poor. Compartamos not only figured out how to meet the needs of this excluded population, but also how to make money at it.
Capitalism is bringing financial services to the poor in Mexico. But will nonprofit groups allow it? The Americas columnist Mary Anastasia O'Grady speaks with James Freeman. (June 30)

As a result, the bank has been growing fast. With an average loan size of only $450, it now has more than 900,000 clients – 15 times as many as it had in 2000.

This strong growth suggests that the bank's for-profit model makes both borrowers and lenders better off. Yet the triumph is not good news for everyone. In the economic sector that Compartamos serves – those making about $10 a day – the international charity brigade is at risk of becoming obsolete. Perhaps this explains why people who make their living giving away other people's money are badmouthing Compartamos for the vulgar practice of earning "too much" profit.

Lending to microenterprises took off some years ago as economists recognized that the poor, just like the middle class, can make productive use of credit. The most famous microfinancier is Muhammad Yunus, founder of the Grameen Bank and winner of the 2006 Nobel Peace Prize.

Compartamos got its start in southern Mexico in 1990 as a nonprofit providing working capital to small businesspeople like food preparers, vendors and handicraft producers. Its funds initially came from private-sector charity and governments, and its clients were – and still are – largely female. This group is often illiterate but it is also entrepreneurial and, as it turns out, a very good credit risk. In lieu of collateral, the bank typically accepts the credit of a group of entrepreneurs who effectively co-sign for a peer.
[Markets for the Poor in Mexico]
Compartamos
Compartamos Banco makes money and so do its clients.

After 10 years, Compartamos was financing 60,000 microborrowers. But it recognized that the need for its service was much greater. In 2000, to raise new capital, it formed a for-profit company to utilize private-sector capital as well as loans and grants from government agencies and charities. In 2002, it issued $70 million in debt, and four years later its client base had grown to more than 600,000.

By 2006, bankers in the developing world who had traditionally ignored the "C" and "D" economic classes – with "A" being the wealthiest and "E" being the poorest – began to realize that lending to lower-income entrepreneurs is good business. One reason for the change was that computer software advances enabled banks to handle small accounts more efficiently.

What was once written off as an unviable market became a hot opportunity, and Compartamos was well positioned to capitalize on it in Mexico. Last year the company launched an initial public offering that was oversubscribed 13 times. That's when the do-gooders stepped in to question the company's ethics.

In a commentary published last June on the Compartamos IPO, Richard Rosenberg, a consultant for the Consultative Group to Assist the Poor – not part of the World Bank but housed on its premises – observes that the demand for shares in the company was driven, in part, by "exceptional growth and profitability." He then ruminates for some 16 pages on whether Compartamos's for-profit model is at odds with the goal of lifting the poor. A similar, though far less rigorous, challenge to Compartamos titled "Microloan Sharks" appears in the summer issue of the Stanford Social Innovation Review.
[No wide] THE AMERICAS IN THE NEWS
 
Get the latest information in Spanish from The Wall Street Journal's Americas page.

In his "reflections" on "microfinance interest rates and profits," Mr. Rosenberg writes that "overcharg[ing]" clients under a nonprofit model is OK because it is done for the sake of future borrowers. But when profits go to providers of capital through dividends, then there is a "conflict between the welfare of clients and the welfare of investors." It's not the commercialization of the lending, we're told, but the "size" of the profits that must be scrutinized.

What seems to elude Mr. Rosenberg is the fact that there is no way for him to know whether there is "overcharg[ing]" or by how much. That information can be delivered only by the market, when innovative new entrants see they can provide services at a better price. This has been happening since for-profit microfinance began to emerge, and the result has been greater competition. Rates have been coming down even as the demand for and availability of services have gone up.

How much better it would have been, Mr. Rosenberg suggests, if Compartamos had raised capital through "socially motivated investors" like the "international financial institutions" – i.e., the World Bank and the like. How much better indeed, for him and his poverty lobby cohorts, but not, it seems, for Mexico's entrepreneurial poor.

Write to O'Grady@wsj.com

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.

Powering Down the Philippine Economy
By GREG RUSHFORD
FROM TODAY'S WALL STREET JOURNAL ASIA
WSJ June 26, 2008

Philippine President Gloria Arroyo took a whirlwind tour of the U.S. this week. At every stop, she boasted that her country's economy is on the move, having enjoyed an impressive 7% growth rate last year. Tomorrow in New York, Ms. Arroyo will woo well-heeled potential investors at a $5,000-a-table luncheon at the Waldorf-Astoria, where she is expected to give an upbeat presentation on Philippine infrastructure financing and ongoing privatization efforts.
[Powering Down the Philippine Economy]
David Klein

Ms. Arroyo's boasts ring hollow, however, given her country's inhospitable climate for foreign investment. Four decades ago, the Philippine economy was the second strongest in Asia, after Japan. Today, it's been outpaced by South Korea, Hong Kong, Taiwan and also by every other country in Southeast Asia -- save the likes of Burma, Cambodia and Laos. Last year, Vietnam attracted $15 billion in foreign direct investments, compared to the Philippines' $2.5 billion. Even worse, Ms. Arroyo and her political allies back in Manila don't seem to care that they are sending signals that would cause any potential investor to cringe.

Take the most recent bungle: the liberalization of the notoriously inefficient Philippine energy sector. In 2001, a newly sworn-in President Arroyo signed legislation calling for at least 70% of the government-owned National Power Corporation, known as Napocor -- long one of the country's worst symbols of inefficiency and corruption -- to be privatized. Even though Ms. Arroyo's administration has dragged its feet in following through with the reforms, the Electric Power Industry Reform Act of 2001 is working, albeit slowly.

Today, slightly more than 40% of Napocor is privately owned. In April, America's AES Corporation completed a $930 million purchase from the government of a 660-megawatt coal-fired thermal power plant in Zambales Province in Luzon. Currently, seven interested foreign bidders -- including AES, France's Alstom, Marubeni Corp., and a subsidiary of Korea Electric and Power Co., according to news reports -- have been invited to compete for Napocor's 620 megawatt power plant in Limay. Those bids should be in by the end of July. By year's end, the reform act's goal of privatizing at least 70% of Napocor could be realized.

But will Manila allow that to happen? Last December, the Arroyo administration announced that it wanted to amend the reform act by Christmas, to ensure that the government would retain control of at least 50% of Napocor. Hardly for the first time, the government in Manila was reminding foreign investors that the economic goal posts could be moved in the late innings. In the House of Representatives, the antireform legislation's chief sponsor is the chairman of the energy committee, Rep. Juan Miguel "Mikey" Arroyo, the president's son.

When the heads of the Joint Foreign Chambers of Commerce protested the roll-back of Napocor's privatization in a May 27 letter to Ms. Arroyo, the president's allies in the senate exploded in nationalistic outrage. Summoned to a June 6 hearing, Hubert D'Aboville, the French president of the European Chamber of Commerce, tried to speak on behalf of the foreign chambers, whose members hail from the U.S., Korea, Japan, Australia, Canada and New Zealand. Mr. D'Aboville prepared testimony that pointed to the "negative consequences" of amending the privatization law and thus dampening confidence among the foreign investment community (a view enthusiastically shared by the more enlightened members of the Philippine business community in the influential Makati Business Club). But Mr. D'Aboville was not allowed to present his testimony.

"My goodness, get out of this country if you can't live with us," Sen. Juan Ponce-Enrile told Mr. D'Aboville, who has lived in the Philippines for 31 years and is married to a Filipina. Added another presidential ally, Sen. Miriam Defensor-Santiago, "You may not continue. You do not determine what you can say or not say. I determine."

Unembarrassed by such a display of legislative intemperance, Ms. Arroyo has brought Sen. Santiago with her to New York, where the president is lobbying the United Nations to give her a seat on the International Court of Justice. Asked by reporters right after the hearing if the senators' June 6 bullying of the foreign businessman had been inappropriate, presidential spokesman Ignacio Bunye said he didn't think so. A few days later, Ms. Arroyo -- possibly having been informed that several European ambassadors were prepared to file a formal diplomatic protest -- came out with a statement thanking foreign investors for being part of her country's "success."

Ms. Arroyo has argued that government control of power plants is a more efficient way of keeping electricity prices down than private competitors who will compete in the marketplace -- surely a strange argument from a woman who has a doctorate in economics. Making matters worse, her administration is engaged in a separate but equally embarrassing power struggle for control of the board of directors of the Philippines' largest private electricity distributor, the Manila Electric Co. The company is controlled by the powerful Lopez family, one of the Philippines' most enduring oligarchies. In addition, the Philippine government holds a 30% stake and is represented on the board.

To be sure, there is a case that could be made that Meralco, which controls some 70% of electricity on the big island of Luzon, is a monopoly that should be subjected to the pressures of real market competition. But the political intensity of the Arroyo administration's personal attacks on the Lopez family suggests -- especially to watching foreigners -- that an agenda is at work that goes beyond economics. Specifically, the fight between Ms. Arroyo's family and the Lopez business empire seems to personify the latest example of feuding family clans that have long been a major source of the Philippines's economic and political fragility. In the early 1960s, when Ms. Arroyo's father, Diosdado Macapagal, was president, he also tried to wrest control of Meralco from the Lopez family.

Ms. Arroyo needs to understand that when Manila promises to open up major sectors of the economy to reforms that would foster real competition, those promises should not be broken. This would seem to be especially relevant, considering that economic projections warn that the Philippine electricity sector could, in the next several years, face more of the blackouts that crippled economic growth in the late 1980s.

The president might also reflect upon the plans of Alstom, the power company from France that is reported to be interested in the current bidding process to buy Napocor's Limay power plant. If the Philippine government continues to delay this ongoing bidding process, Alstom has choices. Late last year, as Ms. Arroyo's government announced its legislative priority to roll back the power sector's reform process, Alstom Hydro announced that it would build Southeast Asia's largest hydro power plant -- in Son La, Vietnam.

Mr. Rushford is editor of the Rushford Report, an online journal that tracks the politics of trade and finance.
 
 

Shifting Fortunes
As Irish Growth Fades,
Its Immigrants Depart
Polish Workers Follow the Boom Home
By JOELLEN PERRY
WSJ June 25, 2008; Page A1

DUBLIN -- In March 2005, Tomasz Tokarczyk left his job as a Krakow construction foreman and moved here, joining a wave of Eastern Europeans heading west for better work.

With the Irish economy surging, the 31-year-old civil engineer quickly quadrupled his former salary by building highways and hotels. But a few months ago, jobs got harder to find. Polish job sites, meanwhile, bombarded him with offers for well-paid work, and he decided to move back home.
PROFILES: EASTWARD BOUND
 
[Go to profiles]
Read more about Polish immigrants to Ireland, many of whom are considering returning home amid an economic boom in Eastern Europe.

"The biggest boom in Ireland is finished," Mr. Tokarczyk said through a translator at the Dublin airport, while sipping a latte and waiting for a flight to Krakow. "And the boom in Poland has started."

Since 2004, when the European Union added eight Eastern European countries, hundreds of thousands of Eastern Europeans have moved west -- mostly to Ireland and the United Kingdom, among the first EU countries to open their borders to workers from the new members. Now, with the Western economies flirting with recession and Eastern Europe flourishing, the wave of immigrants is slowing sharply. Many of the recent arrivals -- half of them, by some estimates -- are heading home.

The shift shows how rapidly some Eastern European economies are catching up to their Western counterparts, as their growth, wages and currencies surge. And it illustrates how a new, nimbler breed of immigrant, aided by discount airfares and technology, can hopscotch across countries to capitalize on economic cycles.
[excerpts]
• Read excerpts from an interview with Irish integration minister Conor Lenihan on the challenges of immigration and emigration.

That stepped-up mobility is helping bolster the cohesiveness of the world's largest economic and political bloc, even in the wake of Ireland's rejection of a treaty designed to make the 27-nation EU a stronger global force in other ways.

"These immigrants are simply putting into life the very idea of European integration," says Pawel Kaczmarczyk, a researcher at the University of Warsaw's Center of Migration Research. The ability to move between countries as labor conditions change, he says, "is exactly what we wanted in introducing the whole idea of a common market."

Ireland, the U.K. and Sweden were the only three countries to open their labor markets fully to the new EU entrants in 2004, though many other EU countries have since followed suit. France will drop its restrictions next month. But amid persistent fears that easterners will undercut western wages, many of the countries are still keeping up their barriers to workers from the EU's newest and poorest entrants, Romania and Bulgaria.

Eastern European immigrants generally have been a boon to the Irish and the U.K. economies, greasing growth by propping up domestic demand and house prices -- while moderating wage inflation. Now, steady departures could be a help as those economies slow, but there are dangers. A more abrupt outflow could exacerbate economic slowdowns under way, reducing demand for houses and consumer goods and fueling inflation. In Eastern Europe, where governments are anxious to lure back citizens to fill shortages in skilled jobs, too big a surge of returning workers could nevertheless overwhelm labor markets.
[Graphic]

Perhaps nowhere was an enormous Eastern European influx felt more dramatically than in Ireland. For much of its history, Ireland was a homogenous island that sent its own workers abroad. But in the 1990s, as deregulated markets and low corporate taxes helped launch the so-called "Celtic Tiger" boom, Ireland began luring its own citizens back and attracting workers from around the world. Over the past decade, with Ireland's economic growth averaging more than 5% a year, the share of immigrants in the population has doubled to 15%, according to the Organization for Economic Cooperation and Development, a proportion that approaches that of the U.S.

Since 2004, the vast majority of those immigrants have come from the new eastern EU members, with nearly a half-million receiving the Irish version of a Social Security number. With Ireland's population hovering around 4.2 million, the increase in immigrants' share of the labor force has been the fastest in Western Europe since the end of World War II, according to the Irish employment agency.

Poles have made up almost two-thirds of the influx, followed by Lithuanians and Slovakians. On Dublin's Talbot Street, a prime shopping area, Polish shops peddling sauerkraut and kielbasa recently have joined the wood-paneled pubs where traditional fiddle music wafts around Guinness-drinking patrons.

Eastern European immigrants helped fill shortages for skilled labor and prop up house prices. The hourly wages of Eastern European immigrants are 45% less than their Irish counterparts with similar education and experience, according to the Economic and Social Research Institute in Dublin.

"I couldn't afford to be in business without them," says Irish restaurateur Vincent Mullen, a lanky 39-year-old who is about to open a new cafe. A third of his staff will be from the newer EU members. Without them, he says, he'd "have to pay huge wages for inexperienced domestic staff."

Fading Boom

Now, however, the Irish boom is fading. Ireland's economy grew just 1.2% at an annual rate in the fourth quarter of last year, and the unemployment rate is the highest in almost a decade.
ON THE MOVE
 
•  Economic Balance: Many Eastern European nations that joined the EU a few years ago have seen a boom in their economies while Western Europe faces a slowdown.
•  The Shakeout: Immigrants who came to work in Ireland and the U.K. increasingly are returning to their home countries, where job opportunities have improved.
•  Where It Is Felt: Net migration to Ireland, the Celtic Tiger of the 1990s, is expected to drop by half this year, as fewer immigrants arrive and more head home.

In a bid to help unemployed construction workers, Ireland's employment agency recently held a job fair where officials from Eastern Europe and elsewhere touted job opportunities in their countries. "It's the reverse of what we've been doing for the last 10 years," says Kevin Quinn, the department's international employment manager. "We've been going to [Eastern Europe] looking for construction workers, and now they're short of workers at a time when we seem to have a surplus."

Ireland's employment agency predicts net migration will fall by half this year, as fewer immigrants arrive and more head home.

Krzysztof Najda, a 41-year-old father of three who has been living in Dublin, plans to go home to Gdansk in August. Sipping coffee after Sunday Mass at the stately St. Audoen's Church, where Polish-language services attract overflow crowds, he said the construction industry's downturn makes it hard to get steady work. "I came here to earn and save," he said. "There's no point being here if there's no work."

Citigroup economist Piotr Kalisz in Warsaw estimates that up to half of Polish émigrés to Western Europe since 2004 will return home in the next two years. In the U.K., half of an estimated one million Eastern European arrivals since 2004 have already left, says the London-based Institute for Public Policy Research in an April report.

Aiding the reversal: currency dynamics that have narrowed the East-West wage gap. Poland's currency, the zloty, has benefited from the stability of EU membership, the growing economy, a steady flow of remittances from Polish emigrants and, more recently, Poland's central bank raising its interest rates.

Andrej Golczewski, who arrived in Ireland in 2005 expecting to stay five years, at first earned a monthly salary for laying sheet metal that was equivalent to four times what he could earn at home in zloty, a boon in saving for his daughter's university fees. But the euro has dropped 30% since May 2004, and with Polish construction wages rising, Mr. Golczewski left Ireland for home last month.

Similar dynamics are at work in the U.K., where a housing bust is threatening to tip the economy into recession and the pound is down 40% against the zloty since May 2004.

Good Relations

Irish policy makers are watching the immigration shifts closely. Relations between immigrant and native populations have been unusually good, partly because robust economic growth meant immigrants didn't undercut prospects for Irish-born workers. Conor Lenihan, Ireland's Minister for Integration, believes Ireland's history of emigration has helped it cope with the influx of foreigners. "Half a million of our own people came home as part of the early years of the boom," he said in an interview. "These people act as a tolerance valve in Irish public opinion."
[Lining up in Poland]
Associated Press
People line up for a job fair in Warsaw in 2006, hoping to find work in Ireland. Many in Poland were emigrating because of frustration with the low wages and high unemployment in Poland at the time.

But tensions could rise if immigration doesn't slow as the Irish economy cools. "The current downturn could lead to Irish and immigrants competing for a smaller" pool of jobs, says Brian McCormick, an economist with Ireland's employment agency.

Of the net increase in jobs in the first quarter of 2008 compared with 2007, more than half went to Eastern European immigrants, and just 10% to Irish nationals, according to Irish government figures. The number of Eastern Europeans collecting unemployment insurance has more than quadrupled since the end of 2006, surpassing 13,000, according to the employment agency.

The ease with which Polish workers were able to move to Ireland may now accelerate their return home. Andrew Galazka, a Polish mechanic who moved to Dublin with his wife in 2004, says the initial decision to come wasn't difficult: "It only cost me the ticket." With flights between Dublin and Warsaw recently costing as little as $150 round trip, Mr. Galazka has been able to go home every two to four months.

"I really feel more like a commuter than a migrant," he said, as he chatted with other Poles at a weekly gathering of the Irish Polish society in a stately Georgian row house adorned with a portrait of Pope John Paul II, who was born near Krakow. With work steady, Mr. Galazka said he and his wife are sticking around. "But if there's an economic crisis, we'll go."
[Trading Places Graphic]

Workers who do return to Poland are discovering a drastically different country than the one they left -- one with surging economic growth and an unemployment rate that has plunged to 10% from 19.9% four years ago. EU entry has helped stoke Poland's growth, both through foreign investment and aid from Brussels to assist the country's catch-up process. Average monthly wages have risen 30% while construction wages have jumped 50%, far outstripping inflation of 4.4% or less since December 2004.

Shortage of Workers

Such wage inflation is being stoked by a shortage of skilled workers, which has prompted a full-bore government campaign to bring Polish workers home. Prime Minister Donald Tusk, who made luring emigrants back a major plank in his 2007 campaign platform, recently proposed eliminating the taxes that returnees had to pay on their earnings abroad.

In Krakow, a medieval city in southeast Poland that has emerged as an information technology and outsourcing hub, a steady stream of returning workers is helping companies cope with surging growth. German commercial truck maker MAN, which opened a gleaming, 93,600-square-yard plant in a suburb in October 2007, just finished a five-month effort to recruit 250 mechanics for a second shift. Some 40% of the applications came from workers returning from Ireland or the U.K.

"More candidates means we have more choice," says Karoline Zygmunt, a MAN human-resources developer.
 
There are other benefits to Poland of its workers' returning home. When Irish workers headed home in the mid-1990s, they shared skills and attitudes learned abroad. "That was one of the factors that powered the Celtic Tiger," says Alan Barrett, an economist with Dublin's Economic and Social Research Institute.

There are signs that Poland is seeing a similar gain. Aleksandra Lichon, human-resources manager for an 1,100-person International Business Machines Corp. finance-outsourcing center in Krakow, has recruited more than 20 Polish employees directly from the U.K. and Ireland over the past year. Even those who worked in unrelated fields like waiting tables had acquired valuable skills -- including fluent English, customer-service skills and increased initiative, she says. "These people have a different attitude toward work," says Ms. Lichon. "I'd recommend every graduate going away."

Eastern European workers who want to work abroad gradually will get a wider array of choices. In France, opponents of open borders in 2004 used the specter of a mythical Polish plumber to personify the threat of cheap foreign laborers, but now it is opening its borders. The remaining four countries that haven't, including Germany and Austria, must do so by 2011.

Back home in Poland, Mr. Tokarczyk, the former Dublin construction worker, is mulling a few job offers from construction firms. Sitting atop a 4,300-feet high bluff, surrounded by not-yet ripe blueberry patches, he said he's glad he went to Ireland, citing his increased self-confidence and a bank account now fat enough to allow him to consider building a house in his village of Ochotnica Górna, some 65 miles from Krakow.

Mr. Tokarczyk said he'd go abroad again if he had to, but adds that the virtue of leaving is to earn enough "to build something that belongs to you" back home. That way, he said, tugging a blade of grass and squinting at the snowcapped peaks in the distance, "you don't have to go away again."

--Alistair MacDonald in London contributed to this article.

Write to Joellen Perry at joellen.perry@wsj.com

Corrections & Amplifications

Pawel Kaczmarczyk is a researcher at the University of Warsaw's Center of Migration Research. His surname was spelled incorrectly in an earlier version of this article. The above article has been corrected.
 
 

 From Breadbasket to Basket Case by Mary OGrady
June 23, 2008; Page A15

As the presidential campaign drones on, Barack Obama and the Democrats are fleshing out the promise of "change" with some specific, big-government policy proposals. Many are familiar, perhaps because they already have been tried – in Argentina.

That country has gone from South American breadbasket to world-class basket case. For the long version of how it happened and why Americans might not want to try it, hop on a flight to Buenos Aires. Here's a condensed version:
Mary Anastasia O'Grady tells Kelsey Hubbard Americans should pay attention to Argentina's experience with populist policies, especially during this presidential election year.

Although the winding down of Argentina to the status of international deadbeat began a century ago, the latest chapter is instructive. In March, President Cristina Fernández de Kirchner seized on rising soybean prices to slap "a windfall tax" on soy exports. Farmers refused to pay, the president wouldn't budge, and a deadlock ensued.

Much of the rest of the country joined sides with the growers. But the uprising is no longer a tax revolt. It has become a rebellion against unfettered executive reach – or, in the view of the opposition, Mrs. Kirchner's authoritarianism. A week ago thousands of Argentines poured into the streets of cities around the country, banging pots and pans to express their dissatisfaction with their president's heavy-handed ways. It was the largest public outcry since the economic crisis in 2001.

Mrs. Kirchner, whose approval rating is down to 20%, responded to the protests in a harshly worded speech on Tuesday. She warned that "the country cannot be governed by casserole dishes, bullhorns and roadblocks." Easy to say now. But it was saucepans in the streets that led to the collapse of the government of President Fernando de la Rua in 2001. Mrs. Kirchner didn't seem to mind that overthrow of democracy, perhaps because her Peronist husband Néstor Kirchner was subsequently elected president.

Nor did Mrs. Kirchner cry foul when her husband used "emergency powers," delegated to him by the Peronist-controlled Congress, to rule by decree for five years. There was no intervention that Mr. Kirchner considered out of bounds. It was, after all, "a crisis." He imposed price controls, raised export taxes, increased populist subsidies, abrogated contracts, stiffed creditors, ended central-bank independence and even manipulated inflation statistics. The private sector and profits were demonized and the press was harassed.
[From Breadbasket to Basket Case]
Corbis
October 1948: A crowd gathers in front of the Presidential Palace in Buenos Aires to show support for President Juan Peron.

The repression worked well enough to get his wife elected in October, but now the wheels are coming off again. Mrs. Kirchner's recent verbal defense of her beloved "democracy" is hard to square with the fact that she is following in the footsteps of her husband, who had no respect for institutional checks or balances.

This gets us to the root of the problem, which developed long before the Kirchners' abuses of market and legal principles. The constitution once held limited government and private property to be among the highest ideals of the land. But in the 1920s these protections, which had made the country a magnet for immigrants and the seventh-largest economy in the world, began to erode.

An early example of this assault on liberty was when Congress imposed a rent freeze to deal with a housing shortage after World War I. This only exacerbated the problem, and in 1922 a politicized Supreme Court widened state powers to allow the regulation of rents. That decision put property-rights protection on a slippery slope. A decade later the Court gave the legislature the power to regulate interest rates.

The interventions didn't end there, and as state control of the economy expanded and the nation grew poorer, the country could not recover its footing. Economic populism and labor militancy took hold; protectionism blossomed and Argentina became a welfare state. Meanwhile, the informal economy swelled under the high cost of legality.
[No wide] THE AMERICAS IN THE NEWS
 
Get the latest information in Spanish from The Wall Street Journal's Americas page.

Fiscal crises have been recurring. According to a paper recently released by researchers at the Buenos Aires business school Eseade, external debt as a percentage of GDP has now climbed to 56% compared to 54% in 2001. If you include the unpaid debt to bondholders, the number is 67%. More than a few analysts are worried that should the economy slow, the government may tap Central Bank reserves, sparking a run against the peso or, fearing that, choose default, for the second time in a decade, as its escape hatch.

Will that mean an end to ballooning entitlements, class warfare, hostility toward producers, capital and private property, protectionism and subsidized central-planning? Unlikely.

Americans reading that laundry list may note that it sounds a lot like the mindset of the left wing that will dominate the Democratic Party's convention and choose Barack Obama as its candidate in August. From nationalized health care and government-owned refineries to punishing taxes on the rich, Argentina has been there, done that. There are good reasons to find the resemblance disturbing.

Write to O'Grady@wsj.com

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.

And add your comments to the Opinion Journal forum.
 
 
 
 
 

FOOD REVOLUTION THAT STARTS WITH RICE
------------------------------------------------------------------------

According to Dr. Norman T. Uphoff, a professor at Cornell University,
the secret to solving the global food crisis is a new way of growing
rice.  Harvests typically double, he says, if farmers plant early,
give seedlings more room to grow and stop flooding fields.  This
method, called the System of Rice Intensification, or S.R.I., cuts
water and seed costs while promoting root and leaf growth.

In a decade, it has gone from obscure theory to global trend -- and
encountered fierce resistance from established rice scientists.
Roughly half the world eats the grain as a staple food even as yields
have stagnated and prices have soared, nearly tripling in the past
year.

According to Dr. Uphoff:
   o   Nearly one million rice farmers have adopted the system; he
       predicts the rural army will swell to 10 million farmers in
       the next few years.
   o   Top S.R.I. users include India, China, Indonesia, Cambodia
       and Vietnam, along with 28 other countries on three
       continents.
   o   In Tamil Nadu, a state in southern India, the system is
       revolutionizing paddy farming while spreading to a staggering
       million acres.
Also:
   o   A recent report from the Timbuktu region of Mali, on the edge
       of the Sahara Desert, said farmers had raised rice yields 34
       percent.
   o   In Laos, an agriculture official recently said S.R.I. had
       doubled the size of rice crops in three provinces and would
       spread to the whole country because it provided greater yields
       with fewer resources.

Source: William J. Broad, "Food Revolution That Starts With
Rice," New York Times, June 17, 2008.
For text:
http://www.nytimes.com/2008/06/17/science/17rice.html
For more on Economic Issues:
http://www.ncpa.org/sub/dpd/?Article_Category=17
 

NYT June 17, 2008
Scientist at Work | Norman T. Uphoff
Food Revolution That Starts With Rice
By WILLIAM J. BROAD

ITHACA, N.Y. — Many a professor dreams of revolution. But Norman T. Uphoff, working in a leafy corner of the Cornell University campus, is leading an inconspicuous one centered on solving the global food crisis. The secret, he says, is a new way of growing rice.

Rejecting old customs as well as the modern reliance on genetic engineering, Dr. Uphoff, 67, an emeritus professor of government and international agriculture with a trim white beard and a tidy office, advocates a management revolt.

Harvests typically double, he says, if farmers plant early, give seedlings more room to grow and stop flooding fields. That cuts water and seed costs while promoting root and leaf growth.

The method, called the System of Rice Intensification, or S.R.I., emphasizes the quality of individual plants over the quantity. It applies a less-is-more ethic to rice cultivation.

In a decade, it has gone from obscure theory to global trend — and encountered fierce resistance from established rice scientists. Yet a million rice farmers have adopted the system, Dr. Uphoff says. The rural army, he predicts, will swell to 10 million farmers in the next few years, increasing rice harvests, filling empty bellies and saving untold lives.

“The world has lots and lots of problems,” Dr. Uphoff said recently while talking of rice intensification and his 38 years at Cornell. “But if we can’t solve the problems of peoples’ food needs, we can’t do anything. This, at least, is within our reach.”

That may sound audacious given the depths of the food crisis and the troubles facing rice. Roughly half the world eats the grain as a staple food even as yields have stagnated and prices have soared, nearly tripling in the past year. The price jolt has provoked riots, panicked hoarding and violent protests in poor countries.

But Dr. Uphoff has a striking record of accomplishment, as well as a gritty kind of farm-boy tenacity.

He and his method have flourished despite the skepticism of his Cornell peers and the global rice establishment — especially the International Rice Research Institute, which helped start the green revolution of rising grain production and specializes in improving rice genetics.

His telephone rings. It is the World Bank Institute, the educational and training arm of the development bank. The institute is making a DVD to spread the word.

“That’s one of the irons in the fire,” he tells a visitor, looking pleased before plunging back into his tale.

Dr. Uphoff’s improbable journey involves a Wisconsin dairy farm, a billionaire philanthropist, the jungles of Madagascar, a Jesuit priest, ranks of eager volunteers and, increasingly, the developing world. He lists top S.R.I. users as India, China, Indonesia, Cambodia and Vietnam among 28 countries on three continents.

In Tamil Nadu, a state in southern India, Veerapandi S. Arumugam, the agriculture minister, recently hailed the system as “revolutionizing” paddy farming while spreading to “a staggering” million acres.

Chan Sarun, Cambodia’s agriculture minister, told hundreds of farmers at an agriculture fair in April that S.R.I.’s speedy growth promises a harvest of “white gold.”

On Cornell’s agricultural campus, Dr. Uphoff runs a one-man show from an office rich in travel mementos. From Sri Lanka, woven rice stalks adorn a wall, the heads thick with rice grains.

His computers link him to a global network of S.R.I. activists and backers, like Oxfam, the British charity. Dr. Uphoff is S.R.I.’s global advocate, and his Web site (ciifad.cornell.edu/sri/) serves as the main showcase for its principles and successes.

“It couldn’t have happened without the Internet,” he says. Outside his door is a sign, “Alfalfa Room,” with a large arrow pointing down the hall, seemingly to a pre-electronic age.

Critics dismiss S.R.I. as an illusion.

“The claims are grossly exaggerated,” said Achim Dobermann, the head of research at the international rice institute, which is based in the Philippines. Dr. Dobermann said fewer farmers use S.R.I. than advertised because old practices often are counted as part of the trend and the method itself is often watered down.

“We don’t doubt that good yields can be achieved,” he said, but he called the methods too onerous for the real world.

By contrast, a former skeptic sees great potential. Vernon W. Ruttan, an agricultural economist at the University of Minnesota and a longtime member of the National Academy of Sciences, once worked for the rice institute and doubted the system’s prospects.

Dr. Ruttan now calls himself an enthusiastic fan, saying the method is already reshaping the world of rice cultivation. “I doubt it will be as great as the green revolution,” he said. “But in some areas it’s already having a substantial impact.”

Robert Chambers, a leading analyst on rural development, who works at the University of Sussex, England, called it a breakthrough.

“The extraordinary thing,” he said, “is that both farmers and scientists have missed this — farmers for thousands of years, and scientists until very recently and then some of them in a state of denial.”

The method, he added, “has a big contribution to make to world food supplies. Its time has come.”

Dr. Uphoff grew up on a Wisconsin farm milking cows and doing chores. In 1966, he graduated from Princeton with a master’s degree in public affairs and in 1970 from the University of California, Berkeley, with a doctorate in political science.

At Cornell, he threw himself into rural development, irrigation management and credit programs for small farmers in the developing world.

In 1990, a secret philanthropist (eventually revealed to be Charles F. Feeney, a Cornell alumnus who made billions in duty-free shops) gave the university $15 million to start a program on world hunger. Dr. Uphoff was the institute’s director for 15 years.

The directorship took him in late 1993 to Madagascar. Slash-and-burn rice farming was destroying the rain forest, and Dr. Uphoff sought alternatives.

He heard that a French Jesuit priest, Father Henri de Laulanié, had developed a high-yield rice cultivation method on Madagascar that he called the System of Rice Intensification.

Dr. Uphoff was skeptical. Rice farmers there typically harvested two tons per hectare (an area 100 by 100 meters, or 2.47 acres). The group claimed 5 to 15 tons.

“I remember thinking, ‘Do they think they can scam me?’ ” Dr. Uphoff recalled. “I told them, ‘Don’t talk 10 or 15 tons. No one at Cornell will believe it. Let’s shoot for three or four.’ ”

Dr. Uphoff oversaw field trials for three years, and the farmers averaged eight tons per hectare. Impressed, he featured S.R.I. on the cover of his institute’s annual reports for 1996 and 1997.

Dr. Uphoff never met the priest, who died in 1995. But the success prompted him to scrutinize the method and its origins.

One clear advantage was root vigor. The priest, during a drought, had noticed that rice plants and especially roots seemed much stronger. That led to the goal of keeping fields damp but not flooded, which improved soil aeration and root growth.

Moreover, wide spacing let individual plants soak up more sunlight and send out more tillers — the shoots that branch to the side. Plants would send out upwards of 100 tillers. And each tiller, instead of bearing the usual 100 or so grains, would puff up with 200 to 500 grains.

One drawback was weeds. The halt to flooding let invaders take root, and that called for more weeding. A simple solution was a rotating, hand-pushed hoe, which also aided soil aeration and crop production.

But that meant more labor, at least at first. It seemed that as farmers gained skill, and yields rose, the overall system became labor saving compared with usual methods.

Dr. Uphoff knew the no-frills approach went against the culture of modern agribusiness but decided it was too good to ignore. In 1998, he began promoting it beyond Madagascar, traveling the world, “sticking my neck out,” as he put it.

Slowly, it caught on, but visibility brought critics. They dismissed the claims as based on wishful thinking and poor record keeping, and did field trials that showed results similar to conventional methods.

In 2006, three of Dr. Uphoff’s colleagues at Cornell wrote a scathing analysis based on global data. “We find no evidence,” they wrote, “that S.R.I. fundamentally changes the physiological yield potential of rice.”

While less categorical, Dr. Dobermann of the rice research institute called the methods a step backward socially because they increased drudgery in rice farming, especially among poor women.

In his Cornell office, Dr. Uphoff said his critics were biased and knew little of S.R.I.’s actual workings. The method saves labor for most farmers, including women, he said. As for the skeptics’ field trials, he said, they were marred by problems like using soils dead from decades of harsh chemicals and monocropping, which is the growing of the same crop on the same land year after year.

“The critics have tried to say it’s all zealotry and religious belief,” Dr. Uphoff sighed. “But it’s science. I find myself becoming more and more empirical, judging things by what works.”

His computer seems to hum with proof. A recent report from the Timbuktu region of Mali, on the edge of the Sahara Desert, said farmers had raised rice yields 34 percent, despite initial problems with S.R.I. guideline observance.

In Laos, an agriculture official recently said S.R.I. had doubled the size of rice crops in three provinces and would spread to the whole country because it provided greater yields with fewer resources.

“Once we get over the mental barriers,” Dr. Uphoff said, “it can go very, very quickly because there’s nothing to buy.”

The opponents have agreed to conduct a global field trial that may end the dispute, he said. The participants include the rice institute, Cornell and Wageningen University, a Dutch institution with a stellar reputation in agriculture.

The field trials may start in 2009 and run through 2011, Dr. Uphoff said. “This should satisfy any scientific questions,” he added. “But my sense is that S.R.I. is moving so well and so fast that this will be irrelevant.”

Practically, he said, the method is destined to grow.

“It raises the productivity of land, labor, water and capital,” he said. “It’s like playing with a stacked deck. So I know we’re going to win.”
 

 REVOLVING IMMIGRATION
------------------------------------------------------------------------

The United Kingdom was one of only three countries in Europe to
immediately extend free-movement rights to the former Communist
countries.  Now, the British economy is reaping the rewards of
recent arrivals from Eastern Europe, says the Wall Street
Journal.
The speed of the recent immigration influx to the United Kingdom has
been truly astounding:
   o   About one million Poles, Czechs and other East Europeans came
       to the United Kingdom between 2004 and 2007 -- far exceeding
       predictions.
   o   While some of these workers have left again, this net
       immigration still added 500,000 people to the U.K. population
       over this period.
The benefits for the British economy go far beyond just plugging gaps
in the labor market:
   o   Some 40,000 Polish entrepreneurs have set up businesses in
       the United Kingdom, creating thousands of jobs.
   o   Partly as a result of immigration, trade between the United
       Kingdom and Poland has increased fourfold since 2004 to some
       £6 billion (about U.S. $11.7 billion) a year.
   o   In the last two years alone, the United Kingdom has received
       more than 1,300 medical doctors from the new member states,
       improving Britain's health-care system.
   o   The Poles also may be teaching the Brits a lesson or two
       about work ethic; Poles in the United Kingdom have an
       employment rate that is nine percentage points higher and work
       four hours a week longer than the U.K.-born population.

Rather than worrying whether Britain has absorbed too many immigrants
in recent years, Britain should worry about the prospect of not having
enough immigrants in the coming years, says the Journal.  As
Europe's work force ages and shrinks, migration will have to be part of
the solution, not the problem it is so often portrayed as.

Source: Roland Rudd and Danny Sriskandarajah, "Revolving
Immigration," Wall Street Journal, June 3, 2008.

For text:
http://online.wsj.com/article/SB121244114524939197.html
For more on Immigration Issues:
http://www.ncpa.org/sub/dpd/?Article_Category=34
 
 

Why free markets have little to do with inequality

By Philip Whyte

Published: June 2 2008 03:00 | Last updated: June 2 2008 03:00http://www.ft.com/cms/s/0/d8791976-303c-11dd-86cc-000077b07658.html

Many Europeans believe liberal economic reforms are incompatible with social justice. The US and the UK, they point out, have more liberal markets for products and labour than in continental Europe - but also higher levels of poverty and income inequality. European countries therefore face a choice. They can either free their product and labour markets and accept the downsides or they can protect social solidarity by resisting Anglo-American neo-liberalism.

But the belief that market liberalisation increases social inequalities is not borne out by the evidence. The UK certainly has higher levels of poverty and inequality than France or Germany. But pointing this out is just selective use of evidence to support a predetermined conclusion. If there were a strong correlation between levels of market liberalisation and social outcomes, one would expect to see the pattern replicated across the European Union - not just in a carefully selected group of countries.

Is such a pattern discernible? No. The nation with the lowest levels of poverty and income inequality in the EU, as well as the lowest rate of long-term unemployment, is Denmark - a country with competitive product markets and some of the least restrictive labour laws. Countries with the worst social outcomes (Greece, Italy and Portugal) all have restrictive product and labour market laws. Liberalisation, it seems, no more threatens social justice than regulation guarantees it.

So what explains these differences in social outcomes? The answer, one might think, must be differences in spending by governments. Social spending is certainly high in egalitarian countries such as the Nordics. But it is just as high in France, where social inequalities are more marked. Likewise, it is as high in the supposedly heartless UK as it is in the egalitarian Netherlands. Contrary to popular belief, the UK is not governed by a callous minimal state.

The reason the Nordics and the Dutch have the most egalitarian outcomes is that they provide the best education. The correlation between educational and social outcomes across the EU is striking. People with low levels of attainment at secondary education are most exposed to the risk of poverty. Moreover, the more educated people are, the more likely they are to be in work: the employment rate for Europeans with tertiary education is 80 per cent, whereas it is just 50 per cent for those who fail to complete their secondary education.
 
What makes Nordic education systems special? Partly, it is quality: 15-year-olds in northern Europe have higher literacy and numeracy levels than those in southern Europe. But the length of schooling is equally important. In Denmark, Finland and Sweden, 90 per cent of 25- to 34-year-olds have completed upper secondary education - and 40 per cent have gone on to obtain tertiary qualifications. In Portugal, the respective figures are 43 per cent and 19 per cent, while in Greece they are 57 per cent and 25 per cent.

How about the UK? Public spending on education is just under 6 per cent of gross domestic product - around the EU average. The results are mixed. Studies by the Organisation for Economic Co-operation and Development show that levels of literacy and numeracy among 15-year-olds are about the same as in Germany (and higher than in France). Many international studies, moreover, rank British universities as the best in Europe. So what is the problem? The answer is that one in four children leave school before completing upper secondary education - a much higher share than the EU average.

In short, inequality in the UK seems to have more to do with high drop-out rates from upper secondary education than with the country's privatised rail system, liberal labour laws or levels of social transfers. If this analysis is correct, it suggests that the British government faces an uphill task trying to reduce inequalities through the tax and benefits system. It also suggests that countries in which drop-out rates are high are the most exposed to increases in income inequality resulting from globalisation and technological change.

Education has long been an important determinant of countries' wealth. As China and India become more integrated in the world economy and the international division of labour proceeds apace, it is also having an increasingly important influence on social cohesion. The European countries most at risk of rising social inequalities are those with underperforming education systems.

The writer is a senior research fellow at the Centre for European Reform
 
 

THE ECONOMIC BENEFITS OF NAFTA TO THE UNITED STATES AND MEXICO

------------------------------------------------------------------------

Although there have been calls to renegotiate or suspend the North
American Free Trade Agreement (NAFTA), after nearly 14 years under the
treaty it is clear that both Mexico and the United States have
benefitted from more open trade, says Heidi Sommer, a junior fellow
with the National Center for Policy Analysis.

The Mexican economy is the world's 13th largest.  Yet it is the
United States' third-largest trading partner and the second-largest
market for U.S. exports.  This partnership owes much to NAFTA;
two-way trade between Mexico and the United States has more than
quadrupled since the agreement was implemented, says Sommer:

   o   The value of Mexican goods exported to the United States grew
       from $39.9 billion in 1993 to $210.8 billion in 2007, an
       increase of 437 percent.

   o   The United States exported $136.5 billion worth of goods to
       Mexico in 2007, up 242 percent since 1993.

   o   Over that period, gross domestic product (GDP) grew 50
       percent in the United States and 46 percent in Mexico.

The United States is the largest source of foreign direct investment
(FDI) in Mexico, accounting for over half of the $19 billion invested
there in 2006.  In addition, U.S. companies contribute around 50
percent of the investment funds for Mexico's maquiladoras -- factories
that assemble products (such as apparel, auto parts and electronic
goods) from imported U. S. components for export back to the United
States.  These firms account for almost half of Mexican exports
and over $41 billion in annual sales, says Sommer.

Investment in Mexico has helped increase the efficiency of U.S.
domestic production.  Many manufacturing companies are able to
reduce costs by shifting assembly of their products to the
maquiladoras.  This has helped boost U.S. manufacturing output,
which rose by almost 60 percent from 1993 to 2006.  By contrast,
output increased only 42 percent in the 13 years before NAFTA, says
Sommer.

Source: Heidi Sommer, "The Economic Benefits of NAFTA to the
United States and Mexico," National Center for Policy Analysis,
Brief Analysis #619, June 16, 2008.

For text:

http://www.ncpa.org/pub/ba/ba619/
 

For more on Trade Issues:

http://www.ncpa.org/sub/dpd/?Article_Category=42
 
 
 

 
The Irish Miracle
By NORMAN STONE
June 17, 2008

The Irish find themselves for the first time ever being showered with compliments from the English. This writer -- a Scot -- does not really approve of Ireland's independence. They are us, bless them, and their independence has been a bore, a little bit like East Timor's. Friends, family, writers -- all belong to an Ireland that's greater than the sum of its parts.

Now that greatness has been manifested. The Irish have done a miracle and wrecked the latest project of the European Union, in a referendum where general cussedness has been expressed. The proposed changes to the way Europe works amount to a constitution, but the powers-that-be tried to smuggle it through as a treaty. The British were supposed to have a referendum as well but since everyone knows that Europe is just not a popular cause, the government weaseled out of one. The French and Dutch did hold referendums three years back and the formal constitution was turned down.
[Irish Miracle]

The Europeans -- at any rate the official classes -- would dearly love to project themselves as a Great Power, American-fashion, and in 2004 produced a constitution. It was prepared in an extraordinarily clumsy way, with vast gatherings presided over by the former French President Valéry Giscard d'Estaing, in a style that Margaret Thatcher found profoundly irritating ("Olympian without being patrician"). The best constitutions either do not exist, as with England, or they are short, as with 1787 in Philadelphia. The Germans had a shot at a constitution in 1848 and invited all their professor doctor doctors to have a say. There are few occasions to bless the arrival of the Prussian army and that was one: The beards were bayoneted.

You might even make a rule about this: The longer the constitution, the shorter its life. The Weimar Republic is a classic case, and it taught the West Germans in 1949 what not to do in such documents; the German basic law is almost a model. The other rule is of course not to let professors of political science anywhere near such documents.

The European constitution is a lengthy and unreadable one because so many different interests had to be squared. Thus for instance, toward the end of the near-five-hundred page effort, the "Sami" or, as they used to be called, Lapps get a look-in.

Now there was a certain obvious sense in getting the European institutions to work better. They go back 50 years or so, and even the present flag is vaguely copied from the banner of the Coal and Steel Community in 1951; the assembly and the court were thought up then, and maybe someone even conceived of an anthem. The founder, Jean Monnet, found it insufferably boring, and you could even make a case that the creative element in Europe was America. The first suggestion of a common European currency came from the deputy secretary general of the Marshall Plan.

The European institutions worked tolerably for a time with six member states, but even then they were not brilliant. They were secretive and lofty, in that French technocratic style that so irritates others, and the best monument to them is the Common Agricultural Policy, born in 1962 and since then notorious for corruption and unreformability. The institutions were again not very efficient when there were only nine members, in the seventies, and Mr. Giscard d'Estaing made another of his blunders when he tried to make the European cause more popular by arranging for the Community to have a popularly elected parliament. Any journalist with a taste for mockery had a wonderful time in the European Parliament, self-important and powerless.

Now, with 27 member states, there is an obvious need to change the rules, and even for allowing national vetoes to be lifted. One absurd example: Greek Cyprus was let in as a member and now has the power to disrupt Europe's negotiations with Turkey, a country 40 times larger, and in a hugely strategic position. It is also the case, under present rules, that the presidency of the Union shifts every six months round capitals -- Paris one minute, Riga or even Valetta in Malta the next. Those small states do not have the wherewithal for the job, and in some cases have appeared ridiculous. Thus, over the Yugoslav crisis some 16 years back, which was billed to be "the hour of Europe," a Mr. Poos appeared from Luxembourg and lectured the Slovenes as to how they had no right to be nationalistic -- Luxembourg, beside which Slovenia looks positively elephantine. Meanwhile, the Germans have become the most important power in the east and south, and they are also the paymasters.

It is all a strange echo of the world of 1918, after Czarist Russia had collapsed, and various new states emerged -- the Ukraine especially, but also the Baltic republics including Finland. Back then the Germans were intent on setting up a satellite empire. In Hitler's time a quarter-century later this was even more the case, with Slovakia and Croatia (and even, though in a muddled way, Kosovo) emerging as Nazi puppet states. Nowadays, the lines on the map can be strangely similar to those of Hitler's day. But of course we are dealing with an altogether different Germany -- a Germany which, for a long time, simply did not want to have a foreign policy. One foreign minister, Hans-Dietrich Genscher, once rejected a campaign for Germany to have a seat on the U.N. Security Council with the remark that it would be like giving a liqueur chocolate to an alcoholic.

This new peaceful Germany is one that the Anglo-Saxons always wanted to see -- arguably America's greatest creation, bar Japan -- and she has to deal with big problems -- the Balkans, Russia and the future of Turkey's relationship with Europe. Why make these matters dependent upon the whims of little local politicians in Greek Cyprus or wherever?

Now the Irish, with a referendum, express the general discontent and boredom that the European Union seems to inspire almost everywhere. Some commentators have responded more or less with Bertolt Brecht's line about the East German workers' uprising in 1953: If the people act against the will of the government, then perhaps the government should dissolve the people and elect another in their place. The German foreign minister even said that the Irish could just drop out of the Union for a bit -- an absurd remark.

There have been other lofty tickings-off: How could the Irish be so ungrateful, given what Europe had done for them? But of course the Irish might not see things that way. For instance, free movement of goods and people is not always positive. There has been a crime wave associated with the shift of East European immigrants. Then again, not everyone benefits from the huge rise in property prices which, rightly or wrongly, people associate with the euro; quite the contrary, life becomes very difficult for the young if they do not have parents who can support them. One nasty phenomenon in Spain or Ireland is that the young have to live with their parents and one sign of this is the used contraceptive in the public parks. So it is not altogether surprising that great masses of Irish voters voted against a "Europe" with which they cannot identify.

The sad thing is that Europe deserves better. It is associated with the recovery of a decent Germany, escaping from her awful past and now co-existing on civilized terms with Czechs and Poles and French. Yes, there should have been some briefly worded document to reform the creaking institutions of Europe. But true to form the Europeans mismanaged the entire affair. Having had the original constitution turned down, they should simply have lived with the consequences. Instead, they have behaved in a weaseling and dishonest way that would never have occurred to the great 1950s architects of Europe, men with culture, honesty and a sense of where their extraordinary civilization had gone wrong. Thank God for the Irish.

Mr. Stone is a professor of international relations at Bilking University in Ankara and author of "World War I: A Short History," forthcoming in paperback from Basic Books.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.
 
 

New Evidence on Government and Growth
By KEITH MARSDEN
June 16, 2008; Page A15

In the early 1980s, Ronald Reagan embraced the ideas of a small group of economists dubbed "supply-siders." They argued that lower taxes and slimmer government would stimulate growth, enterprise, harder work and higher levels of saving and investment. These views were widely ridiculed at the time, dismissed as "voodoo economics."
[New Evidence on Government and Growth]
Barbara Kelley

Reagan did succeed in lowering some taxes. But a Democrat-controlled Congress weakened their impact by raising government spending sharply, resulting in large budget deficits.

A quarter of a century later, many more countries have cut taxes and reined in heavy-handed government intervention. How far have they gone down this path, and with what success?

My study, "Big, Not Better?" (Centre for Policy Studies, 2008), looks at the performance of 20 countries over the past two decades. The first 10 have slimmer governments with revenue and expenditure levels below 40% of GDP. This group includes Australia, Canada, Estonia, Hong Kong, Ireland, South Korea, Latvia, Singapore, the Slovak Republic and the U.S.

I compared their records to the 10 higher-taxed, bigger-government economies: Austria, Belgium, Denmark, France, Germany, Italy, the Netherlands, Portugal, Sweden and the United Kingdom. Both groups cover a representative range of large, medium and small economies measured by their gross national incomes. The average incomes per capita of the two groups are similar ($27,046 and $30,426 respectively in 2005).

Most governments have reduced their top tax rates and spending-to-GDP ratios over the last decade or so, according to data published by the OECD, IMF and World Bank. But slimmer governments have done so at a faster pace, and to significantly lower levels. Their highest tax rate on personal income fell to a group average of 30% in 2006 from 36% in 1996. Top corporate rates were lowered to an average of 22% from 30%. Their average ratio of total government outlays to GDP fell to 31.6% in 2007, from an average peak level during the previous two decades of 40.4%

Investment growth jumped to an average annual rate of 5.9% in 2000-2005, from 3.8% over the previous decade. Exports have risen by 6.3% annually since 2000. The net result was a surge in economic growth. The IMF reports that GDP soared in the slimmer-government group at a 5.4% average annual rate from 1999-2008 (including its forecast for the current year), up from a 4.6% rate over the previous decade.

Over that same period, the bigger-government group was more timid in its tax reductions. Their highest individual rates declined to an average of 45% from 49%, and corporate rates to 29% from 35%. Furthermore, their average spending-to-GDP ratio only fell to 48.3% from a peak of 55.2%.

The bigger-government group therefore failed to gain any competitive advantages in global markets by generating or attracting larger investment funds. Their investment growth slowed to an average annual rate of 0.8% in 2000-2005, from 4.1% in 1990-2000. Their export growth rate almost halved to 3.1% annually in 2000-2005, down from 6.1% in 1990-2000. The bottom line is a drop in their average annual GDP growth rate to 2.1% in 1999-2008, from 2.3% over the previous decade.

Nor did they balance their books. They ran budgetary deficits averaging 1.1% of GDP in 2006, whereas slimmer governments generated an average surplus of 0.3% of GDP. Their net government debt averaged 39.2% of GDP in 2006, more than four times higher than the latter's. Interest payments on their debt took 2.3% of their GDP, compared with an average of just 0.5% in the slimmer-government group.

Slimmer-government countries also delivered more rapid social progress in some areas. They have, on average, higher annual employment growth rates (1.7% compared to 0.9% from 1995-2005). Their youth unemployment rates have been lower for both males and females since 2000. The discretionary income of households rose faster in the first group. This allowed their real consumption to increase by 4.1% annually from 2000-2005, up from 2.8% in 1990-2000. In the bigger-government group, the growth of household consumption has slowed to a 1.3% average annual rate, from 2.1% during the 1990-2000 period.

Faster economic growth in the first group also generated a more rapid increase in government revenue, despite (or rather, because of, supply-siders suggest) lower overall tax burdens.

Slimmer-government countries seem to have made better use of their smaller health resources. Total spending on health programs reached 9.5% of GDP in the bigger government group in 2004, 1.6 percentage points above the average in the slimmer-government group. Yet slimmer-government countries have raised their average life expectancy at birth at a faster pacer since 1990, reaching an average level of 78 years in 2005, just one year below the average for bigger spenders. Average life expectancy is now 80 years in Singapore, although government and private health programs combined cost only 3.7% of its GDP.

Finally, spending by bigger governments on social benefits (such as unemployment and disability benefits, housing allowances and state pensions) was higher (20.3% of GDP in 2006) than that of slimmer governments (9.6%). But these transfers do not appear to have resulted in greater equality in the distribution of income. The Gini index measuring income distribution is similar for both groups.

Other forces clearly helped to narrow income disparities in slimmer-government economies. These forces include wage-setting practices, saving habits, the availability of employer-funded pension schemes, and income sharing among extended families.

Both groups reduced the share of defense spending in GDP over the past decade. The slimmer-government average fell 0.1 points to 2.2% in 2005, but this level was 0.5 percentage points above the bigger-government average. The average share of armed forces personnel in the total labor force in the bigger-government group fell to 1.1% from 1.5% in 1995, whereas it grew to 1.7% from 1.5% in the slimmer-government group.

Information on public order and safety expenditures is incomplete. But for the 11 countries for which data are available, slimmer governments seem to take their responsibilities more seriously. They spent an average of 1.8% of GDP on these functions in 2006, compared with 1.5% by bigger governments.

The early supply-siders were right. My findings firmly reject the widely held view that lower taxes inevitably result in cuts in public services, slower growth and widening income inequalities. Today's policy makers should take note of how tax cuts and the pruning of inefficient government programs can stimulate sluggish economies.

Mr. Marsden, a fellow of the Centre for Policy Studies in London, was previously an adviser at the World Bank and senior economist in the International Labour Organization.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.
 
 

 Why Brazil Isn't Ashamed to Exploit Its Oil
WSJ June 16, 2008 Mary OGrady

Petrobras CEO José Sergio Gabrielli was flush with bullish insights when he stopped by the Journal's New York office last week to talk about the Brazilian oil company.

One reason for Mr. Gabrielli's optimism is last year's discovery of the offshore Tupi field, which is said to contain between five billion and eight billion barrels of black gold. Another, equally important reason is that, according to Mr. Gabrielli, neither environmentalists nor Brazilian politicians have raised concerns about exploiting oil in the waters off the Brazilian coast.
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Get the latest information in Spanish from The Wall Street Journal's Americas page.

That's quite a contrast with attitudes in the U.S., where offshore exploration and development has been all but shut down save in the Gulf of Mexico. One company official explains the difference by saying that Brazilians understand the importance of energy to their future, while Americans do not.

I have another theory. And mine fits the pattern of resource development – or lack thereof – all over the Western Hemisphere. It comes down to this: Where government has the property right, restrictions on development tend to be low. But when the private sector is the owner, environmental concerns blossom.

Exhibit A is Petrobras. Not only did Mr. Gabrielli say there is no appetite for stopping offshore projects in his country. He went further. "Brazil has one of the freest and most investor-oriented regulation in the world. Even freer than the United States of America," he said, referring to the climate for oil exploration.

That may be so, but it would be interesting to know why, given Brazil's prominent embrace of socialism. It could be that the country is changing. After all there is now private-sector competition in the oil industry. Yet it is also worth noting that the Brazilian government has a 58% controlling stake in Petrobras's voting shares and 32% of its total shares. This means that some of Petrobras profits go straight to the government's bottom line, giving the politicians more money to spend on bribing their constituents.

In the U.S., Congress doesn't have nearly such a vested interest in a successful oil industry. What good are corporate profits if they go to shareholders, pensioners and employees? Congress has even been denied the windfall profits tax. For American politicians there is a much greater incentive to respond to the concentrated power of the special interest group known as the "greens."

There are plenty of other examples. In 1995, the British government sold its final remaining shares of British Petroleum, which had been largely privatized throughout the 1980s. In October 1996, a British member of the European Parliament, Socialist Richard Howitt, began harassing BP for alleged environmental and human-rights violations in Colombia. Had the company suddenly gone from being a model citizen to a murderous, contaminating corporation? Or did the Socialists lose their incentive to support the company and discover new reasons to attack it, since left-wing constituents were ideologically allied with the Colombian rebels who were blowing up BP pipelines?

At least Petrobras is a well-run, publicly listed company that has to answer to shareholders. Pemex, Mexico's state-owned oil monopoly, has a history as a notorious polluter yet is seemingly exempt from political pressure to clean up its act.

Mining provides an even better window on this contradiction. Bolivia, Venezuela and Cuba all boast aggressive, state-owned mining operations. Yet neither the nongovernmental enviro-movement nor the political class utters a peep to object.

Wherever the private sector is proposing mineral exploration, the story is flipped on its head. In February, I visited a rural town in El Salvador, where Pacific Rim Mining Corp. is trying to reopen the El Dorado gold mine. The company spent a year building the designs for the mine, in a process that included more than 20 public meetings with the local community. It says that the final design exceeds international standards. The government of President Tony Saca acknowledges this by telling the company that there is no technical problem with the mine, only political ones.

Those political problems come from the left-wing FMLN political party, and the NGOs that share the FMLN's antiprivate-sector ideology. They have raised an environmental stink about the mine, though none of it has been substantiated. Even so, the Saca government has responded by sitting on Pacific Rim's permits for four years, sending a signal to investors that El Salvador is not open for business.

The local mayor told me that the community wants the project, which will directly create 600 new jobs and could produce as many as 3,000 indirect jobs. The real problem is that since the government isn't the owner, El Dorado doesn't inspire politicians in San Salvador the way Petrobras inspires Brasilia.

Write to O'Grady@wsj.com

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 Freedom for Zimbabwe
By MORGAN TSVANGIRAI
WSJ March 21, 2008; Page A13

As the March 29 election in Zimbabwe approaches, the cards are clearly stacked in favor of President Robert Mugabe and his ZANU-PF party. Draconian legislation has curtailed freedom of expression and association. Daily, the representatives of the Movement for Democratic Change (MDC), the political party that I lead, are harassed, tortured, imprisoned without trial and even killed.

Economic mismanagement by Mr. Mugabe's government is an even more serious problem. Zimbabwe's inflation and unemployment rates are 150,000% and 80% respectively. Infrastructure is crumbling, and education and health-care systems have collapsed. Life expectancy is now among the lowest in the world, having declined, since 1994, to 34 years from 57 years for women, and to 37 years from 54 for men. Some four million of my fellow citizens have fled the country, taking with them both human and financial capital.

Out of the many reasons for Zimbabwe's decline, three stand out. First is the ruling regime's contempt for the rule of law. The government has repeatedly stole elections, and intimidated, beaten and murdered its opponents. It has confiscated private property without compensation and ignored court rulings declaring such takings illegal. Such behavior only scares away investors, domestic and international. Current circumstances make it impossible to have a growing economy that will create jobs for millions of unemployed Zimbabweans.

The government of Zimbabwe must be committed to protecting persons and property; and the restoration of political freedom and property rights is an essential part of MDC's economic recovery strategy. This means compensation for those who lost their possessions in an unjust way. It also means striking a healthy balance between reconciliation and accountability by establishing a Truth and Reconciliation Commission along the lines of the South African TRC. And it means restoring the independence of the judiciary.

The second reason for Zimbabwe's decline is the government's destruction of economic freedom, in order to satisfy an elaborate patronage system.

Today, Zimbabwe ranks last out of the 141 countries surveyed by the Fraser Institute's Economic Freedom in the World report. According to 2007 World Bank estimates, it takes 96 days to start a business in Zimbabwe. It takes only two days in Australia. Waiting for necessary licenses takes 952 days in Zimbabwe, but only 34 days in South Korea. Registering property in Zimbabwe costs an astonishing 25% of the property's value. In the United States, it costs only 0.5%.

The MDC is committed to slashing bureaucratic red tape and letting domestic and foreign entrepreneurs improve their lot and, consequently, Zimbabwe's fortunes. We will open economic opportunity to all Zimbabweans. Unlike the ZANU-PF dictatorship, which has destroyed domestic entrepreneurship, we consider the business acumen and creative ingenuity of the people to be the main source of our future growth.

The third factor responsible for the country's decline is the size and rapaciousness of the government. Today, that size is determined by the requirements of patronage. But a government that provides hardly any public services cannot justify the need for 45 ministers and deputy ministers, all of whom enjoy perks ranging from expensive SUVs to farms that were confiscated from others.

The Central Bank too has departed from its traditional role of stabilizing prices. Instead, it dishes out money to dysfunctional, government-owned corporations that are controlled by the ZANU-PF and are accountable to no one. The result is runaway growth in the money supply, and the highest inflation rate in the world. Zimbabwe's potential for economic growth cannot be realized without macroeconomic stability. Hyperinflation must be tamed, in part by taming the government's appetite for spending.

The MDC plans a complete restructuring of the government, including a reduction of the number of ministers to 15. The government will have to live within its means. It will not be allowed to inflate its way out of trouble. To that end, the Reserve Bank of Zimbabwe must become independent of the government and given the sole task of fighting inflation.

Most state-owned companies are woefully inefficient, a strain on the budget and a much-abused vehicle for ZANU-PF patronage. They will be privatized or shut down.

This is, of course, not an exhaustive list of reforms necessary to set the Zimbabwean economy on a path to growth. Our tax code will also have to be made simpler and flatter to encourage thrift and enterprise, and our trade and investment regimes will have to be reopened.

The people of Zimbabwe hunger not just for food, but also for political change. MDC rallies draw enormous crowds -- even in areas where the risk of being murdered by government agents is highest. A recent independent poll, conducted by the University of Zimbabwe, puts my candidacy in the first place, with Robert Mugabe's a distant second and Simba Makoni's third.

There is still a chance that the election results will reflect the popular will. Then the people will have the new Zimbabwe they deserve, under a government guided by the principles dear to free people everywhere.

Mr. Tsvangirai is a presidential candidate in Zimbabwe's upcoming elections.

See all of today's editorials and op-eds, plus video commentary, on Opinion Journal.

TAXES AND ENTREPRENEURSHIP
------------------------------------------------------------------------

A tax system with low rates and little or no progressivity provides the
greatest incentives to encourage entrepreneurship, says the Fraser
Institute.

Entrepreneurship is increasingly being recognized as a critical
determinant of job creation, innovation, and productivity gains.
Taxes have an impact on the rewards of such activity, says Fraser.

One of the most frequently used measures of entrepreneurship is
self-employment.  According to economists William Gentry and Glenn
Hubbard, a more progressive tax structure reduced the probability of
becoming self employed.  For example:
   o   When tax rates are more progressive, entrepreneurs pay
       substantial taxes on profits but save little in taxes when
       losses occur
   o   A 5 percent reduction in tax progressivity would increase the
       probability of entrepreneurial entry by .86 percent.
   o   Reducing capital gains taxes, corporate income taxes and
       payroll taxes all have a positive impact on self employment.
Another often-used indicator of entrepreneurship is business creation
and growth.  A number of studies have shown the impact of taxes on
creation and growth of businesses, says Fraser.

According to economist Robert Carroll:
   o   A decrease in the marginal tax rate levied on a sole
       proprietor from 50 percent to 33 percent would lead to an
       increase in revenues of about 28 percent.
   o   A 5 percent rise in marginal tax rates would reduce the
       proportion of entrepreneurs who make new capital investments
       10.4 percent, as well as lowering mean capital outlays by 9.9
       percent.

This shows that taxes not only affect people's decisions to become or
entrepreneurs, but also impact their decisions while they are
entrepreneurs.  Overall, the evidence suggests that a simple tax
system, characterized by little or no progressivity and low rates for
numerous types of taxes, would provide the least amount of distortion
in the economy and provide the greatest incentives to encourage
entrepreneurship, says Fraser.

Source:  Keith Godwin, "Taxes and Entrepreneurship,"
Fraser Institute, February 2008.
For more on Taxes:
http://www.ncpa.org/sub/dpd/?Article_Category=20

------------------------------------------------------------------------
CAN THE WORLD AFFORD A MIDDLE CLASS?
------------------------------------------------------------------------

The middle class in poor countries is the fastest-growing segment of
the world's population.  While the total population of the planet
will increase by about 1 billion people in the next 12 years, the ranks
of the middle class will swell by as many as 1.8 billion.  Homi
Kharas, a researcher at the Brookings Institution, estimates that by
2020 the world's middle class will grow to include a staggering 52
percent of the global population, up from 30 percent now.

While this is good news, it also means humanity will have to adjust to
unprecedented pressures.  The rise of a new global middle class is
already having repercussions, says Kharas:
    o   Last January, 10,000 people took to the streets in Jakarta to
       protest skyrocketing soybean prices.
   o   Indonesians were not the only people angry about the rising
       cost of food. In 2007, higher pasta prices sparked street
       protests in Milan.
   o   Mexicans marched against the price of tortillas.
   o   Senegalese protested the price of rice, and Indians took up
       banners against the price of onions.
   o   Many governments, including those in Argentina, China, Egypt
       and Russia, have imposed controls on food prices in an attempt
       to contain a public backlash.

The impact of a fast-growing middle class will soon be felt in the
price of other resources.  After all, members of the middle class
not only consume more meat and grains, but they also buy more clothes,
refrigerators, toys, medicines and, eventually, cars and homes:
   o   China and India, with 40 percent of the world's population,
       most of it still very poor, already consume more than half of
       the global supply of coal, iron ore, and steel.
   o   Not surprisingly, in the past two years, the world price of
       tin, nickel, and zinc have roughly doubled, while aluminum is
       up 39 percent and plywood is now 27 percent more expensive.

Source:  Moisés Naím, "Can the World afford A
Middle Class?," Foreign Policy, March/April 2008.

For text:
http://www.foreignpolicy.com/story/cms.php?story_id=4166
For more on Economic Issues:
http://www.ncpa.org/sub/dpd/?Article_Category=17
 
 
 

 March 18, 2008, 3:53 pm
Economists React: Fed’s ‘Most Difficult Call’

Economists and others weigh in on the the Fed’s decision to lower interest rate by three-quarters of a percentage point to 2.25%..
#

The economic factors clearly took a back seat to liquidity fears and the restoration of confidence in a system fraught with uncertainty. A prudent, economics-focused Fed would more likely have balanced the downside risks of obviously slowing growth with the potential for higher prices down the road. Such a balance, as the Taylor Rule suggests, would more likely mean a [half percentage] point rate cut, but current circumstances simply demand a more aggressive response. –Guy LeBas, Janney Montgomery Scott
#

The dissents might be a signal that the [three-quarter-point] outcome represented a compromise between some who pushed for a larger move and those that would go along with only a [half-point] cut… We reject the notion that the smaller than anticipated rate cut reflects an attempt to save some ammunition. Instead, it appears that there are at least some members who remain concerned about inflation risk and perhaps some who have related concerns regarding the dollar. –David Greenlaw, Morgan Stanley
#

Mr. Plosser [who dissented] has form; he was a member of the Shadow FOMC, a monetarist group which railed against the Fed easings in April 01. Yes, you read that right, he did not want to ease even though the economy was in recession. We should probably be grateful he agreed to anything today… By April 30 Mr. Bernanke should be able to extract another 50 basis points from his more reluctant colleagues. This will all make no difference to the near-term data, but it is a necessary precondition for recovery, eventually. –Ian Shepherdson, High Frequency Economics
#

These actions were taken despite rising inflation pressures. The Fed expects these pressures will subside as energy and other commodity prices flatten out, and as unused resources rise. Our take, however, is that commodity price strength is in part a function of the easy stance of monetary policy and that inflation is headed higher. –Bear Stearns
#

For our money, this was the most difficult call for the Fed and for market players in some number of decades. In our assessment, the difference between [a three-quarter-point cut] and [a full-percentage-point cut] is immaterial. The size and scope of both the action out of Washington coming down the pike and the regulation that will come in its aftermath make the extra quarter-point of liquidity pale in comparison over what has become a very dark winter on Wall Street. Spring will arrive eventually, but the thaw that accompanies the deep freeze in financial markets will be quite painful. –Joseph Brusuelas, IDEAglobal
#

What’s next? About the only thing we know is that further surprises are likely to occur. The Fed is rapidly using up all its bullets but there is no other choice. It will probably have to use more up before the coast is clear. Ultimately, I believe the Fed will succeed in keeping us out of a steep and protracted recession and I still feel that the economy will be up and running by the end of the year. –Naroff Economic Advisors

Compiled by Phil Izzo

Offer your reactions in the comments section.
 

GROSSLY DISTORTED PICTURE
------------------------------------------------------------------------

The single best gauge of economic performance is not growth in gross
domestic product, but GDP per person, which is a rough guide to average
living standards.  It tells a completely different story, says the
Economist.

Using growth in GDP per head rather than crude GDP growth reveals a
strikingly different picture of other countries' economic health.
For example:

   o   Australian politicians often boast that their economy has had
       one of the fastest growth rates among the major developed
       nations -- an average of 3.3 percent over the past five years.

   o   But Australia has also had one of the biggest increases in
       population; its GDP per head has grown no faster than Japan's
       over this period.

   o   Likewise, Spain has been one of the euro area's star
       performers in terms of GDP growth, but over the past three
       years output per person has grown more slowly than in Germany,
       which like Japan, has a shrinking population.

Some emerging economies also look less impressive when growth is
compared on a per-person basis:

   o   One of the supposedly booming BRIC countries, Brazil, has
       seen its GDP per head increase by only 2.3 percent per year
       since 2003, barely any faster than Japan's.

   o   Russia, by contrast, enjoyed annual average growth in GDP per
       head of 7.4 percent because the population is falling faster
       than in any other large country (by 0.5 percent a year).

   o   Indians love to boast that their economy's growth rate has
       almost caught up with China's, but its population is also
       expanding much faster; over the past five years, the 10.2
       percent average increase in China's income per head dwarfed
       India's 6.8 percent gain.

Source: "Grossly Distorted Picture," The Economist, March 13,
2008.

For text:

http://www.economist.com/finance/displaystory.cfm?story_id=10852462
 

For more on Economic Issues:

http://www.ncpa.org/sub/dpd/?Article_Category=17

 
March 18, 2008, 10:00 am
Secondary Sources: Fed Aid, Home Prices, Commodity Costs

A roundup of economic news from around the Web.
#

Helping the Fed: Writing for the Washington Post, Alan Blinder argues that the Fed can’t fix the economy by itself. “Earth to the White House and Congress: The Fed cannot do this job alone… Our best hope for leadership from Washington may now be in Congress. Rep. Barney Frank (D-Mass.) and Sen. Chris Dodd (D-Conn.) are working on a fine bill that, by easing some of the stresses in the mortgage market, could do some real good. I urge Frank, Dodd and the Democratic leadership to expedite the process, and congressional Republicans should stop standing in the way. In 1933, Franklin Roosevelt famously told Americans that “the only thing we have to fear is fear itself.” Unbridled fear is gripping today’s financial markets. We need some soothing words right now — followed by actions, as FDR’s words were. Who will step forward?” Meanwhile, in the Financial Times, Mohamed El-Erian says the Fed must use unconventional methods. “First, supplement monetary policy by getting the Fed to fill the void left by slowing moving fiscal agencies — through outright purchases of high-quality mortgage securities or by extending financing terms to one year. And, second, there should be co-ordinated central bank intervention to counter disorderly exchange rates that exacerbate the credit turmoil.”
#

Tough Love: Alex Tabarrock writes in the New York Times that a house-price collapse may not be inevitable, but fear poses the risks of making it so. “Several studies estimate that the average house prices of 2004 were close to fundamental levels, so we may see prices stabilize near that level… If the financial markets remain uncertain about when the decline in house prices will end, then fear will tighten credit even further, which would strangle the housing market and generate even more fear. We have nothing to fear but fear itself, but fear itself can be pretty scary.”
#

Commodity Prices: Brad Setser writes on his blog that global demand can’t explain soaring costs of commodities. “The popular explanation [for rising prices] since 2004 has been rapid growth in the world economy… This reigning explanation now looks suspect. Since last summer the U.S. economy has slowed down noticeably, and is probably entering a recession. Despite talk of decoupling, it is clear that other countries are also slowing down at least to some extent. In its most recent forecast, the IMF World Economic Outlook revised downward the growth rate for virtually every region, including China. The overall global growth rate for 2008 has been marked down by 1.1% (from 5.2 % in July 2007, just before the sub-prime mortgage crisis hit, to 4.1 % as of January 29, 2008). And prospects continue to deteriorate. Yet commodity prices have found their second wind over precisely this period! (Up some 25% or more since August 2007, by a number of indices.) So much for the growth explanation.”

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 Order in the jungle

Mar 13th 2008
From The Economist print edition
The rule of law has become a big idea in economics. But it has had its difficulties
JAC

“AM I the only economist guilty of using the term [rule of law] without having a good fix on what it really means?” asks Dani Rodrik of Harvard University. “Well, maybe the first one to confess to it.”

The rule of law is usually thought of as a political or legal matter. The world's newest country, Kosovo, says its priority is to improve the rule of law in order to reduce corruption and build up the state. But in the past ten years the rule of law has become important in economics too. Indeed, it has become the motherhood and apple pie of development economics—which makes Mr Rodrik's confession the more striking. The rule of law is held to be not only good in itself, because it embodies and encourages a just society, but also a cause of other good things, notably growth. “No other single political ideal has ever achieved global endorsement,” says Brian Tamanaha, a legal scholar at St John's University, New York.

But as an economic concept the rule of law has had a turbulent history. It emerged almost abruptly during the 1990s from the dual collapses of Asian currencies and former Soviet economies. For a short time, it seemed to provide the answer to problems of development from Azerbaijan to Zimbabwe, until some well-directed criticism dimmed its star. Since then it has re-established itself as a central concept in understanding how countries grow rich—but not as the panacea it once looked like.

Economists became fascinated by the rule of law after the crumbling of the “Washington consensus”. This consensus, which was economic orthodoxy in the 1980s, held that the best way for countries to grow was to “get the policies right”—on, for example, budgets and exchange rates. But the Asian crisis of 1997-98 shook economists' confidence that they knew which policies were, in fact, right. This drove them to re-examine what had gone wrong. The answer, they concluded, was the institutional setting of policymaking, especially the rule of law. If the rules of the game were a mess, they reasoned, no amount of tinkering with macroeconomic policy would produce the desired results.

This conclusion was strengthened by events in the former Soviet empire. Many post-communist countries got their policies roughly right fairly quickly. But it soon became clear this was not enough. “I was a traditional trade and labour economist until 1992,” says Daniel Kaufmann, now head of the World Bank Institute's Global Governance group. “When I went to Ukraine, my outlook changed. Problems with governance and the rule of law were undermining all our efforts.”

Pretty quickly, “governance”—political accountability and the quality of bureaucracy as well as the rule of law—became all the rage. Economists got busy calculating what it was, how well countries were doing it and what a difference it made. Mr Kaufmann and his colleague Aart Kraay worked out the “300% dividend”: in the long run, a country's income per head rises by roughly 300% if it improves its governance by one standard deviation. One standard deviation is roughly the gap between India's and Chile's rule-of-law scores, measured by the bank. As it happens, Chile is about 300% richer than India in purchasing-power terms. The same holds for South Africa and Spain, Morocco and Portugal, Botswana and Ireland. Economists have repeatedly found that the better the rule of law, the richer the nation. (The chart below shows the results of three studies, put on a comparable basis by Mr Kaufmann.) Every rich country with the arguable exceptions of Italy and Greece scores well on rule-of-law measures; most poor countries do not.

Mr Rodrik reviewed the contributions to growth of governance (“institutions”, he called it), geography and openness to trade. He concluded, to use the title of an article he published in 2002, that “Institutions Rule”. Writing from the perspective of a political scientist, Francis Fukuyama of Johns Hopkins University concurred: “I believe that the institutionalists have won this argument hands down.”

Partly because of this, and also because the rule of law is desirable for its own sake, governments and aid agencies began splurging money on rule-of-law reforms, such as training judges, reforming prisons and setting up prosecutors' offices. Such reforms had begun in Latin America in the mid-1980s. Now they became universal.

The European Union insists that all its members satisfy standards for the rule of law. It requires applicants to commit themselves to legal reforms to meet those standards and dispatches armies of lawyers to advise them how to bring their legal systems up to scratch. America's Millennium Challenge Corporation, set up in 2004 to improve the effectiveness of American official aid, confines its largesse to countries that have committed themselves to minimum rule-of-law standards (one of three basic requirements). Western donors have poured billions into rule-of-law projects over the past 20 years. The World Bank is now running such projects (narrowly defined) worth almost $450m; on a wider definition, almost half the bank's total lending of $24 billion in 2006 had some rule-of-law component (for example, advice on conflict resolution in village-development projects, or on bankruptcy law in privatisation programmes). In roughly a decade the rule of law has gone from a specialist political and legal topic into a staple of economic thinking and the subject of a vast aid-giving effort.

So it came as an unwelcome surprise when, in 2003, one of the world's acknowledged experts on governance wondered aloud whether the emperor had any clothes. Thomas Carothers of the Carnegie Endowment for International Peace, a think-tank in Washington, DC, wrote a paper politely entitled “Promoting the Rule of Law Abroad: The Problem of Knowledge”. According to Mr Carothers, the problem was, as William Goldman said of Hollywood, that nobody knows anything.

Mr Carothers argued that the intrinsic difficulty of defining the rule of law, combined with the problems of knowing how specific laws work in practice, meant that “the rapidly growing field of rule-of-law assistance is operating from a disturbingly thin base of knowledge at every level.” Many of the difficulties are inherent, he said. But not all: aid organisations always look forward to the next project, rather than back to the lessons of experience; lawyers who carry out the work are not much interested in development; university professors are not gripped by applied policy research. As a result, according to one rule-of-law promoter, “deep down, we don't really know what we are doing.”

The shock of Mr Carothers's argument was salutary. In response, there has been a flurry of rule-of-law studies. A new body of work has appeared, which could be called the economics of the rule of law. It shows the rule of law can indeed be improved. It has made clearer what economists and others mean when they talk about the rule of law. It has laid down some guidelines about reforms, helping show what works when, say, training judges or policemen. What it has not yet shown beyond doubt is that the rule of law is a precondition for economic growth everywhere. In the process, the subject of law as an economic matter has begun to grow up. It has passed from vigorous childhood into more troubled adolescence.
Unruly law

In “The Rule of Law and Development” (to be published next month by Edward Elgar), Michael Trebilcock of the University of Toronto and Ron Daniels of the University of Pennsylvania tackle the question of what economists mean by the rule of law. A report by a new research group, the Hague Institute for the Internationalisation of Law, does the same thing. Both publications argue that people routinely use two quite different definitions, which they call “thick” and “thin”.

Thick definitions treat the rule of law as the core of a just society. In this version, the concept is inextricably linked to liberty and democracy. Its adherents say a country can be spoken of as being ruled by law only if the state's power is constrained and if basic freedoms, such as those of speech and association, are guaranteed. The “declaration of Delhi” drawn up by the International Commission of Jurists in that city in 1959 followed this line in saying that the rule of law “should be employed to safeguard and advance the civil and political rights of the individual” and create “conditions under which his legitimate aspirations and dignity may be realised.” Among other proponents of a thick definition are Friedrich Hayek, an Austrian economist, and Cass Sunstein of the University of Chicago. In their view, the rule of law includes elements of political morality.

Thin definitions are more formal. The important things, on this account, are not democracy and morality but property rights and the efficient administration of justice. Laws must provide stability. They do not necessarily have to be moral or promote human rights. America's southern states in the Jim Crow era were governed by the rule of law on thin definitions, but not on thick.

The existence of competing definitions of something may seem fatally to undermine its usefulness. If you argue that the rule of law is vital to growth, which version do you mean—the one that defends human rights or the one that guarantees property rights? But economists love competition. Their differing definitions of the rule of law reflect competing explanations of what drives economic growth.

One account of growth—associated with Douglass North of Washington University in St Louis, Missouri—is “institutional”. It focuses on the importance of property rights, transaction costs and economic organisation. On this view, stable, predictable laws encourage investment and growth. Thin definitions of the rule of law fit this well. The other—associated with Amartya Sen of Harvard—says that if you expand people's “capabilities” (Mr Sen's term), they will do things that help countries grow rich. Freeing people to take advantage of their capabilities usually means lifting the oppressive burden of the state and guaranteeing certain basic rights—a much thicker concept.

The distinction between thick and thin versions of the rule of law overlaps another distinction between legal traditions. Starting in 1997, a group of economists led by Andrei Shleifer of Harvard and Robert Vishny of Chicago started to compare the economic performance of common-law countries (such as America and Britain) with that of civil-law ones (France, Germany and Scandinavia). They argued that common-law countries have more secure property rights, better protection of shareholders and creditors, more diversified share ownership, and tougher disclosure and liability laws—to the benefit, they claimed, of stockmarket performance.

Like the initial claims for the rule of law, those on behalf of the common law were subject to harsh criticism at about the same time, mostly from continental economists. Some claimed the differences between common and civil law were not as sharp as they seemed, and were proxies for differences of politics, history and culture. Others pointed out that a country's legal origins do not seem to explain much about how it is faring economically or in terms of the rule of law. North and South Korea have the same legal origins.

But just as rule-of-law scholars have responded to criticism with more research, so have the legal-origins crowd. In a stream of papers they have found strong evidence that civil-law countries encourage government ownership of the media and banks, a higher burden of entry into business, more labour-market regulation and greater formalism of court procedures—to their detriment, they claim.

Perhaps such arguments can never be resolved. As Rainer Grote of the Max Planck Institute for Comparative Public Law and International Law in Heidelberg says, the rule of law “belongs to the category of open-ended concepts which are subject to permanent debate.” This part of the new economics of the rule of law clarifies its role, but no more. Other findings, though, are more constructive.
Scales of justice

There have been huge improvements in monitoring and measuring the rule of law, even though people cannot agree exactly what it is. “Fifteen years ago, we didn't talk about this stuff,” says Steve Radelet of the Centre for Global Development, a Washington think-tank. “Ten years ago, there was no data.” Now, the Worldwide Governance Indicators project—“one of the best kept secrets at the World Bank”, believes Gordon Johnson, a grand old man of aid-giving—is the state of the art. It gathers data on more than 60 indicators (the extent of crime, the quality of police, judicial independence and so on) to create rule-of-law and governance measures for virtually every country in the world. Aggregating like this (and being honest about the margin of error), says Mr Kaufmann, is far from perfect, but is a decent approximation.

These measures confirm what is clear anyway: some countries have been able to improve their legal framework even in a short time. In 2000 Mikhail Saakashvili, then Georgia's minister of justice, sacked two-thirds of his country's judges for failing to pass an exam. Four years later as president, he fired all the country's traffic police. Georgia's World Bank rule-of-law score rose from nine out of 100 in 2002 (in the bottom 10%) to 33 at the end of 2006—low, but better. Central European and Baltic countries are doing better still: the radical legal changes required by membership of the EU improved their economies as well as their judicial systems.

In general, the measures suggest, bold reforms work better than gradual ones. Latin America modernised its penal codes and made trials more transparent. Chile, for instance, established a new public-prosecution system beginning in 2003. But many of its officials lack experience and have met resistance from the police. Russia implemented some judicial reforms in the 1990s and raised spending on the courts in 2000—to no avail: its rule-of-law scores have fallen in five of the past seven years.

The difference between central Europe and Latin America may be one of political backing. Messrs Trebilcock and Daniels divide countries into three: those where politicians, legal professionals and the public all support reform (central Europe after the fall of communism, South Africa after apartheid); those where politicians support reform, but lawyers and police do not (Chile and Guatemala); and those where lawyers want change, but not politicians (Pakistan). Only in the first group, the professors say, does rule-of-law reform get far.

Consistent with that rather gloomy finding, some new research finds only a weak link between the rule of law and economic growth. The connection with wealth is well established (see chart again) but that is different: it has been forged over decades, even centuries. The link with shorter-term growth is harder to see. China appears to be a standing contradiction to the argument that the rule of law is needed for growth. It is growing fast and is the world's largest recipient of foreign investment, yet has lots of corruption and nothing that most Westerners would recognise as a rule-of-law tradition. (It does, though, guarantee some property rights and its government is good at formulating and implementing policies.)

On the other hand, there is surely a connection between the legal reforms carried out in central Europe and the Baltics and their fast growth rates, or between Spain's post-Franco legal opening and its long boom. And there are proxy indicators connecting legal reform with growth in other areas. The value of rural land in Brazil, Indonesia, the Philippines and Thailand increased sharply when people were given title deeds, because owners were more willing to invest. One independent study for the World Bank a decade ago found a surprising link between projects the bank financed and civil liberties: projects in countries with strong civil liberties had far higher rates of return than those in countries with weak traditions of liberty.

But such links do not tell you anything about causation. Perhaps growth helps the rule of law, not vice versa. Perhaps countries can afford the luxury of the rule of law only after they have grown rich. The persistence of “frontier justice” into the 1930s in America gives a colour of plausibility to that idea.

Yet it is not Mr Kaufmann's view. He argues that rule-of-law improvements tend to help growth; that few countries have sustained gains in growth without improving their rule of law; and that places that have grown without such improvement have subsequently lurched backwards (Argentina used to be one of the ten richest countries in the world). The real puzzle is to explain the exceptions: why crony capitalism has flourished in parts of fast-growing Asia or Kremlin banditry in Russia. The answer, he says, is that, without a rule of law, well-connected crooks can grab an unfair share of the spoils of growth, especially if these include windfall gains from oil and raw materials.

The existence of crony capitalism and “state capture” by robber barons is, of course, an argument for trying to strengthen the rule of law where you can, since it suggests growth will not necessarily create law automatically. There are other arguments, too: the rule of law is desirable for its own sake—to improve human rights or to increase citizens' chances of justice against predatory governments. As John Locke wrote in 1690, “wherever law ends, tyranny begins.” Plainly, in some countries, such as Myanmar and Zimbabwe, legal abuses and over-mighty regimes are direct obstacles to growth. Reforms would help—if they could be implemented.

But as a generalisation, the efforts of the past few years have thrown up mixed messages. They suggest the rule of law can be improved sharply; that rule-of-law reform is at root a political not a technical undertaking; and that it is linked to growth, if weakly in the short term. But they do not really bear out the assertion that the rule of law is an underlying prerequisite for growth. Rather, the more economists find out about the rule of law, the more desirable it seems—and the more problematic as a universal economic guide.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

 
Africa: A Tragic Continent
By Walter E. Williams
Wednesday, February 27, 2008

President Bush's trip to Africa and promise of increased foreign aid will do little or nothing to solve the ongoing tragedy in most places on the south-of-Sahara African continent. Kenya is on the brink of a civil war. Over 1,000 people have been killed and another 300,000 made homeless. Rebels have invaded Chad. In the Darfur region of the Sudan, millions of people have been displaced in a genocidal war. Ethiopia and Eritrea threaten war again. Somalian warlords are in a pitched battle. Zimbabwe, once an independent, thriving jewel on the continent, now ruled by a tyrant, is on the brink of disaster, experiencing a 66,000 percent rate of inflation, expected to be over 100,000 percent by year's end. To put that inflation in perspective, the government has recently started printing 10 million Zimbabwe dollar notes. A hamburger sells for 15 million Zimbabwe dollars.

The recent African carnage is by no means new. During a 100-day period in 1994, an estimated 800,000 Rwandans, mostly Tutsis, were killed. There were an estimated 100,000 to 500,000 Ugandans murdered under the brutal rule of Idi Amin. Liberia, Ivory Coast and the Congo have been racked by war, and slavery exists to this day in Mauritania and Sudan. Added to this carnage is gross corruption, AIDS, famine and repression.

African leaders, and many people on the left, blame Africa's problems on the evils of colonialism. They sometimes blame the violence on the borders colonialists created that ignored ethnicity. Many African nations have been independent for four decades. If colonial borders were a major problem, how come they haven't changed them? And, by the way, colonialism cannot explain Third World poverty. Some of today's richest countries are former colonies, such as: United States, Canada, Australia, New Zealand and Hong Kong. Some of today's poorest countries were never colonies, such as: Ethiopia, Liberia, Tibet, Nepal and Bhutan. The colonialism argument is simply a cover up for African dictators.

The worst thing the West can do to Africa is to give more foreign aid. For the most part, foreign aid is government to government. As such, it provides the financial resources that enable Africa's grossly corrupt and incompetent regimes to buy military equipment, pay off cronies and continue to oppress their people. It also provides resources for the leaders to live lavishly and set up "retirement" accounts in foreign banks.

Africa is the world's most natural-resources rich continent. It has 50 percent of the world's gold, most of the world's diamonds and chromium, 90 percent of the cobalt, 40 percent of the world's potential hydroelectric power, 65 percent of the manganese, and millions of acres of untilled farmland, as well as other natural resources. Before independence, every African country was self-sufficient in food production; today, many depend on imports and others stand at the brink of famine.

The only people who can solve the problems of Africa are Africans themselves. It is only they who can change their leaders, end corruption and bring about transparency in government and end the African wars. Only they can stop the continent's massive brain drain. This was brought home to me, a number of years ago, at a dinner I was invited to in honor of a new Nigerian ambassador to the United States. During his speech, he admonished the Nigerian professionals in attendance to come home to help the country develop. The Nigerians seated at my table, and nearby tables, fell into quiet laughter.

Most of what Africa needs, the West cannot give: rule of law, private property rights, fewer economic restrictions, independent judiciary and limited government. The one important thing we can do to help is to lower our trade barriers.
 
 

Dr. Williams serves on the faculty of George Mason University as John M. Olin Distinguished Professor of Economics and is the author of More Liberty Means Less Government: Our Founders Knew This Well.
 

Interview with Paul Romer on Mauritius   also in ireland email file with links
Tyler Cowen

Via Mark Thoma, here is an interview with Paul Romer about growth in Mauritius.  One question is how much Romer's growth theory was needed to generate this advice.  Second, I am surprised how little attention he gives to Mauritius being a small country.  I don't think that country size makes the advice much different, but perhaps expectations should be adjusted.  Most small countries aren't well-diversified and their growth rates depend heavily on real shocks.  Singapore is an exception, most of all because its citizenry is obsessed with accumulating human capital and thus it depends upon a general flow of foreign capital rather than specific sectors.  I don't see harm in Mauritius trying to follow this same path but I wouldn't expect them to succeed to a comparable degree.

Speaking of small countries, Fred Sautet has an interesting blog post on what happened to the New Zealand reforms.  Since the reforms starting in the 1980s, New Zealand has had excellent economic policies, probably better than Mauritius can expect to implement.  But New Zealand has not had stunning rates of economic growth.  A big part of the answer is simply that New Zealand still depends on the demands for dairy and agriculture.  Yes, many parts of the country are booming but the worldwide demand for commodities is a big part of the reason why.  The deregulation of agriculture helped but without rising food prices growth would be lower yet.  Earlier, it was Britain's removal of imperial preference in 1972 that sent the country tumbling over the edge in the first place.  Yes freedom is still better but in general small countries are less of an "economic laboratory" than we might think.  Conversely, while there are some good explanations for "the Irish miracle," a small country with a few million people can with good luck grow quite rapidly.

Just think about the determinants of your own family income; probably for most years policy changes are not #1 on the list.  A country of 1.2 million people, such as Mauritius, is more diversifed than your family, but not as much more diversified as you might think.  When it comes to real factors, Say's Law does hold.  Demand for your labor depends on the production decisions of 300 million mostly wealthy and often quite diversified Americans.  That offers your income a great deal of protection, relative to what suppliers on Mauritius can expect.

February 10, 2008 at 07:54 AM in Economics | Permalink | Comments (12)
 
 
 
 
 
 
 
 

 
Does the youth dependency ratio drive economic growth? From marginal revlotiion feb 08 also in 385 emails

Jane Galt and Malcolm Gladwell have a tiff.

Gladwell, citing David Bloom and David Canning, suggested that changes in the "youth dependency ratio," account for a big chunk of Irish economic growth.  The youth dependency ratio refers to how many young-uns require support, relative to the broader population.  The Irish legalized contraception in 1979, birth rates continued to fall, and later the economy boomed.  But is the connection a causal one?

Here is a basic argument and model that the youth dependency ratio can matter.

I can see three possible mechanisms.  1) Fewer babies mean that more women work.  2) Fewer babies mean that each baby gets more parental investment; in the long run those people are smarter.  3) Fewer babies raises the savings rate.

Which of these might have operated in Ireland?

On Mechanism #1, Irish women still work much less than the OECD average, yet Ireland is wealthier than almost anywhere else in Europe.  If a theory of growth first postulates a big or dominant effect, and then predicts rates but fails when it comes to predicting levels, I worry.

If we look at "rates of growth" only, this estimate suggests that more Irish female labor accounts for 1.5 percent Irish growth a year.  That hardly covers the growth gap between Ireland and the rest of Europe.  One estimate of elasticities suggests that an extra kid lowers an Irish woman's chance of working full-time by 11.3 percent, but raises her chance of part-time work by 7.7 percent.  How far does that get us?  Bloom is a renowned labor economist but his article is far from state of the art macroeconomics.  Do note that increases in "total factor productivity" -- often driven by foreign investment -- seem to be more important than "growth in labor inputs" by a three to two ratio.

It ought to be easy to show evidence that the Irish boom has been strongest in the sectors where women work the most, such as services and not manufacturing.  I can't find that evidence, can my readers?

Mechanism #2 is for the long run and it cannot explain the Irish boom of recent times or the timing of its possible connection to contraception.  Higher skills are a big part of the Irish story, but the trend started in about 1967.

Mechanism #3: In Ireland, since the mid 1970s, gross private savings rates have been falling, more or less.  More generally, time series models for a single country, including demographic ones, don't predict savings rates very well.

These studies I am citing have their defects, but they do show that the overall question is not so simple.

Notes:

1. These graphs show that, for developing countries, the change in the youth dependency ratio has "eyeball power" for 1975-1990, but not for 1960-1975.

2. This study of Asia suggests that the youth dependency ratio matters, often through the savings rate (not the Irish scenario); the entire story is conditioned by "institutional factors."

3. Latin America has had falling birth rates but has failed to cash in.  As Bloom stresses, favorable birth rates help only if the country has good policies for putting the new female workers into productive positions.  In this regard Galt and Gladwell may not be so far apart.

The bottom line: How much of the Irish boom is caused by the change in the youth dependency ratio?  I don't know.  If I had to offer a "I'm just a poor lil' ol' blogger but I've read lots of real business cycles macroeconomics simulation papers" seat of the pants sort of estimate, I would opt for a maximum of 15 to 20 percent.  That's certainly worth writing about, but it is not the major story either.  I'd like to see a sectoral decomposition analysis, and I suspect that would point our attention toward FDI, education, and a favorable tax regime as bigger factors.

Addendum: Malcolm adds more.

Posted by Tyler Cowen on August 30, 2006 at 07:36 AM in Economics | Permalink
Comments

There's also the possibility of a reverse causal relationship. Country gets wealthier and has a greater variety of goods and services available as well as higher probability of children surviving to adult; as a result, parents decide to spend more on themselves and on fewer children.

Of course, that causal relationship is bigger in a transition from pre-industrial to industrial and information age economies, so it may not be appropriate to the case of Ireland.

Posted by: John Thacker at Aug 30, 2006 9:30:10 AM

The article below offers a nice discussion of the many different factors
contributing to Irish growth, backed with lots of interesting data
(albeit without a precise decomposition). Demographics and taxes are only
two among many contributing factors.

"Catching up with the Leaders: The Irish Hare" Patrick Honohan; Brendan Walsh
Brookings Papers on Economic Activity, Vol. 2002, No. 1. (2002), pp. 1-57.

Posted by: Jon at Aug 30, 2006 9:35:19 AM

But the rise in income per head has two components - the rise in the share of the population in employment and growth in the productivity of those employed. Demographics has had a powerful effect on the first of these - but there's no evidence that productivity growth in Ireland is fater now than it was in the 70s. Ireland's productivity performance has always been good - it was just being masked by crippling demographics.

Posted by: Fergal at Aug 30, 2006 9:38:59 AM

I can offer an anecdotal observation based on my personal experiences. When I worked for a large PC company in the 90's I was heavily involved in launching our Irish operations. One of the key factors driving our decision was the availability of a highly educated workforce that was willing to work for close to nothing (relatively speaking).

Posted by: MikeG at Aug 30, 2006 10:00:13 AM

You seem to ignore the simple mechanism in Bloom -- Williamson (1998) where a demographic dividend leads to an increase in the ratio of workers to population (temporarily), and so leads to a rise in per-capita output even if per-worker output is unchanged. Since TFP is measured by comparing outputs to inputs, this leads to a measured rise in TFP simply as a transition effect.

Posted by: Barry Ickes at Aug 30, 2006 10:08:41 AM

Very important to read the comments on Jane's post, good stuff in there. One commenter supplies some excellent data that pretty much demolishes Gladwell's position.

Posted by: Noah Yetter at Aug 30, 2006 12:23:28 PM

I think that a far more interesting question for M. Cowen to inveigh on (pretty please?) is Gladwell's original article, which was about a different sort of dependency. I couldn't quite get my mind around the question of whether having the cost of pensions fall disproportionately on firms that have survived long enough to have large pension obligations (but which would be extremely profitable if they were to start operating tomorrow) could conceivably be less efficient than having the cost fall equally on all firms.

Posted by: personne at Aug 30, 2006 1:22:30 PM

Two comments:

Nowhere that I could see does anyone address the role played by the enormous transfer payments from the EU to Ireland during the 1990s (continuing?)

Secondly, the conservative faith argument about lower taxes sounds oh-so similar to the mercantile strategy of keeping ones currency undervalued relative to one's neighbors/competitors. Of course, lower taxes incentivize business to locate. But at what point does this practice become self-defeating as insufficient public funds are available to pay for infrastructure maintenance and basic social services. In other words, what tax rate maximizes revenues? (NB to supply siders, clearly it is not "0".)

Posted by: Martin at Aug 30, 2006 2:00:29 PM

Martin is right on. I too was looking for the effect of the EU transfers. They have had such a strong effect that accurately measuring other effects that have had a much smaller impact becomes too difficult.

Posted by: Murphy at Aug 30, 2006 2:24:09 PM

"In other words, what tax rate maximizes revenues?"

Why would you want to maximize government revenues? I'd rather maximize GDP.

Posted by: Noah Yetter at Aug 30, 2006 2:34:55 PM

The Irish are inherently superior. Only centuries of fratricidal chaos held back Irish growth. The current boom took off because Irish women forced a truce. Note: in a few decades I will write the same thing about Iraqis.

Posted by: evm at Aug 30, 2006 3:21:15 PM

Portugal had the same transfers from the EU, but has gone nowhere. I think people are overlooking, or underemphasing the obvious, that Ireland has made a bunch of highly significant steps that made it much more attractive of a place to invest in, thus radically increasing demand for labor. Increase demand for labor and what happens to its price?

Falling birthrates would seem to reduce supply of such labor as well, but it wasn't until the demand for that labor increased that GDP per capita really took off. All over Europe birthrates have been falling, where is the boom? Where is the demand for locations in Europe that tax highly corporate profits, that have unions with crappy attitudes and work practices, that impose as much of a regulatory burden as they can think of regardless of consequences?

Posted by: happyjuggler0 at Aug 30, 2006 3:23:52 PM

In the comments on Jane's reply to Gladwell, world class commenter "Tino" (who did such good work attempting to educate Marginal Revolution last spring about immigration), does the math:

"In 1987 Ireland had a GDP per capita that was 49% of the US. If this year they suddenly jumped to their 2004 demographic, with the same productivity, their GDP per capita would become 55% of the US. In fact last year it was 90% of the US.

"Demography is not much of the Celtic Tigar’s story, the dependency ration explains roughly 15% of the catch-up Ireland experienced. Even if we use the even lower 1970 figure for share of Irish population aged 16-65 demography still only accounts for 20% of the narrowing of the gap to the US."

Posted by: Steve Sailer at Aug 30, 2006 3:32:52 PM

Gladwell's decline in quality in recent years stems from two failings: he doesn't do enough simple reality checks on what his sources tell him, so he falls for complicated models that produce silly results like his article about how Allen Iverson was really 91st most valuable player in the NBA the year he won the MVP; and he's increasingly politically correct, especially about race.

For example, Gladwell cited his economists as claiming that dependency ratios explain away much of the difference between Asia and Africa, but a simple reality check proves that's silly.

If you go down to Wal-Mart or Costco and pick out the most sophisticated product made in China, you'd probably find, say, a laptop computer. And if you picked out the most sophisticated product in the store made in West Africa, you'd probably find, say, a shirt. That the worker's income from making the shirt has to be spread over more dependents than the worker's income from making the laptop computer is, indeed, a problem for the African shirt-maker's family's well-being relative to the Chinese laptop maker's family's well-being, as Gladwell points out, but it's hardly the main problem. The big problem is that while China is now internationally competitive in the same products that Japan was competitive in during the 1990s, West African countries are now competitive only in the same manufactured products that England was globally competitive in during the 1770s.

Posted by: Steve Sailer at Aug 30, 2006 3:40:06 PM

I go for explanation number 2, with the twist that Irish preferences shifting from large families to fewer, more skilled children had as its first effect smaller families, and as its second effect a shift in public policy. Irish fertility peaked around 1970, even if it was another decade before contraception was legal.

Posted by: Robert at Aug 30, 2006 7:16:23 PM

I agree that the change in demographics has helped Ireland experience an
economic boom. However, the notion that the youth dependency ratio is a
reason for a "big chunk" in growth is flawed. If this were true, other
nations experiencing a declining birth rate would have booming economies.
In Japan, the declining birth rate is causing social and economic
concerns. Having visited Ireland this summer, I suggest from my own casual
observations that funding by the EU, an improvement in university
education, and a willingness to finally use the institutions put in place
by the English have a greater impact. Also, one tour guide asserted that
the free movement allowed by the EU has increased tourism greatly. It
would be interesting to see how much of the economy is based on tourism
euros.

Posted by: Kelli at Aug 30, 2006 9:46:59 PM

The higher levels of religious belief in Ireland could help drive the Irish work ethic.

"For instance, 71% of the U.S. population believe in hell and the country boasts the world's highest per capita income, according to the 2003 United Nations Human Development Report and 1990-1993 World Values Survey.

Ireland, not far behind the United States in terms of income, likewise has a healthy fear of a netherworld with 53% of the population acknowledging hell's existence."

From http://www.usatoday.com/money/economy/fed/2004-07-27-fed-hell_x.htm?csp=26&RM_Exclude=Juno

Posted by: anon at Aug 30, 2006 10:07:10 PM

Just as a clarifying point, the argument that is relevant here is not that a low birth rate equals higher income -- which is roughly the old Malthusian argument. It is rather that having a large proportion of your population at working age boosts income through the mechanisms Prof. Cowen cites above. Europe and Japan are in somewhat dire straits now because they have a low birth rate, low immigration, *and* a lot of old people or people nearing old age.

On the reverse side, countries with young populations that have experienced a population explosion (i.e. developing countries) are urged to cut back birth rates so that the economy can benefit from a large workforce, fewer children to take care of and not many elderly people. In other words, lots of children or lots of old people are considered equally harmful in this view.

I personally don't buy the idea that demography accounts for a large part of economic growth for the simple reason that it does not show up in the data very well.

Posted by: Mark at Aug 30, 2006 10:37:22 PM

The really big differences in per capita income between countries are in the productivity of the average workers, not in the number of dependents each worker supports. Tunisia and Ukraine have a higher % of their population in the 15-64 age cohort than Ireland, but their workers are just as a fraction as productive as Ireland's.

By the way, Ireland isn't really as affluent as its GDP per capita figures suggest (35% higher than the UK). Multinationals play lots of accounting games to take their profits in low tax Ireland. Still, Ireland has improved rapidly in real terms.

Posted by: Steve Sailer at Aug 30, 2006 11:18:26 PM

I sat my 'leaving certificate' in 1988 in Ireland, and left the country the following year. I continue to
be amazed at the differences I see whenever I visit: Those of you who mentioned EU transfers are on the right track
but that's not quite the correct answer. The EU is important, but not for the money transfers, but because of the earlier existence of 'fortress Europa.' Spending constraints were forced upon the government in the mid '80s because of the high debt to GDP ratio and education was always considered important (both for historical reasons - the hedge schools, and because of the high unemployment - what you could study in college depending upon how well you did in the leaving certificate). To attract foreign investment and reduce unemployment the government slashed corporate tax rates, offered tax breaks and created boards to help people start their own businesses. All would have been for naught, though, without the concept of fortress Europa. Foreign firms, especially American ones, had to be pysically present in the EU to receive the same treatment that indigenous firms did. Despite Ireland's geographically unfavourable position, the low tax and (then) wage rates, an educated english-speaking work-force, allowed foreign firms to enter fortress Europa. Should world trade truly be liberalized, I'm not sure what comparative advantage Ireland could offer.

Posted by: Jean at Aug 31, 2006 4:19:51 AM

Ireland was able to reduce its taxes due to the EU transfers. I don't believe Portugal did.

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Why Bill Gates Hates My Book  By WILLIAM R. EASTERLY
February 7, 2008; Page A18

This newspaper reported recently that Bill Gates hates my ideas. I have no hurt feelings, at least nothing that months of intensive psychotherapy can't cure. Mr. Gates, after all, has allied himself with the foreign aid establishment. This establishment is notoriously sensitive to criticism from people like me, who find no evidence that the aid industry's grand schemes are actually lifting anyone out of poverty.

Mr. Gates has now put forward his own scheme -- "creative capitalism" -- in a speech at the recent World Economic Forum in Davos. He argues that today's capitalism does not benefit the poor. For Mr. Gates, regular capitalism works "only on behalf of those who can pay." While entrepreneurs fall all over themselves trying to meet the needs of the rich, "the financial incentive to serve [the poor is] zero." As a result, basic needs such as food and medicine go unmet.
[Bill Gates]

Mr. Gates seems to believe that the solution is to persuade for-profit companies to meet the poor's needs by boosting the "recognition" of corporate philanthropy. But the dossier of historical evidence to suggest this would work is as thin as Kate Moss on a diet. First of all, the recognition motive has proven to be awfully weak compared to the profit motive. Otherwise we would have had a lot more than the $5.1 billion of annual American corporate philanthropy to the Third World (as of 2005, which has the most recent reliable figures). That was four one-hundredths of 1% of the $12.4 trillion of U.S. production for the free market. Is it really the poor's only hope that the Gap will donate a few pennies per sexy T-shirt for AIDS treatment in Africa?

Profit-motivated capitalism, on the other hand, has done wonders for poor workers. Self-interested capitalist factory owners buy machines that increase production, and thus profits. Capitalists search for technological breakthroughs that make it possible to get more output for the same amount of input. Working with more machinery and better technology, workers produce more output per hour. In a competitive labor market, the demand for these more productive workers increases, driving up their wages. The steady increase in wages for unskilled labor lifts the workers out of poverty.

The number of poor people who can't afford food for their children is a lot smaller than it used to be -- thanks to capitalism. Capitalism didn't create malnutrition, it reduced it. The globalization of capitalism from 1950 to the present has increased annual average income in the world to $7,000 from $2,000. Contrary to popular legend, poor countries grew at about the same rate as the rich ones. This growth gave us the greatest mass exit from poverty in world history.

The parts of the world that are still poor are suffering from too little capitalism. Foreign direct investment in Africa today, although rising, amounts to only 1% of global flows. That's because the environment for private business in Africa is still hostile. There are some industry and country success stories in Africa, but not enough.

Mr. Gates also announced his foundation is starting "a partnership that gives African farmers access to the premium coffee market, with the goal of doubling their income from their coffee crops." This is fine as a modest endeavor to help a few Rwandan and Kenyan coffee farmers, but it's hardly going to remake capitalism. The main obstacles to exports in poor countries are domestic ones like corruption and political strife, not lack of interest from rich-country buyers for premium coffee.

Moreover, how do philanthropists choose just which product is going to be the growth engine of a country? Much research suggests that "picking winners" through government industrial policy hasn't worked. Winners are too unpredictable to be discovered by government bureaucrats, much less by outside philanthropists. Why did Egypt capture 94% of Italy's import market for bathroom ceramics? Why did India, an economy with scarce skilled labor, become a giant in skill-intensive IT and outsourcing? Why did Kenya capture 39% of the European market in cut flowers? Why did tiny Lesotho become a major textile exporter to the U.S.? Why did the Philippines take over 72% of the world market in electronic integrated circuits? Because for-profit capitalists embarked on a decentralized search for success.

Sure, let those who have become rich under capitalism try to do good things for those who are still poor, as Mr. Gates has admirably chosen to do. But a New-Age blend of market incentives and feel-good recognition will not end poverty. History has shown that profit-motivated capitalism is still the best hope for the poor.

Mr. Easterly, professor of economics at New York University and visiting fellow at Brookings, is the author of "The White Man's Burden: Why the West's Efforts to Aid the Rest Have Done So Much Ill and So Little Good" (Penguin, 2006).
 

Reform Lessons for the United States   Font Size:
By Johnny Munkhammar : BIO| 01 Feb 2008
  Discuss This Story! (38)   Email  |   Print |  Bookmark |  Save
 
europe-silhouettes

The old expression "all politics is local" may be quite true for the American political debate, except for the fears of terrorism and of losing jobs to China and India. But there would be very good reason for US policymakers - and the Presidential candidates - to take the time to look more closely at some other countries in a positive way. Successful reforms lessons may provide solutions to hot issues like taxes, health care, immigration, schools and social security.

Reforming is usually seen as politically difficult. Luxemburg's then-Prime Minister Jean-Claude Juncker stated frankly that: "We all know what to do, but we don't know how to get re-elected once we have done it." Clearly, there are many opponents to reform - such as populist media, special interests and within the civil service. And reforms usually have a short-term cost, but larger long-term gains.

Reforming successfully usually demands that political leaders have the ability to stand up for what they know to be right and endure criticism in the short term. Indeed, that is what Ronald Reagan once did - and he was both re-elected and praised afterwards. In the current race for Presidential nominations in the US, there is much talk about change. But how much substance and determination is actually behind the words?

Every industrialised country in the world has launched free-market reforms during the past two to three decades. About a dozen of these countries have reformed substantially in a number of areas. The United States is one of these. But other countries have achieved more in areas where the US still has a lot do to. And the economic and social results from the reforms have often far exceeded expectations.

Spain managed to integrate more than one million non-European immigrants in the regular labour market, in a country with a population of 40 million. Openness to immigration was combined with temporary work contracts, de-regulations and tax decreases - later also combined with an amnesty for almost another million illegal aliens. Currently, employment rates among immigrants are at the same level as for native Spaniards.

Several countries cut taxes substantially and made them simpler. Ireland was the first country to decrease corporate tax radically, from 50 to 12.5 per cent. Average incomes have now doubled in one decade, and the low-income households decreased as a share of total households from 42 to 14 per cent in 15 years. Some 16 countries have introduced flat tax systems, making taxation simple and education beneficial.

The Netherlands launched a thorough health care reform, providing all citizens with private health care insurance - and care from providers in free competition. This allows choice, and most Dutch have used that right. It also benefits efficiency and quality. A price ceiling guarantees that people with chronic illnesses can afford treatment. Other countries have also opened up health care for competition, noticing increases in productivity.

Most countries need to reform pension systems, due to the demographic pressures and the need to cut public spending and taxes. And several countries have begun reform; Japan and Germany have indexed pensions. Australia has introduced funded pensions, Sweden has personal retirement accounts - and in reality no mandatory pensions age. This has made pensions more sustainable.

Sweden introduced school vouchers. Pupils and their parents get a voucher from the state representing 85 per cent of the public education cost, which can be used to pay for education in any school. The share of pupils in primary school that attend private schools increased from zero to eight per cent and for high school from almost zero to fifteen per cent in little more than a decade. Studies have shown that choice and competition lead to increases in quality in both public and private schools.

Reforms have thus not only proven possible, but also positive. Indeed, even areas that were thought to be "unreformable" - such as pensions and health care - have been reformed. And one wave of reforms has often tended to set off another wave of reforms. The common thought that it takes an economic crisis to get a mandate to reform has been proven wrong; many countries reformed in good times - particularly in the labour market.

Several ideas that underpin the fear of reform are myths. For example, free-market reforms do not have socially adverse consequences. On the contrary, unemployed and people with low incomes have often been the ones to see the greatest benefits, in terms of rising incomes and new jobs. Another myth is that reforms may be economically advantageous but politically dangerous. But in fact, almost all reform governments have been re-elected - at least once.

The successful reforms in other countries could encourage US politicians. To a large extent, success is a matter of leadership and strategy. To reform successfully, there is a need to have a mandate from voters and well-prepared, comprehensive proposals. It is important to launch reforms early after the election - and to communicate consistently. Special interests have to be ignored, implementation secured and afterwards, the story of the reforms has to be won.

Johnny Munkhammar is author of "The Guide to Reform" (Timbro/Institute of Economic Affairs) and is Associate Scholar at the Centre for European Policy Studies, Washington DC.
 
 
 
 

Why Are Tax Burdens So Different in Different Developed Countries?--Posner

There are striking differences in tax burdens across nations, as explained in a recent report by the Organisation for Economic Co-Operation and Development. Measuring the tax burden in 2006 as the percentage of gross domestic product that is collected in taxes, the report arrays 20 countries from top to bottom. At the top is Sweden, with a tax burden of 50.1 percent; at the bottom is South Korea, with a tax burden of 26.8 percent. The United States is near the bottom, with 28.2 percent, and between it and South Korea are Greece and Japan, each with 27.4 percent. Next below Sweden is Denmark, with 49 percent, France,with 44.5 percent, and Norway, with 43.6 percent. The middle range is illustrated by Britain with 37.4 percent, Spain with 36.7 percent, and Germany with 35.7 percent.

In all 20 countries except the Netherlands, the tax burden has increased since 1975, though in some countries, such as the United States, the increase has been slight--only 2.6 percent. In others, however--Denmark Greece, Italy, Portugal, South Korea, Spain, and Turkey--it has exceeded 10 percent. Spain's increase has been the greatest, at 18.3 percent, followed by Italy's at 17.3 percent and Turkey's at 16.5 percent.

The OECD report explains that the increase in tax burden is due to increased revenues from "direct" taxes--income (including payroll) and corporate taxes--rather than from "indirect" taxes such as VAT, sales taxes, and other excise taxes. Even though most countries, including the United States, have cut income and corporate tax rates, the cuts have been more than offset by increases in income and corporate profits; of course the cuts may have helped generate those increases. The OECD favors indirect taxes because they tax only consumption, whereas direct taxes tax income that is saved, and thus discourage investment.

The increase in the tax base for direct taxes explains the mechanism by which the tax burden has grown but not why it has grown--why in other words the demand for government spending has grown. The OECD speculates that the cause is increased demand for social services such as pensions and health care.

The curious thing about the OECD data is that prosperity, economic growth, and other measures of economic well-being do not seem closely correlated with the tax burden. The variance across countries in tax burden is very great, yet one finds troubled economies, such as those of Japan and Greece, near the bottom of the tax-burden distribution--of course Japan is a very wealthy country, as Greece is not, but Japan's economic performance has been disappointing in recent decades. And one finds some high-performing economies, such as those of Sweden, Norway, and Finland at the top of the distribution, or (as in the case of the Netherlands, Spain, and the United Kingdom) in the middle. However, there is some negative correlation between economic performance and the tax burden; for Ireland, Switzerland, and the United States are low on the distribution, while typically low-performing Western European countries cluster in the upper half.

One would think that the tax burden, especially but not only when it is created mainly by direct taxes, would have a strong negative effect on economic well-being. (Perhaps it does, when other factors affecting economic well-being are adjusted for, which I have not attempted to do.) If government is less efficient than private enterprise, the more economic activity that is performed by government rather than by the private sector the less productive the economy as a whole should be; and the higher the tax burden, the greater the amount of economic activity performed by government. To the extent, moreover, that variance in tax burden across countries reflects variance in marginal rates of taxing income and corporate profits, we would expect the high tax-burden countries to be less productive, because the higher the tax on income, the greater the incentive to substitute leisure (which is untaxed) for work and to expend resources (and create economic distortions) in an effort to reduce the tax bite.

But there is an important difference between the actual production of economic goods and services by government, on the one hand, and transfer payments on the other. The effect of taxes on the behavior of the taxed entity is the same, but the effect on the efficiency of production is different. In the United Kingdom (which nevertheless has a high-performing economy), the government produces medical services; the National Health Service is the employer of the vast majority of doctors and other health professionals and owns most of the hospitals and other health care facilities in the U.K.; only about 8 percent of the U.K.’s population is served by private health providers. In contrast, the U.S. Medicare and Medicaid programs transfer vast amounts of public money to health care providers, but the providers are mostly private. The transfers come with strings attached, of course, and some of those strings induce inefficient behavior by the recipients. Nevertheless, a U.S. National Health Service on the English model would undoubtedly be highly inefficient compared to our admittedly highly imperfect private provision of health care. Transfer socialism is not as inefficient as means-of-production socialism.

To the extent that the growth in government spending is a growth in transfers rather than in government ownership of producers, the impact on economic growth and prosperity may be small, especially since the growth in transfers has coincided with the deregulation movement, which has resulted in privatization of significant areas of traditional public ownership, less regulation of the economy, and, as I mentioned, lower direct-tax rates. There thus appears to be a kind of balance, in which the efficiency-reducing effects of greater government spending are contained by reductions in direct-tax rates, by increased privatization and deregulation, and by channeling increased tax revenues mainly into transfer programs rather than into government production of goods and services.
 

Posted by Richard Posner at 09:35 PM | Comments (4) | TrackBack (0)
Tax Burdens-Becker
 

The burden of taxes to a country depends not only on the fraction of its gross domestic product GDP that are collected as tax revenue –the data shown in Posner's chart- but on many other factors as well. Since my comment is brief I will confine my discussion to the link between tax burdens, the level of government spending, and the structure and incidence of taxes.

It is not possible to separate tax burdens from government spending. Obviously, as Posner makes clear, how governments spend their tax revenues makes an enormous difference to the functioning of an economy. In addition, however, the level of government spending also affects the tax burden. If spending exceeds the amount collected in taxes, the excess spending must be financed by an increase in government debt (I ignore inflationary printing of money). Interest payments on the higher government debt have to be financed by higher taxes in the future, so the full tax burden is determined not by tax revenues alone but also by government spending. Senator McCain has justified his initial opposition to the Bush tax cuts by indicating that they were not combined with cuts in government spending -in fact, just the opposite occurred.

The tax burden depends in addition on the type of taxes used and their structure. What economists call the "excess burden" is measured by the difference between the cost to those paying taxes and the revenue collected by government. The excess burden is zero for a head tax, which is an equal tax per person, since the amounts paid to governments from such a tax equals the cost to taxpayers. Taxes on income do have an excess burden because they distort taxpayers' decisions toward greater leisure. The higher the marginal tax rate, the greater are these and other distortions induced in labor supply, and hence the greater the excess burden of income taxes.

To reduce distortions, broader and flatter taxes are better because then marginal tax rates are lower. Rudy Giuliani has proposed a flat and rather broad income tax with a highest marginal tax rate of only 30 percent to complement the present complicated income tax system. Consumption taxes, such as value added taxes, have lower excess burdens than income taxes. Like an income tax, a general tax on consumption does discourage work in favor of leisure essentially because individuals can avoid both consumption and income taxes by taking additional leisure since leisure is not taxed. However, an income tax has other distortions as well since income is both taxed when received, and also taxed again when the savings out of income produces additional income. Income taxes in effect tax savings twice, while consumption taxes only tax savings once, when they are spent. In order to reduce this double taxation of savings from income taxes, the US and other countries allow families to save in ways that are free of income taxes until the savings are spent, such as through saving with IRAs.

There is a natural tendency to assume that the burden of taxes falls on persons or companies that mail the tax checks into the government. To show why this is generally false, consider a 10 percent tax on capital that initially reduces returns on capital from say 8 percent to 7.2 percent. This initial impact is clearly on owners of this capital, who are generally wealthier than the average individual. Over time, however, the capital stock would fall because companies reduce their investments in reaction to the lowering of after-tax returns on investments due to the capital tax. As the capital stock falls, the after-tax return would begin to increase because the productivity of capital is higher when capital is scarcer relative to labor. The capital stock would continue to fall essentially until after-tax returns climb back up to the 8 percent level they were at before the tax on capital was imposed.

Since studies confirm that in the long run owners of capital get about the same rate of return that they would have without any taxes on capital, who then pays the capital tax in the long run? The answer is not capital but labor because wages and earnings are lower when workers have less capital to work with. Owners of capital continue to send in the checks to pay a capital tax, but the negative response of investments to a capital tax shifts the burden of a capital tax away from capital to labor. That eventually labor pays a tax on capital even though it is placed on capital explains why economists generally oppose long-term taxes on capital even though in the short run capital taxes have many desirable properties. Investment tax credits, accelerated depreciation, and low taxes on capital gains are some of the ways that the effective long run tax on capital is reduced toward zero.