OK, many of you have asked but I knew that I had to put in an explanation for my continued absence here when my mother in Turkey complained that she missed the "postcards" from me on the blog. 

I am alive and well.  But here are two reasons why this space will not be updated frequently over the coming months:

1. I am writing a book (on globalization, what else?), and I find the blog really competes with it for my energies and ideas.  I hope there will be a reason for people to want to read the book even if they have been devout followers of this blog.
2. All kind of spammers have taken over the comments section of this blog, and I don't know (or have the time) to clean it up.

In the meantime, my monthly series with Project Syndicate continues, so you can always turn there for my periodic column-sized bursts.

Well at least a couple of them.  I gave a talk with this name at LSE the other day, which was extremely well attended.  I am not happy with the title at all, which as I joked, makes me sound like a Tom Friedman wannabe.  But it does capture a couple of key ideas I was trying to get across: the malleable nature of capitalism, and the need to deploy some institutional imagination to figure out how to close the yawning gap that has opened up between the global reach of markets and the (mostly) national nature of their governance.

Two of the attendees have written long accounts and critiques of the talk, and they can be found here and here.  Interestingly, both are written from perspectives that differ sharply from mine: the first is a libertarian and the second a globalization enthusiast's.  But both give me enough credit to try to do justice to my ideas, for which I am grateful. 

Both reviews say that the LSE audience lapped my lecture up. Well, it would be nice to hear from the silent majority too...

UPDATE: The video and slides from the lecture are here.

My latest Project Syndicate piece argues that the world economy has handled the financial shock rather well so far, but that the real test for globalization is yet to come. 

History teaches that global economic order is difficult to establish and maintain in the absence of a dominant economic power. The interwar period, which suffered from a similar crisis of leadership, produced not only a collapse of globalization, but a devastating armed conflict on a global scale.

So the stakes in righting the world economy could not be higher. Mismanage the process, and the consequences could be unimaginable.
Unfortunately, many of the solutions on offer are either too timid or demand too much of a global leadership that is in short supply.

The conundrum of global reform is that the proposals that go far enough, such as establishing a global financial regulator, are wildly unrealistic, while those that are realistic, such as reform of the IMF, fall far short of what is needed.

What we need is a vision of globalization that is fully cognizant of its limits. We can start with a simple principle: We should strive not for maximum openness in trade and finance, but for levels of openness that leave ample room for the pursuit of domestic social and economic objectives in rich and poor countries alike. In effect, the best way to save globalization is to not push it too far.

The column offers some hints about what I have in mind, but those who are curious about the details will have to show up at LSE on Tuesday.

The post-9/11 emphasis on Pakistan continues to portray madrassas (religious schools) as a focal point – their rising prevalence the subject of great concern. What is surprising is that this “myth” persists despite evidence to the contrary – that madrassas are in fact not the real revolution in the Pakistani educational landscape but rather it is affordable private non-religious “mom-and-pop” schools that now dot the (rural) landscape.

In a series of papers in the past few years using publicly verifiable data sources and established statistical techniques my colleagues and I have documented this private sector revolution and the relative absence of a madrassa revolution.[1] ]]> Yet reputable outlets like the New York Times continue to emphasize the supposed centrality of Pakistani Madrassas. In a compelling but factually misleading piece on May 3^rd entitled “Pakistan’s Islamic Schools Fill Void, but Fuel Militancy” a veteran reporter rehearses a well-known narrative in which government schools are failing and the madrassas are proliferating, providing the only viable source of education for the poor. Private schools, while mentioned, are discounted as “out of reach of most middle-class Pakistanis”. While government schools, much like the public sector in most developing countries, face substantial challenges, the last two claims are simply not correct – they were not in the years around 2001 (as documented by our previous work), and are still not correct.

Using the latest publicly available educational census data, Madrassas in 2005-06 still only accounted for 1.3 percent of enrolled children (In Pakistan’s four provinces), versus 34 percent in non-religious private schools and the remainder in public schools. The graph below shows that while there is indeed some increase in madrassas over time, the far more striking growth is for non-religious private schools.

Moreover these non-religious private schools are increasingly catering to the middle and poor class. With monthly fees less than a days' unskilled wage rate, they are affordable and attract students from even the poorest households. Madrassas are therefore simply not the schools of last resort. For the average Pakistani child, even among the poor living in rural areas and in urban slums, the most likely alternative to a decrepit public school is not a madrassa but a private school, or no schooling at all. Moreover, despite the low fees and low wages (a fifth of public sector teacher wages) and less qualified (local women) teachers, they offer substantially higher quality education than public schools (likely by better incentivizing and selecting their teachers).

In the particular district - Khanewal - highlighted in the New York Times column as a region of particular concern, the school numbers reflect a similar breakdown - 9% madrassa, 24% private schools, and 66% government schools. Moreover, 95% of private schools in this district are coeducational. Interestingly, this trend is true even in the Pashtun-dominated Northwest Frontier Province. In fact, in the Swat valley, which has occupied much media coverage recently due to the Taliban prevalence there, there were 360 such private schools in 2005 compared to 165 madrassas (National Education Census, 2005).

In yet another attempt to clarify the Madrassa myth, my coauthors and I recently wrote a piece on Foreign Policy (http://www.foreignpolicy.com/story/cms.php?story_id=4958) that also highlights the policy concerns that stem from not getting the facts straight. The NYT article was widely recounted by members of the U.S. House of Representatives with suitable outrage during the House Foreign Affair’s Committee hearing on legislation providing a new aid package for Pakistan. Not surprisingly, the proposed  legislation focuses U.S. government attention on reforming madrassas, eliminating those with ties to terrorism and working with the Pakistani government to reform its sprawling pubic school system riven with teacher absenteeism, ghost schools, out of date pedagogy and a deeply problematic curriculum. Yet there is no mention of the mushrooming private sector and the lessons to be learnt from it.

While one may conjecture that the madrassa myth persists since it is politically expedient and offers a simple explanation of recent events in Pakistan, the fact is that the the reality of the Pakistani educational landscape is quite different. Educational reforms that remain focused on madrassas are unlikely to affect the vast majority of Pakistanis and form the basis of “winning the hearts and minds” or of improving the lot of Pakistanis. With Pakistan’s population becoming ever-more dominated by youths, and the need to produce human capital capable of driving a future Pakistani economy, the stakes on getting such basic facts understood and accepted in policy and popular circles could not be higher.

[1] Religious School Enrollment in Pakistan: A Look at the Data (with T. Andrabi, Pomona, J.Das, DECRG World Bank and T. Zajonc, Harvard). Comparative Education Review, Vol, 50, No. 3, August 2006 and A Dime a Day: The Possibilities and Limits of Private Schooling in Pakistan (with T. Andrabi, Pomona, J.Das, DECRG World Bank).  Comparative Education Review, vol. 52, no. 3, August 2008. Also see the LEAPS project website that details more of our research on the Pakistani educational sector at www.leapsproject.org.

I have updated the page with links to Growth Diagnostics exercises that I know of.  There is also a volume of Latin American GD case studies that should be coming out from the Inter-American Development Bank next month or so. 

I am sure that there are others that I am missing, so if you know of any studies that are not included in my list, do send me a line and I will add a link.

Andy Berg writes to tell me about a new IMF policy note on fiscal policy responses to the current crisis in Sub-Saharan Africa and the big news is that the IMF now thinks there is a role for increasing fiscal deficits even in some of the word's poorest countries.  As Andy puts it,

About 2/3 of the countries in Sub-Saharan Africa now have low-to-moderate risk of debt distress, the way we calculate it. There may be some scope for some fiscal stimulus in many of these countries. Part of the case for not adjusting too sharply is that scaling down investment projects can be quite disruptive; to do it well puts a lot of demands on fiscal institutions. We note the contrast with "scaling up" of public investments, which is institutionally much more demanding.

In countries with fiscal space, the IMF recommends ramping up spending on Infrastructure and social safety nets (and not cuts in taxes, which the paper says would be inequitable).  

The IMF hasn't totally given up on fiscal prudence of course.  The paper warns that in resource-based economies, where the shock is concentrated in one or two sectors, the fiscal stimulus is unlikely to put capital and labor back to work since inter-sectoral mobility will be limited.  It also asks that any fiscal stimulus be reversible to prevent debt problems down the line. 

Makes a lot of sense to me.  ]]> tag:tpmcafe.talkingpointsmemo.com,2009:/talk/blogs/dani_rodrik//12245.271077 2009-05-20T17:02:01Z 2009-05-21T22:31:59Z

The argument is simple and appealing. Rich countries are those characterized by democracy, rule of law, political competition, and low levels of corruption.  So poor countries have to emulate them in all these respects if they want to get rich too.

Exhibit no. 1 is Simon Johnson, who as part of the famous AJR (Acemoglu-Johnson-Robinson) triumvirate, has done as much as anyone to cement the view that better institutions cause higher incomes.  In this view, the reason that the U.S. is richer than, say, Russia, is that the former is run by a democratic, accountable political authority that is not in the pockets of narrow interests.  The AJR story presumes that institutional quality is a very slow-moving attribute, with events lodged deep in history still exerting strong effects today.  Yet in his recent Atlantic piece, Johnson argues that U.S. economic policies have been captured by a (financial) oligarchy, in much the same way that business elites corrupt policy-making in much poorer countries such as Russia.  The U.S., it turns out, is not that different. 

Exhibit no.2 is Dani Kaufmann, who led the World Bank's work on governance and has done probably more than any other living soul to bring governance issues to the top of the policy agenda in the developing world.  In a recent lecture, he takes pretty much the same line as Johnson, arguing that the financial crisis in the U.S. was the by-product of capture and corruption: "If anybody thought that the governance and corruption challenge was a monopoly of the developing world ... that notion has been disposed of completely."  (I owe the reference to the Dani Kaufmann lecture to this very interesting paper by Bo Rothstein, a political scientist.) 

Now I am a fan of Simon's and Dani's work, and I count them both among my friends. They may well be right about their diagnosis of the origins of the crisis.  But an implication of their recent arguments is that we need to significantly downplay the role of improved governance as a causal mechanism for economic growth. 

After all, no-one can deny that the United States, for all its financial follies, is a rich country.  It turns out that it is possible to be corrupt in a fundamental way and still be rich.   

My own view is that there was never a strong theoretical or empirical argument for relying on governance reform, as conventionally understood, as an engine of higher growth.  The case for governance reform is that it is a good thing to do in and of itself.  But don't confuse it for a growth strategy.

Most writing on this subject, the Leonhardt piece included, concludes that the Chinese end of the solution lies in stimulating consumption demand in China, and reducing that country's ridiculously high saving rate.  But the discussion typically ignores an important issue: the secret of China's growth is that it has made a rapid transition into producing tradables (mainly manufactures).  ]]>

So if growth in China relies on continued structural change in the direction of tradables, but the international context no longer allows a large external surplus, must the world have to choose between global macro stability and Chinese growth? Is there any way out of the conundrum?

Actually, there is, but we need to think a bit out of the box.  The economics of the situation is actually pretty simple.  If China wants a larger supply of tradables than the market equilibrium produces, it can achieve this by directly subsidizing the domestic production of tradables (through tax incentives or rebates or reduction in the cost of inputs), while letting the real exchange rate appreciate to equilibrate the external balance. Direct subsidies don't tax the domestic consumption of tradables the way that currency undervaluation does.  Presto! We have both the structural change China needs, and the external balance the world economy requires. 

Put differently, if China gives up the exchange rate as an instrument of industrial policy, it will need a substitute.  Explicit industrial policies are the obvious substitute.  Across the board spending by China on infrastructure and other things doesn't quite achieve the required goal, unless the spending is targeted on projects that disproportionately reduce the costs of producing tradables. 

There are of course small details to worry about, such as the WTO's Agreement on Subsidies.  But we do need to think creatively about squaring the circle in question, and I cannot come up with any other alternative.  

If you want to read more about this, here's a paper that explains the argument in greater detail. 

Rightly or wrongly, some have interpreted Krugman’s recent Nobel address, which has gotten considerable play in Washington, as implying ambivalence about the benefits of trade for the U.S. What does trade theory tell us about the initiatives the US should make a priority in its trade policy agenda?

And my answer:

A society's gains from trade liberalization in different sectors depend on a lot of things, but as a rule of thumb, it is useful to focus on three things. (Here I will look at only U.S. policies, leaving aside the question of which initiatives should be pursued abroad.)  ]]> First, how large is the trade restriction (or subsidy) in question?  Economic theory tells us that the gains from removing a tax or subsidy rise with the square of the wedge. So sectors where there are large policy interventions are particularly ripe for liberalization, everything else held constant.

Second, what is the likelihood that the liberalization will aggravate a pre-existing market imperfection?  In the case of the U.S., the main imperfection I would worry about is technological externalities.  These spillovers are likely to be associated with activities that employ lots of highly-skilled workers.  My rule of thumb here would be that liberalization that results in the contraction of sectors that employ such workers is unlikely to generate much gains, and may even be harmful.

Third, is the liberalization likely to worsen income distribution at home?  Many economists disregard distributional concerns (either because they do not think these are important, or else because they assume other policy instruments are available to deal with equity).  But I do not find this a tenable position.  So I would argue that any potential efficiency gains have to be traded off against potentially adverse movements in income distribution.  

How do these considerations inform the question at hand, namely the nature of the initiatives the US should make a priority in its trade policy agenda?

Consider some obvious initiatives.  On narrow economic efficiency grounds, the reform that would generate the biggest bang for the buck by far is the relaxation of visa restrictions that prevent unskilled workers from poor nations from being employed in the U.S.  This is because the magnitude of the barrier in question here (measured by the wedge between earnings of otherwise similar low skill workers here and in poor countries) is bigger than in any other area of international commerce.  But the trouble is that the likely distributional impact is also very adverse.  So we can generate the efficiency gains only at the expense of making domestic unskilled workers worse off.  Considerations 1 and 3 clash.

How about further trade liberalization in the conventional areas of manufactures?  The problem here is that the barriers are already extremely low (in the low single digits), and the efficiency gains to be had are correspondingly small.

How about outsourcing?  Outsourcing of low-skilled labor is on the whole bad for income distribution, while out-sourcing of high-skilled labor may run against consideration 2, the need to keep sectors that are the likely depositories of technological externalities at home. 

So where does this leave us?  I can think of two areas of liberalization where existing barriers are high and do not face the objections that I have considered so far.

First, agriculture.  Subsidies and other trade-distorting measures are rampant in agriculture, especially in crops like cotton and sugar.  It is hard to argue that these activities generate externalities or that their contraction would be bad for income distribution as a whole.  So this is clearly an area of priority.  (Note that I am not considering the impacts on other countries, which is not my focus here.  The positive impacts abroad are typically vastly exaggerated, but the domestic benefits are not in question.)

Second, visa restrictions on highly-skilled foreign workers.  The barriers here are large, since we know the visa quotas bind severely.  Allowing more foreign scientists and engineers in will reduce incentives to outsource technologically-advanced operations abroad, and will help expand sectors that are likely to generate positive spillovers.  The distributional effects are unlikely to be adverse, as it is the top of the labor market that will be affected.

So the trade policy initiatives that deserve priority in the U.S. are: liberalize agricultural trade, and expand visa quotas for highly skilled foreign workers. 

Note that the U.S. can do both of these on its own, and does not need Doha or action on the part of the rest of the world to reap the gains from these reforms.          

A lunch time talk by Niall Ferguson suggests a grim picture.  Even if the world economy is not headed towards a 1930s-style catastrophe, it will remain mired in a "depression" like that experience in the 1870s, argues Ferguson, with long-term stagnation and deflation.  This will be a bad time for everyone, except for populists and those who like to demonstrate in the streets. 

The biggest winner?  Ferguson suggests it may be China, who will supplant the U.S. as the global hegemon, as the U.S. replaced a similarly heavily-indebted Britain at the end of World War II.

I agree with Niall Ferguson that the U.S. and the other advanced countries will not resume rapid growth anytime soon.  With so many trillions of asset destruction, consumption growth will remain slow for a while, as will the process of finding another engine of growth to replace finance.

But as far as the developing nations are concerned, this need not be a tragedy.  After all, their growth depends on their ability to import and deploy the stock of knowledge that already exists in the rich world--a stock that will not disappear or dissipate just because growth there has slowed down.

And as long as the de-globalization in question is simply a reversion to something like what we experienced in the 1960s and 1970s rather than the 1930s, the opportunities for convergence will still be there.

What will be ruled out of course is the kind of strategy that depends on external demand to increase the supply of domestic non-traditional tradables (manufactures, tradable services, and non-traditional agricultural products).  This kind of undervaluation-cum-trade surplus strategy needs to be replaced by one that relies much more on domestic demand. 

As I explain in my column, it is possible to spur the production of tradables without generating a trade surplus.  The country that will need to undergo the largest adjustment of this type is China.  And it is not clear that China is ready to undertake that transition.

So in the end, China may not emerge as the ultimate winner.  

Although we call the big three automobile companies they have basically specialized in building trucks. This left them utterly unable to respond when high gas prices shifted the market towards hybrids and more fuel efficient cars.

One reason is that Americans like to drive SUVs, minivans and small trucks when gasoline costs $1.50 to $2.00 a gallon. But another is that the profit margins have been much higher on trucks and vans because the US protects its domestic market with a twenty-five percent tariff. By contrast, the import tariff on regular automobiles is just 2.5 percent and US duties from tariffs on all imported goods are just one percent of the overall value of merchandise imports. Since many of the inputs used to assemble trucks are not subject to tariffs anywhere near 25 percent -- US tariffs on all goods average only 3.5 percent -- the effective protection and subsidy equivalent of this policy has been huge.]]>

It is no wonder much of the initial foray by Japanese transplants to the US involved setting up trucks assembly plants, no wonder that Automakers only put three doors on SUVs so they can qualify as vans and no wonder that Detroit is so opposed to the US-Korea Free Trade Agreement that would eventually allow trucks built in Korea Duty-Free access to the US market.

What accounts for this distinctive treatment of trucks? An accident of history that shows how hard it is for the government to withdraw favors even when they have no sound policy justification.

It all comes down to the long forgotten chicken wars of the 60s.  In 1962, when implementing the European Common Market, the Community denied access to US chicken producers. In response after being unable to resolve the issue diplomatically, the US responded with retaliatory tariffs that included a twenty five percent tariffs on trucks that was aimed at the German Volkswagen Combi-Bus that was enjoying brisk sales in the US. 

Since the trade (GATT) rules required that retaliation be applied on a non-discriminatory basis, the tariffs were levied on all truck-type vehicles imported from all countries and have never been removed. Over time, the Germans stopped building these vehicles and today the tariffs are mainly paid on trucks coming from Asia. The tariffs have bred bad habits, steering Detroit away from building high-quality automobiles towards trucks and truck like cars that have suddenly fallen into disfavor.

If congress wants an explanation for why the big three have been so uncompetitive it should look first at the disguised largess it has been providing them with for years. It has taken a long time -- nearly 47 years --  but it seems that eventually the chickens have finally come home to roost.

This just in from the highest authority in the land:

[T]he fact is that Larry Summers right now is very comfortable making arguments, often quite passionately, that Bob Reich used to be making when he was in the Clinton White House.

Surprisingly, in the emerging markets, including India, there has been no such existential angst about capitalism, no serious questioning of the role of the market. It is not that these countries have not been affected by the crisis. Indeed, all countries—rich and poor—have found themselves in the same financial maelstrom, if not in the same boat, and the effects have been substantial. There has also been serious discussion and action on the appropriate short-term responses to the crisis. But, there have been no serious calls or indeed actions to roll back capitalism, to erect protectionist barriers, or to re-nationalise the economy. Most surprising, there has not even been a pitch to restrict inflows of fickle foreign capital that were arguably at the centre of this crisis for many emerging markets. The crisis may have exposed the claim of a decoupled world economy, but it seems to have emphasised the decoupling in policy debate and long-term policy choices.

[The] big question thrown up by the crisis in the core countries [is] the role of the state and the appropriate demarcation between state and markets, especially in the financial sector. In the emerging markets, particularly in the more successful ones such as China and India, this is simply not an issue. The line still favours state over markets and in the financial sector heavily so: in both these countries, most of the banking system assets and liabilities are still controlled by the government. The issue is not how to claw back the role of the state so much as how to continue reducing its role in the gradual and pragmatic manner that these countries have been doing over the last two decades. In India, for example, the only bank threatened by the crisis was a private one that chose to deal in the toxic assets that wreaked havoc in western financial markets, resulting in a flight of deposits to the safety of public sector banks. Yet, it is remarkable that the debate on finance in India has not lurched in the direction of triumphalism about the public sector model of finance and the need to ensure its permanence.

Perhaps the most important reason for the decoupled debate phenomenon is that the big development challenge in the developing world is not the state-market boundary but the more mundane yet fiendishly difficult question of how to improve the state and its basic capacity to deliver law and order, security and other essential services such as health, water, sanitation and education. That was so before the crisis. That will remain true in its aftermath.

Arvind is being a bit too charitable here to the developing nations.  I am afraid one cannot rule out the possibility that poor nations are yet again falling behind the curve.