Friday, April 7, 2006

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Trade, development... and free ponies!!

The latest Cato Unbound features New York University's William Easterly, author of The White Man's Burden, on "Why Doesn't Aid Work?" There will also be reaction essays from the World Bank's Branko Milanovic, Deepak Lal of UCLA, and the Center for Global Development's Steve Radelet. Go check it out -- you can read my review of Easterly's book here.

On a related topic, I see that Robert Reich reviewed Joseph Stiglitz and Andrew Charlton's new book Fair Trade for All. As Reich recounts the book's policy prescriptions, it appears that Stiglitz and Charlton believe in free ponies:

Stiglitz and Charlton show that standard economic assumptions are wrong when it comes to many developing economies. When markets in sub-Saharan Africa and elsewhere are opened, people often can't move easily to new industries where the nation has a comparative advantage. Transportation systems that might get them there are often primitive, housing is inadequate and job training is scarce. They're vulnerable in the meantime because safety nets are weak or nonexistent. Most people lack access to credit or insurance because financial institutions are frail, so they're unable to start their own businesses or otherwise take advantage of new opportunities that trade might bring. Many poor countries are already plagued by high unemployment, and job losses in the newly traded sector might just add to it.

Hence, the authors argue, the pace at which poorer nations open their markets to trade should coincide with the development of new institutions roads, schools, banks and the like that make such transitions easier and generate real opportunities. Since many poor nations can't afford the investments required to build these institutions, rich nations have a responsibility to help....

Moreover, they warn, one size does not fit all. Richer nations should not force all poorer nations to abide by the same market-opening rules and timetables. Poorer nations have different needs. They are at different stages of economic development (subsistence agriculture in much of Africa and parts of Asia, export-oriented agriculture in Latin America and other parts of Asia, early-stage industrialization elsewhere). They have different political and institutional capacities.

The problem with this argument is the same as the problem with Stiglitz's Globalization and Its Discontents and Sachs' An End to Poverty -- they recognize that markets in the developing world lack vital infrastructure, but fail to recognize that developing governments suffer from even greater institutional deficits. Expecting these governments to determine when their proteted sectors should become unprotected from a welfare economic perspective is wishful thinking -- in large part because these governments will not want to give up the rents that they extract from trade protection.

[But states like Japan and South Korea pulled this off!--ed. That's a matter of some debate, but accept the premise as given. The states that could pull this off have already done it. I ask my readers to identify states with well-developed institutional capabilities that have yet to hit the fast track of economic growth.]

While Stiglitz and Charlton are at it, they should also wish for some ponies.

posted by Dan on 04.07.06 at 11:16 PM


Dan is quite right to point the importance of effectiveness of various institutions in a country for any substantive growth. It is amazing to note how often all these smart Economists forget about what havoc politics and vested interests can play.

To the extent institutional building and maturing of Indian democracy has taken place over the last 5 decades; economy is having good grounding to grow. Due to strength of these institutions, Indian state and society feel confident to reduce the direct involvement of Government in Economy. Of course as it happened, some businesses turned out to be successful models for the society to follow in terms of business success without any state doles (IT industry for example); also helped.

But the dangers of vested interests playing spoiler is still there in India - job reservations on caste lines in private sector; continued inability of lower courts to implement rule of law in effective way on regular basis and so on. However, one can see how the strength of many institutions (apart from elected houses which are quite well entrenched) increased in the last decade - Election Commission, Supreme Court (which has been quite strong for many years except during the period of Indira Gandhi), Stock Market institutions (SEBI, NSE, Insurance Regulatory Authority, and so on), Telecom Regulatory Authority and others. There still are many weak spots - Energy regulation is weak as well as overall infrastructure policy infrastructure. So to that extent Indian economy is very much hampered.

All in all ignoring institutional and political context is fools game. All the economic theory, at least in macro sense, without that is quite inadequate.

posted by: Umesh Patil on 04.07.06 at 11:16 PM [permalink]

Two examples that Dan might be looking for would be Argentina and Pakistan.

In the early XX century Argentina was arguably on the fast track. Sure it all depended on one export, but the infrastructure built for raising and exporting agricultural products was socially more complex than that used for exporting petroleum. Argentina attracted hordes of European immigrants whose skills were no worse than those of immigrants to the US. Argentina's distance from world markets encouraged and resulted in an excellent rail network and refrigerator ships. The election of Juan Peron changed all that. Ever since, it seems that wheneve Argentina is about to recover prosperity it elects a protectionist demogogue.

At independence Pakistan enjoyed the same infrastructure and educated elite that Britain bequeathed to India. However, Pakistan's very origins as a state specifically for the subcontinent's Moslems were its undoing. The result was a series of costly wars with its much larger neighbor. In Pakistan the only winner was the military. At home, Pakistan's British-educated elites left education for the masses to the madrasses. One could argue that the civil state has no legitimacy in Pakistan - certainly not for the military, certainly not for the Islamic fundamentalists who recognize only Sharia, and certainly not for the tribal war lords who prosper at the expense of civil society.

posted by: jim linnane on 04.07.06 at 11:16 PM [permalink]

Human capital is the most important ingredient for a successful economy. Without that, no amount of foreign aid or natural resources will suffice. Japan and Germany had the human capital, but thanks to Mugabe, Zimbabwe no longer does.

The government is not the country. Understand that and you will know more than 99.9% of all professorial political scientists. The country includes the government and is strongly affected by the government, but more.

It is not really "the state" that accomplishes recoveries such as in Germany and Japan, rather it is institutions and people working under the guidance and protection of the state.

posted by: Lutep Shem on 04.07.06 at 11:16 PM [permalink]

I'm not sure how Dan is reading the Reich quote but I don't think it follows that Stiglitz and Charlton overlook the fact that governments in developing countries "suffer from even greater institutional deficits."

Just because they argue for differential treatment doesn't mean they neglect the need to build up a competent and autonomous bureacracy. That is probably an area where they believe the focus should be.

In response to Dan's question, let me dodge it and propose another one: Can anyone identify states that have not used Stiglitz's recommended strategy to develop?

A good book on this is 'Kicking Away the Ladder' by Ha-Joon Chang.

posted by: Joe Sinatra on 04.07.06 at 11:16 PM [permalink]

So what's your suggestion for the developing countries, Dan?

posted by: A. on 04.07.06 at 11:16 PM [permalink]

"Japan and South Korea pulled this off"
More than a matter of debate-- I'd argue that neither Jpn or SK pulled off anything of the sort, we took care of most of it ourselves, for them, through occupation, military aid, and cold-war strategic alliances where we were more than willing to sacrifice a bit of economic position in order to improve our security position vis a vis the Soviets.

Today, you have no comparible circumstance-- the US no longer feels its important to go around rebuilding countries (Iraq???) and, most importantly, the US is no longer willing to sacrifice trade preferences because there is no compelling security requirement.

Now, if we start allowing Iraq to engage in protectionist industry development in order to fight terrorism, that would be one thing, but notice how this occupation, we've forced Iraq into a very "free market" position in international trade.

The unique conditions that allowed for SK or JPN development are long gone.

posted by: peter on 04.07.06 at 11:16 PM [permalink]

If they start handing out free ponies, I'm going into the pony-meat business.

Incentives matter, after all.

posted by: Sigivald on 04.07.06 at 11:16 PM [permalink]

I've noticed that all such debates follow the binary paradigm. Socialist OR Capitalist, Intervention OR Non-intervention, Elitist OR Populist, The West's way OR Indigenous, State-initiative OR Private initiative and so on. Very rarely do I see an analysis without these biases. The one exception is Schumacher's "Small is beautiful" - its distinct concept being the problems with large-scale planning by large institutions. Any succesful endeavour ought to start small, analyse the result and build iteratively on the sucesses (and failures) of the effort. The intent should be, remain small-scale and decentralized. The network of course could be under large-scale institutional umbrellas, which provide advice, faclitate, regulate and audit.

posted by: Anamika on 04.07.06 at 11:16 PM [permalink]

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