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Immiserizing Bangladesh

July 25, 2013
the Economy: Home and the World
2 Comments

When Jagdish Bhagwati – the outspoken free marketer – isn’t sparring with Amartya Sen on India’s future, he’s writing editorials savaging worker safety laws imposed on Bangladesh. Some may be surprised that Bhagwati, almost 80, was among the first to recognize Paul Krugman’s deep prodigy as his grad advisor – though the two are now probably rivals on regulating Bangladesh.

I’m not going to dispute the standard economic line that sweatshops and cheap labor are better for everyone involved. But Bhagwati’s pristinely hands-off approach to international working conditions leaves open room for important questions.

A theoretical dispute emerges from a 1958 paper, Immiserizing Growth: A Geometrical Note, written not by Naomi Klein but by a certain Jagdish Bhagwati. Before I detail the theory, it’s critical to note the mathematical conditions under which it’s derived are extreme but, like so many other brilliant models, helps illuminate a thematic dynamic. Bhagwati suggested that an increase in economic activity and output does not necessitate a coincident increase in standard of living:

The effect of economic expansion on international trade has been receiving increasing attention from economic theorists since the publication of Professor Hicks’ stimulating analysis of the “dollar problem”. It has, however, been insufficiently realized that, under certain circumstances, economic expansion may harm the growing country itself. Economic expansion increases output which, however, might lead to a sufficiently deterioration in the terms of trade to offset the beneficial effect of expansion and reduce the real income of the country.

As I understand, the primary conditions under which Bhagwati’s conclusion holds qualitatively stated are for countries:

  • That have market leadership on the international market.
  • Has experienced heavily export-biased growth.

Bangladeshi export of cheap garments are a forceful example of both predications. Like all other economic theories, immiserization of growth is not binary. For some increase in export-driven output, the nominal increase in income outweighs the deteriorating terms of trade and hence elevates real wages and standards of living.

However, Bhagwati here details an effect which may be framed as a countervailing tension between two abstract poles. Indeed, few of us will suggest that Bangladesh today is in a position where the marginal increase in export revenue is decreasing its real wage rate: but we may say that it is closer than most countries to reaching this threshold, and hence a fall in exports per se may not be as damaging to employment as Bhagwati has suggested in this recent column.

Another, more readily plausible, theoretical challenge emerges once we consider that it is unlikely international garment markets are perfectly competitive – at least not at the national level. (That is, the fact that within Bangladesh it might be difficult for firms to earn supernormal profits speaks little of competitiveness across borders with China or Cambodia). This is a critical assumption that Bhagwati only implicitly acknowledges. Rather, Bangladesh has both a natural and strategic comparative advantage in the garment market. The former derives from labor intensity and a previously untapped female labor market. The latter – very important here – from the specialization of international supply chains and infrastructure around a Bangladesh-dominated garment market.

To the extent that Bangladeshi firms – as a group – earn supernormal profits from this uncompetitive and scaled enterprise, the idea that slightly higher regulations will provoke disemployment is unfounded. Since such profits are ipso facto elevated from the level at which firms would keep all factors of production in their current use, it is difficult to accept that artificially, but minimally, inflated unit-labor costs will reduce output or exports.

Finally, an adaption of basic public choice theory suggests better working conditions need not fall on factory owners. Mancur Olson’s famous “dispersed costs, concentrated benefits” explains the preponderance of wasteful farm subsidies across the developed world. Let’s consider a converse of “dispersed benefits, concentrated costs”. Americans have thoroughly benefitted from extremely cheap garments resulting from similarly cheap labor. Let’s say this consumer surplus comes at the “cost” of better, basic safety in a Bangladeshi factory (I don’t like this terminology, but that aside). A regulation that increases Bangladeshi unit-labor costs represent a much higher percent of Bangladeshi incomes than the resulting fall in garment costs – accounting for rents accrued – helps the American consumer, especially accounting for the vastly higher income across the sea. That is to say, garment costs are a relatively small percent of American expenditure, and the change thereof is more irrelevant still. The elasticities of this relationship suggest incidence of basic regulation falls on interim rents and American consumer surplus, rather than employment of Bangladeshi workers, so long as the American government uniformly requires such working conditions for all countries and not just Bangladesh.

At this point we’ve established, from fairly standard theory, that a) there may not be an increase in unit labor costs, b) such a rise may not cause a fall in export-driven output, and c) such a fall may not precipitate a proportional fall of living standards. Bhagwati must believe, then, that none of the above hold true and this would be an extraordinary claim. At least the answer to the debate isn’t as clear cut as the Financial Times column suggests.

There are also practical benefits to an America requiring higher working conditions for exports from all countries. The current foreign aid model, with apologies for Jeffrey Sachs, is rife with corruption and rent-seeking behavior that is better overcome with a market proposition. This is to say that the United States can stratify various countries by bands of development and require a slightly increasing quality of working conditions – up to a reasonably sane point – by band. That means China faces more stringent restrictions to be eligible for an American export market than does Bangladesh.

Let’s say we do this instead of funding the humanitarian-industrial complex of foreign aid. That destroys a market fundamentalist argument, which is “factories will just go to China which has far higher productivity [output/hr] than Bangladesh”. Unfortunately, countries with higher productivity requirements will likely be at a farther stage of development and hence face more stringent requirements.

Rather than unfairly giving random subsidies to certain countries, the poorer countries will be allowed to develop by facing a lower protectionist standard – with fair minimums and maximums – than their richer brethren. Foreign aid works because its “effective” disposal requires no market power, hell I can remit some money to India too.

On the other hand, few countries have the market power to successfully levy international restrictions – counterintuitively, as I suggest, a more market-oriented proposal than the alternative of foreign aid. The United States is one of the few countries, especially in concert with the European Union and Australia, that commands a sufficient share of the import market to increase worker welfare through such means. Indeed it means that America must hold itself and Europe up to the highest standards so as not to provide our unions an unfair advantage, as Bhagwati worries.

This post isn’t about Bangladesh. It’s about the importance of considering alternative methods of guided development that may seem, at first approximation, paternalistic are, on second thought, fairer to international markets as a whole. Bhagwati’s own theory provides fertile ground on which to question the rather uncritical statement that any and all regulation will increase business uncertainty, curtail investment, and increase disemployment.

We should not overreact because  a building burned or fortress crashed. Rather, we must rigorously evaluate our currently flawed method of development. This, I suggest, is a golden opportunity.

China got 99 problems…

May 1, 2013
the Economy: Home and the World
5 Comments

But resource constraints and Confucianism ain’t one!

[Not to say China is resource-rich, but that this isn’t its biggest drawback]

Okay so there’s a kerfuffle about between Noah Smith and Daniel Altman about China’s economic future. They’re right (partially – China will beat Europe) to be bearish on its development, but their reasons are just wrong.

Here’s Altman:

Confucianism is perhaps the leading influence on Chinese business practices. [His] teachings […] are deeply ingrained in Chinese society [yet] are not necessarily conducive to economic growth. Confucian ethics teach that one should value the collective over the individual…A second and related tenet of Confucianism…encompasses the “respect for elders” that is a hallmark of many East Asian civilizations […]Together, these tenets of Confucianism — and the way they have been interpreted by the Chinese authorities in recent times — have helped to maintain rigid hierarchies in Chinese businesses… […] The message is clear: to be united and realize the dreams of a great Chinese nation, the Chinese people need strong rulers who brook little dissent. The message carries through to the boardrooms of Chinese companies, which tend to concentrate the instruments of power in the hands of a single strongman… All of these factors will combine to lower the target for material living standards in China — or, to put it more technically, they reduce the level of per capita income toward which China is converging. With these factors in place, China simply is not in the same convergence club as the United States…

And Smith:

For the record, I’d go with Sumner. Also, Chinese culture seems a lot like American culture to me, but that’s mainly based on my students, who of course chose to move here. If I had to predict, I’d say China will reach 50% of U.S. GDP, but that equaling us will be hard because of global resource constraints.
Of course we could always admit that, well…we don’t really know what’s going to happen to Chinese growth. But we don’t want to admit that. Because we don’t like to not know things. Not knowing things is scary. There is safety in derp.
Update: Altman responds, noting that Japan’s GDP is markedly less than that of the U.S., Canada, and Austrialia. Of course, I could have pointed out that Singapore, with a GDP (PPP) per capital of $60,410, is considerably richer than any of the countries named. But I thought it more appropriate to compare countries of similar population sizes and resource endowments…

And there was a lot more on Twitter about how land and other supply-side constraints have been a drag on this nation or that. For the record, Smith is a lot less wrong. Resource constraints are more defensible than ancient culture. Just at an institutional level, it’s important to understand why the legalists and centralists of Qin, Ming, and Mao so hated Confucius – in his China, the family served as a powerful counterweight to the state, undermining political authority. Indeed, in quarrels between a man and state, he and not the government had his family’s loyalty and trust. As Francis Fukuyama notes, Chinese history can be written as the interplay between family and state.

But few would say the Chinese state is anything near weak. Even at a microscopic level, there is little regard for important Confucian teachings. Profit from domestic migration breaks local structures and quid pro quo patronage permeates all levels of government. As one of Smith’s commenters notes:

Yes, Chinese hold family to be very important, but deference of the servant to master & employee to the employer? Has he seen the rate of job-hopping in China?
If the Chinese like to concentrate power, how come it seems like every third person in Taiwan owns a business?

It’s informative to understand just how rapidly financial profit undermines regressive practices after it takes afoot, however anchored by culture. Fareed Zakaria shrewdly notes that stark preference for Brahmins (scholars) over Vaishyas (merchants) held India back while scientific enlightenment and industry spread like wildfire across the West. Niall Ferguson is known to make this point (and then take it to the illogical, immoral, and idiotic conclusion that British imperialism was a good thing). But once growth picked up late last century nothing, seemingly, could stop it. The Hindu growth rate suddenly became a compliment.

Indians tend to be proud about strong familial bonds absent in the West. But I can barely sense any such thing in the modern, urban, middle-class culture India is moving towards. (And, unlike my grandparents, I think this is splendid). Or as Deng Xiaoping puts it:

Poverty is not socialism. To be rich is glorious.

Confucian China this is not. But Smith does a pretty bang-up job of making my point, so I’m going to tell you why resource constraints aren’t China’s biggest problem. (Note, he is very wrong in refuting Altman’s point by comparing Japan to Western Europe, which isn’t particularly rich and has a high natural rate of unemployment).

For one, I’m pretty cautious about Malthusian bets. People have been making them for a long time, and they’ve always been wrong. Ehrlich, most famously, didn’t get commodity prices right. Despite a huge increase in population, wealth, and demand since 1980, when the wager was made, the preponderance of fibre optics and advanced plastics mitigated the need for copper. Science and technology have always won the day, so it is only sensible that we have a very strong prior against grim predictions from the days of yore. Indeed, considering the number of times Malthusian priors have been updated, it should be near religion that we will not face a supply-side crisis.

For one, Smith qualifies expected per capita output by “similar population sizes and resource endowments” likening Altman’s comparison of Japan and US to that of US and Singapore. Japan might be starved of land, but it’s hard to imagine that resource constraints have held it back. If that were the case, we’d expect a contraction of aggregate supply resulting in cost push inflation. But we know that the Japanese economy has been severely deflationary. Land is also only a problem if Japan had an increasing population, but fertility fell below replacement rate quite some time ago.

Then it’s worth noting that the only “resources” that benefit Singapore are human capital and agglomeration economies. New York State has a per capita GDP of $58,000. The city itself will be notably richer. Of course, Washington DC blows it all away at almost $175,000. Obviously, Smith’s point was that it doesn’t make sense calculating output across population sizes. But the qualification isn’t continuous, as he believes, but binary: is it a city-state, or not. Or, if you like continuity, urbanization rate. Japan is actually 10 percentage points more urbanized than America, implying it should be richer if not for other constraints.

But let’s take this further. Resource wealth helps a country in one of two ways:

  • Exports increasing GDP (Norway, Australia, and Frackamerica)
  • Low price levels decreasing GDP deflator (America: Land of the Free Cheap)

There’s no doubt that Americans are so rich because of comparative price levels. It’s refreshing to compare nominal per capita income ranking against their real counterpart. But doing so also tells us that $3 per gallon of gasoline doesn’t help us that much. (USA moves from 6 to 10 with a few notably irrelevant countries in between). Further, American prices are low because of smart economic practices emphasizing labor flexibility, relatively low minimum wages, huge numbers of skilled and unskilled immigrants, and a highly robust higher education system. Americans abroad often complain about food prices, but should remember that this is already such a small proportion of income that it doesn’t much matter. As for the first point, our export of ideas (Boeing, Silicon Valley, Wall Street, etc.) is far more valuable than actual resources. Though, all said, Texas is pretty rich!

Smith also likes tweeting about the coming solar and wind revolution. In Oregon and Washington, wind is already cheaper than coal. This will be particularly true in the future, after China eats all our coal and asphyxiates its people in the process, but technologists will by then have given us more than enough to move away from coal. A member of the “global south”, China also has a fair bit more sunshine than the Americans. Oil will be a decidedly more tricky subject. When America invested in its interstate highway system (whose value is intimately connected to gas prices) high-speed rail was oxymoronic. The Habitable part of China is substantially smaller and, with modern locomotive technology at hand, China can probably substitute most oil-based transportation with electricity. Cars by that point will also be much more efficient. No doubt the technology, and dollars too, allowing this sustainable development will be traced back to American universities and entrepreneurs.

As a billion people move from poverty into comfortable living, from ignorance into (relative) intelligence, we will have many more thoughts competing in the Popperian “marketplace of ideas”. China will (try to) advance science, culture, and scholarship in much the same way that America does today.

Alas, Altman and Smith are right that China will never catch up to the United States. But they are wrong that it won’t catch up to the West. Unless Western Europe seriously reconsiders its failed economic practices, China will render it (more) irrelevant (than they already are). The European Union’s per capita GDP (PPP) is only just over 60% of America’s – people tend to forget how much richer the US really is. This gap will widen substantially to the point where Chinese living standards beat Europe’s, which is destined for a long period of relative stagnation.

But it won’t ever reach America. Not because of oil or stones, or whatever, but the lack of inclusive institutions. State capitalism is great so long as China is the “factory of the world”. But if you want your Wall Street, Silicon Valley, Seattle, or Chicago, you’ll need something seriously better. The US did create small things like the Internet with big government investment, but only on the back of an established system of private universities and entrepreneurs.

And to the extent that Internet and technology is the economic future, China’s citizens are woefully excluded. Weibo is no match for Twitter: in code or theory. The repression of its population will strangle the cross-fertilization of ideas that make America so great. But China faces another huge supply-side factor: immigration. Educated people want to get the hell out of China (unless they are connected enough to open a factory and get rich). Educated people want to get the hell into America.

For all of history, we’ve been the “second-best” place for everyone in the world. Many Indians today want to stay with their family, but America is their next choice. Europeans in the 19th and 20th centuries probably liked their culture, but America was a close runner-up. Smith himself called us the “Alt Europe” (and suggests become the “Alt Asia”). Oh and how rich it has made us. So many economic “movers” – from business titans to engineers – are in America because it’s immigrant-friendly and promises riches.

What does China promise? Smoggy streets, censorship, and a language no one (else) speaks. Great.

People are also seriously scared of China. India, Japan, Korea, Taiwan, and Indonesia have a big interest in making sure China doesn’t become too powerful. Some already have trade and military alliances with America. It’s not unlikely that the rest will follow suit. America, owing to its peaceful and democratic nature, is on good terms with most of the world and definitely its neighbors. We got rich by rebuilding Europe and innovating amazing goods for the rest of the world. There’s a fair bit of disdain for the US, perhaps deservedly so, but it’s hard to dismiss the relatively peaceful path to prosperity exemplified by America. As China gets richer and stronger, American soft power will only increase.

But it’s also fair to say Altman is too bearish on China:

China may just manage to catch the United States and become the world’s biggest economy. But it will hold onto the title for only a few years before the United States, growing more quickly in both population and the productivity of its workers, passes China again.

On second thought, if we don’t screw up our immigration policy, he’s probably right in the long run. But if China’s growth continues as expected, they’ll pass us in total GDP and stay there for a while until American population grows enough. But even then, America and China will be very close. Even America stabilizes at 500 million people (high estimate) and China at 1 billion (low estimate), America would have to be twice as rich to be equal. This seems unlikely.

There’s one more problem. No power that be has stayed that way without controlling the global reserve currency. While China has made moves to liberalize its bond market, it will never be a trusted reserve. Only a democracy in which a majority of government debt is (somewhat) equitably distributed among the electorate can have this status. American politicians know that if they default on their obligations, they’ll be thrown out of office. Self-interest prevents this. The debt ceiling is an artificial, not structural, obstacle to this point. We know that default is not a subgame perfect strategy for America. We can’t say the same about China.

So, as the age-old adage goes, institutions are the problem! I have trust that scientists and entrepreneurs will overcome resource constraints, and that economic factors will destroy regressive culture. But it will be a miracle indeed if Chinese universities rivaled Harvard, if Beijing captures the philosophical imagination of Washington in its ideal, if Chinese entrepreneurs catch up to the Pacific Northwest!

Edit: Scott Sumner has some thoughts too.  I’ll add that I don’t think culture is nearly as important as other factors in the end. Indians, Bangladeshis, and Pakistanis might come from historically similar cultures, but perform very differently in the US, with Indians earning about $90,000, Pakistanis about $60,000 and Bangladeshis about $45,000.

The Matthew Memo

April 25, 2013
the Economy: Home and the World
7 Comments

We watch again as plainly avoidable disaster strikes Bangladesh. And long after this tragic event we will hear those nauseating remarks that growth isn’t “good” or “sustainable” from the educated Asian elite. We will be told that American imperialists from Walmart are hurting the poor, and that GDP isn’t important. Matt Yglesias seems to have earned the ire of some anti-market anarchists (or something) on Twitter for his response to the accident:

Bangladesh may or may not need tougher workplace safety rules, but it’s entirely appropriate for Bangladesh to have different—and, indeed, lower—workplace safety standards than the United States.

The reason is that while having a safe job is good, money is also good. Jobs that are unusually dangerous—in the contemporary United States that’s primarily fishing, logging, and trucking—pay a premium over other working-class occupations precisely because people are reluctant to risk death or maiming at work. And in a free society it’s good that different people are able to make different choices on the risk–reward spectrum. There are also some good reasons to want to avoid a world of unlimited choice and see this as a sphere in which collective action is appropriate […], but that still leaves us with the question of “which collective” should make the collective choice.

Bangladesh is a lot poorer than the United States, and there are very good reasons for Bangladeshi people to make different choices in this regard than Americans. That’s true whether you’re talking about an individual calculus or a collective calculus. Safety rules that are appropriate for the United States would be unnecessarily immiserating in much poorer Bangladesh. Rules that are appropriate in Bangladesh would be far too flimsy for the richer and more risk-averse United States. Split the difference and you’ll get rules that are appropriate for nobody. The current system of letting different countries have different rules is working fine.American jobs have gotten much safer over the past 20 years, and Bangladesh has gotten a lot richer.

My first reaction is complete, unqualified agreement. The perennial critics of American trade policy always loose sight of how much our spending benefits poorer corners of the world. There’s the occasional fire or accident, and it is sad. But for Bangladesh, a country where two kids die every hour from malnutrition, this isn’t a big deal. It’s tragic that it’s not. But this doesn’t change the fact that it’s not.

As much as the leftists who berated Yglesias want to believe money doesn’t matter, the only thing Bangladesh needs is more money, and more consumption. Only the blind rich elite could possibly claim that growth is not good, and anyone who advices you so is either deluded or misinformed (and no doubt a good concoction of both).

But Yglesias is wrong, at least in his framing. The tradeoff between safety and income is a false dichotomy.  In The Logic of Collective Action, Mancur Olson popularized the idea of “dispersed costs and concentrated benefits”. This is usually used to explain why farmers lobby for protectionist sugar policy – which costs the average American cents, but increases farmer earnings on corn by thousands: the idea that small change from many becomes a powerful force for action when directed to a few. And this is really bad, because our Coke is crappier and most people loose money. But since we’re each giving up so little, collective bargaining just isn’t worth it.

Now imagine if, instead of financing the humanitarian-industrial complex through badly designed aid schemes, America required all imports be sourced from countries with a basic level of safety: decent lighting, water, eye protection, sanitation, and maybe even short breaks. Nothing like what we enjoy in the rich world, but what might be considered “humane”. And we’d hardly have to pay for this. Because America imports so much stuff from basically everywhere, we have huge market power. As long as we make small and sensible demands, it’s highly unlikely that small and poor countries like Bangladesh will protest.

Provided the regulations are not onerous, it’s highly doubtful Bangladesh (or any given poor country) would experience any disemployment effects. We know that all firms operating outside of perfect competition earn rents, and cheap, fixed costs like safety goggles and sprinklers are unlikely to be high enough to necessitate the profit-maximizing firm to reallocate its factors of production.

Of course, as the marginal supply shifts slightly to the left, prices would rise, and export costs would increase. This is where Olson’s theory comes into place. American consumers would have to pay slightly more for their imported clothes, but the most basic regulations would be a fraction of the Bangladeshi cost of production, let alone American retail price. Millions of Americans would, on a day to day basis, be financing safer conditions in Bangladesh. And more importantly, this redistribution will be orders of magnitude more important than farm subsidies. Because a dollar to a rancher is basically the same as a dollar to a Bostonian. But a dollar to a Bangladeshi is, relatively, far more valuable to a poor laborer than it is to you and me.

And this regime could continue gradually through the process of development. Until wages converge significantly, this would be of little cost to each individual agent. This is a little bit like a carbon taxation system. A simple, dumb, tax on domestic production would simply encourage offshoring of industry to freer countries. The quick fix is a tariff that internalizes carbon output globally, thereby reducing the incentive to offshore.

In principle (though wage differences are too high in practice) this would prevent American companies for moving production overseas solely for the purpose of badly-treated labor. Whatever the case, this solution is better in a number of ways: it can replace a lot of the work done by foreign aid. It is incredibly difficult to corrupt, as the funds aren’t direct transfers. It is far cheaper, and guarantees a better standard for the worker. Best of all, it doesn’t imperil Bangladeshi growth.

I would rather we redirect USAID’s budget towards domestic problems and use our infinitely more valuable international market power to solve problems abroad. And I’d be surprised if Yglesias disagrees!

The End of Export-Driven Growth

April 3, 2013
the Economy: Home and the World
5 Comments

Noah Smith makes a pretty strong case for industrial policy (in the South Korean sense):

In any case, back to the master narrative: Real national wealth does not come from theft. It comes from reorganizing society into a more productive form. As South Korea did. As Japan did before that. As Mexico is hopefully doing right now. The nations of the Global South were late to the industrialization party, but I think they are finally here.

We both agree that “manufacturing-export capitalism” plays a large role in educating the masses into productive employment. We don’t need to go so far as South Korea, or even Mexico, to see this. There was a time, not so long ago, when Detroit was the Venice of the 20th Century, leading the world in per capita income and wealth generation. You might say that the city-state of Detroit efficiently brought its people into gainful employment creating completely new model of development.

But I think it’s pretty simplistic to suggest that something like that will come close to working. As Noah sees it, South Korea grew predominantly with export of cheap goods, becoming basically as rich as Japan is today:

How did South Korea pull off that trick?

Well, no one knows exactly what worked and what didn’t; all we see is the overall result. But in general, South Korea followed a blueprint outlined by America, Germany, and Japan. That blueprint is called, for lack of a better term, “manufacturing-export capitalism”. We don’t really know what countries can do to get rich, but the really successful ones all seem to do something that looks like “manufacturing-export capitalism”. And it’s basically what Mexico is doing right now.

But the world has changed – dramatically – since. South Korea basically hit the jackpot of growth between 1970 and 1990:

Image

There are two points to take from this graph. First, South Korea had remarkably robust growth for the last quarter of the 20th Century. Second, South Korean growth was hugely dependent on the American economy. Aside from the Asian Crisis in the 1990s, the only severe declines in growth happen during American recessions (see the grey columns). 

The “Tiger” economies grew during a time when rich countries (basically America) were willing and able to absorb the cheap manufacturing exports from Asia. There are two dynamics that afforded South Korea its “miracle”. For one, America had pretty solid growth of 3-4% through that period of time. Though dwarfed by Korea’s growth rate, Americans not only were richer to begin with, but the real growth itself was higher:

Image

This graph basically shows the factor by which total American growth outdid South Korea. This figure, roughly, estimates the extent to which America can run a trade deficit to finance international growth. All said and done, because America was so rich in the 20th Century, it didn’t need huge growth rates to import like crazy. The only blip in the graph is, of course, the 1980s recession. 

On a per capita bases, this graph bodes very well for South Korea. Once it hits one, it means both countries have the same total increase in welfare, but South Korea, obviously, distributes that across a much smaller base. It won’t be long before the graph converges at some below-zero point, indicating equal per capita growth rates. 

I totally agree that all growth isn’t “theft” or, as a fancy economist might say, after the colonial pillage, most countries like America, South Korea, and India have grown with “inclusive” rather than “extractive” institutions (this is a broader point, but speaks to the same sentiment, in my eye). But manufacturing isn’t the free lunch it once was, and Mexico isn’t a good example to the contrary.

Mexico shares a special physical and cultural relationship with the United States. It makes very strong political sense for America to keep Mexico sufficiently rich. While I would argue we benefitted tremendously from NAFTA, it can definitely be parsed as America willing to run large and unnecessary trade deficits to finance Mexican growth. Most poor countries don’t have the luxury of being America’s little brother. 

The picture in the 21st Century will be very different from that in the late 20th. There used to be a booming America financing the growth of a handful of people (forget countries, South Korea and the other Tigers are dwarfed by India and China). Today 50% of the world is “booming” and America is not. Last year, India – the “weak” BRIC – grew by $100 billion. If America grows at 3%, that would represent almost 25% of its total GDP. China grew by over a trillion dollars, or two times America’s total growth. Even if you dash China off as a relatively rich and booming economy (not to mention geopolitical giant), there are many countries like India eagerly waiting for the West to import their goods. But this is not happening.

Recently, China became the world’s biggest trading partner with a majority of countries, a position held by the United States for a long time. This isn’t too surprising to anyone. But, for the first time, trade between developing countries and developed countries (“developing-developed” trade) fell short of trade between developing countries (“developing-developing” trade).

These are all huge, qualitative factors that South Korea did not face during its ascent. And they are realities Mexico is largely shielded from due to its position. There are also fuzzier agents at play. The latter half of the 20th Century, the heyday of American dominance, was defined by a growing respect for free trade, banking, and capitalism. Today there are populist, anti-trade impulses in both major American parties, forget Europe. We’ve (wrongly) convinced ourselves that a trade deficit is a bad thing and political rhetoric frequently borders on currency protectionism.

As the rich world slouches from recession to stagnation, export-driven growth isn’t going to be the answer to the development India and its friends desperately need. The Fabian spirit of Nehruvian beginnings leaves India with a very strong domestic industry and its growth is sufficiently infused with both technological progress and domestic consumption. While China is the gold standard model child for growth today, India might offer a more sustainable alternative in principle (India has huge, non-structural – unless bad politics are structural – problems that need fixing). 

While I’m not advocating for import-substitution, I do believe there is a strong case to be made for mining new avenues of growth. For most countries this means: 

  1. Find alternatives for oil and coal. When we hit reach peak oil/coal/whatever, America and company will pay extraordinary prices for energy crowding out the poor world from natural resources. (Or forcing huge trade deficits that will definitely tempt a balance-of-payments crisis).
  2. Focus on a domestic services industry that requires literacy but not much more serious education.
  3. Don’t trade a good terms-of-trade for a weak currency.
  4. Target areas highly-specific industries and devote huge sums of research to develop a comparative advantage. For India, I believe thorium-powered nuclear research is a candidate. While the rich countries are the general choices for research and development. If poorer countries invest enough in very specific projects, they can develop a niche.

Development for the “Global South” isn’t looking apocalyptic. But South Korea, Mexico, and any other wild tigers are not the answer. 

India’s Tryst with Destiny…

March 28, 2013
the Economy: Home and the World
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…So is the name of Jagdish Bhagwati and Arvind Panagariya’s book, subtitled Debunking myths that undermine progress and addressing new challenges. While it lives up to its subtitle well, this forceful argument for trade liberalization fails to match the watershed after which it is named, Jawaharlal Nehru’s famed speech. In many ways, Bhagwati and Panagariya deliver a nicely edited review of literature on India’s growth since its reforms. Even as someone fairly well-read on India’s economic history, the sheer collection of empirics in Bhagwati and Panagariya’s arsenal is baffling – enough to give serious pause to anyone skeptical of free trade.

What Bhagwati et al. deliver in evidence and reason, they lack in insight (the true measure of their fantastic scholarship can be found in the plethora of self-citations riddled throughout the book – while the rest of this review may be critical, I don’t kid, their work is rich and informative). There are precious few comments on the underlying idea of India, and its tryst with destiny. While the thorough treatment of liberalization and its positive effects is much needed in our political discourse, perhaps the American version has a more apt, and humble, title: Why Growth Matters.

The method in which Bhagwati et al. focus their argument also leaves much to be desired. Presumably to magnify the import of their claim, the text is saturated with a vast embellishment of what the Left actually believes. Further, Bhagwati et al. fall prey to the stereotypical liberals (in the Indian sense) who chant growth is good, with little appreciation for nuances or caveats. For example this book has not a mention of hugely depleted aquifers in North India, the condition of our rivers, and that of our skies.

Indeed, when in their favor, Bhagwati et al. readily accept that there are subtleties to every question:

Then again, the causes of suicides are many. This is so even in the case of farmer suicides. It is, therefore, unlikely that a single cause like BT seeds would emerge as the main factor.

I agree completely though, am left wondering, why the same doubt cannot apply to a hugely more complex phenomenon, India’s growth itself. But perhaps the most striking flaw in the book is the devious representation Bhagwati et al. make of economists on the Left. The reader is made to believe that Brad DeLong and Dani Rodrik were somehow content with the level of liberalization before 1991. They, further, claim that DeLong and Rodrik believed that the most important reforms happened during Rajiv Gandhi’s tenure:

Unfortunately, both the statistical assertion by DeLong about allegedly robust pre-1991 growth and its explanation by Rodrik are wrong.

However, in a 2001 paper, here is what DeLong has this to say:

What comes next for India? The governments that followed the Rao government–first the United Front and now the BJP-led coalition–have continued reform and liberalization, albeit not as rapidly as one might have hoped given the pace of economic reform in the first half of the 1990s. But the amount that is still left to be done is staggering. 

Whether Indian real economic growth continues at the rapid pace of the past decade even if reform slows down and government budget deficits continue will tell us much about the resiliency of the growth process.

If Indian real economic growth does continue to be rapid even in the face of erratic public-sector performance, that will suggest to us that the most important factors were those that changed in India in the 1980s. (Emphasis added)

DeLong clearly admits that India is a far cry from a liberal democracy. It’s interesting that Bhagwati et al. paint DeLong’s conditional, predicated on continued successful growth without further reform, as an assertion. Indeed, it is unfair to the reader who does not check the full extent and qualification of DeLong’s opinion.

There is another oddity in criticizing Rodrik and DeLong’s purported belief that the sea-change in liberalization happened during the 1980s, in no small part because Bhagwati et al. make this argument themselves. There are numerous instances in which the authors respond to “critics” that don’t believe growth in the past two decades can be attributed to liberalization, because of high growth rates during the second Gandhi’s tenure as prime minister. Their (correct) reply to this (false) claim is that reform had started silently in the ’80s itself, and the Narasimha Rao policies only deepened the change.

This sort of exaggeration is common throughout the book. For example, the authors claim that:

A common refrain of the left-wing critics is that the post-1991 ‘neo-liberal’ reforms have led to an exponential increase in corruption.

They cite, for this claim, an article from New Age Weekly – the loud-horn of India’s Communist Party. To ascribe a “common refrain” to “left-wing” critics from the most ideologically radical publication in the country is edging on absurd. There are very good reasons to distrust anything and everything Vandana Shiva has to say. There are very good reasons to be skeptical of anti-BT cotton activists. There is very little reason to equate all left-wing thinkers in this category.

A similar vein of disingenuous argument is littered throughout the book. The most striking example to this effect is a graph following the authors’ cliam that:

The difference is so huge between the measured farmer and non-farmer suicide rates that one may question the validity of the data.

Right beneath this claim is a figure depicting the vast difference in the total suicides among farmers and the total population. This would, of course, be expected noting that India is, well, not an entirely agrarian nation. Unfortunately, the placement of this graph would trick a reader merely skimming the book for ideas (as I initially did) – removing credence from their greater point that there is no connection between liberalization and agricultural suicide.

By quibbles with the rest of this book rest on dispute not with the method of their argument, but the argument itself. I am a firm believer in liberal trade policy and, as I’ve mentioned, I believe Bhagwati and Panagariya have done a great service in conveying the sheer absurdity of the argument against. We disagree in large part, however, regarding the role Indian government has to play in its growth. The authors’ divide India’s economic future among tandem tracks:

Track 1: Reforms aimed at accelerating and sustaining growth while making it even more inclusive.

Track 2: Reforms to make redistributive programs more effective as their scope widens.

From the way in which the authors interpret the above goals, Track 1 (labor market reform, land acquisition, infrastructure, and higher education) and Track 2 (direct transfers, public work provision, guaranteed employment, healthcare, nutrition, and elementary education) represent supply-side versus demand-side policies, respectively.

There is a clear, (expected), and understandable preference given to the former. However, the evidence and assumptions of their argument do not hold ground. For one, they believe that any real growth implicitly requires formalization of India’s workforce:

There are many indicators of the inefficiencies that constrict growth. For instance, according to a 2007 Government of India report, the high-productivity formal sector […] employed just 13.7 percent of the workers in 2004. Besides, employees who are in the formal sector are not just small in number but have hardly been growing.

For someone not familiar with the Indian context, let me explain what “formal” and “informal” entail. When I go to a mini-Walmart like grocery shop (think Nilgiris, Reliance Fresh, or Spencer’s), I’m confronted with “formal” workers with absolutely no idea how to use the fancy cash registers at their disposal. It’s not uncommon to wait 5-10 minutes for a simple checkout because of how unbelievably incompetent these workers are.

On the other hand, “informal” includes the roadside bookshop or chai-kadai – where one man is serving about ten people at once, with remarkable quality and efficiency. It includes bookkeepers who make the idiots at formal stores look like a joke – for they can manually search the stacks of novels at their disposal in a tenth of the time it takes a so-called “high-productivity” formal worker to access his computer and direct me to the necessary book.

That Bhagwati et al. so casually assume that the formal sector is superior is just, simply, false. As far as services are concerned, this is evident to anyone who’s spent much time in India. I’m no maudlin sob-story who yearns for the “good old days” or the way “things used to be”. I’m all for technology, liberalization, and modernity – but the evidence that formality somehow aids growth (as far as services are concerned) has yet to be demonstrated. And, if you don’t believe me, I invite you to deal with the useless nuts at your local Spencer’s as opposed to the vegetable cart next door.

In their criticism of the Indian labor market, Bhagwati et al. are eager to repeal even the most sensible laws, including:

  • “Benefits related to sickness, maternity, disability, dependents” for employees earning below Rs. 10,000 a month
  • The right for “trade unions to strike and represent their members in labour courts in disputes with the employer”
  • Limiting “work without a day of rest to ten days”
  • Requiring “Proper disposal of waste”
  • “Extensive provisions for worker safety, including fencing of machines and moving parts, use of goggles to protect against excessive light and infra-red and ultra-violet radiation; precautions against fire; and the weight permitted to be carried by women and young persons”.

While they agree that the real culprit of labor rigidity in India is the Industrial Disputes Act (IDA) which makes it well-nigh impossible for factories to fire workers (and, consequently, hire them) – they seem to have fallen the the supply-side myth that grasped most of the USA during the Reagan era that somehow dismantling every worker protection would lead to increased aggregate supply and, hence, economic growth.

Indeed, the very flippant manner in which they claim these crucial provisions increase the “marginal cost” of labor and hence cause unemployment is ridiculous. The theoretical economic argument against this claim is so obvious. Economists argue that few industries are perfectly competitive (the stock market being one, which explains why it’s so hard to “beat” the market). In imperfect markets, the firm earns significant economic rent. This means that even decreased profit will not cause a reallocation of associated factors of production. In other words, a slightly higher marginal cost of labor will have no effect on employment.

Indeed, the greater cost is not even marginal in nature, but rather fixed. Provision of toilets and flow of water are largely independent of the number of workers employed. Similarly, the basic premise on which Bhagwati et al. approach education is flawed:

In contrast to elementary education, which is also a predominantly social objective and for that reason belongs to the Track II policy agenda, higher education belongs to the Track I agenda.

In other words, better universities somehow have supply-side effects in a way that primary education does not. This is simply not the case. For this to be true, Indian universities would necessarily be bottlenecked due to the huge number of highly-qualified Indian high school graduates. However, there are many private universities that are ready to be filled, suggesting a more broken educational infrastructure than the authors assume. A higher education system that can work independent of a weak primary system would need the flow of skilled immigrants the United States sees. Short of this influx, India needs to fix education from the bottom-up to achieve any sizable supply-side effects the, it seems, holy grail of liberalization advocates.

Overall, India’s Tryst with Destiny is a highly worthwhile read. Bhagwati et al. stick to the point, rendering the book a very short (but informative) read. As the authors are acutely aware, myths and lies about India’s reforms abound, and not just among the intellectual Bengali cafes, but even liberals abroad. Bhagwati and Panagariya make a strong case for continued liberalization. I believe I have made a strong case for my ultimate criticism of the book. As a reader fairly in touch with the beliefs of India’s left-wing, I believe the authors unfairly, and to their disadvantage, exaggerated the claims against liberalization. Indeed, I believe they directly misrepresented the opinion of two very respected economists. As an Indian, there is also a little pang that Bhagwati and Panagariya copyrighted the natal utterance of India – it’s very heart and soul – in a book advocating the ultimate removal of labor protections and unions. Contrary to the authors’ belief, Jawaharlal Nehru would not be all to happy with the thrust of this book.

Daniel Altman on International Development

March 11, 2013
the Economy: Home and the World
1 Comment

Edit: Prof Altman corrects me, log purchasing power was used to facilitate interpretation by keeping constant the % changes across different values of the dependent variable. Although, using log scales seems to be valid regardless to account for diminishing returns to the dollar.

Daniel Altman is out with a new white paper, Are international differences in living standards really so hard to explain? It’s not a long paper, and I’d recommend it to anyone curious about the so-called gap between “the west and the rest”. There’s tons of literature (both general and technical) about international development and the best place, by far, to get a thorough exposure to this material is Development Economics @ MRUniversity. Frequently cited factors include:

  • Institutions (extractive vs inclusive)
  • Geography
  • Natural resources

Niall Ferguson cites six “killer apps”:

  1. Competition
  2. The scientific method
  3. Rule of law via democracy
  4. Modern medicine
  5. Consumer society (“the idea that everyone should have a set of clothes”)
  6. A “Protestant Ethic”

Altman’s paper considers the share of national output that doesn’t come from natural resources like oil or gas. This, arguably, captures the essence of a thriving society: i.e. that which it earned through its culture or institutions (by this logic, it might not make sense to include geography, either, but the results are very interesting). Altman considers three least-squares regressions to understand the portion of economic variance that can be attributed to selected factors. Here are the regressions:

Image

A few quick explanations on the methodology. The log per capita income is used (presumably) to account for the diminishing marginal utility of money. Most of the data is from the 2010 World Bank’s World Development Indicators database though, where 2010 figures aren’t available, Altman considers the 2009 report.

The third regression (which considers gender equality – GII – on top of legal frameworks) is the most appropriate. However, it’s also arguably the most subjective. Perhaps Ferguson would do well to look at this data, which might quell his ancient imperial tendencies, because imperial institutions account for only about 5% of the overall variation in living standards.

But the most striking part of the data is what should be “low-hanging fruit” – landlocked countries. That countries are landlocked is an artifice of false political boundaries dictated in London or Paris and these closed borders, unfortunately, stifle trade and commerce between nations. There’s nothing qualitatively different between a landlocked country and the state of Iowa yet, because of political borders, being landlocked is almost as bad as gender inequality. The curse of these borders is even then understated knowing that this is a binary variable that (should be) easy to fix.

Of course, port cities will always be richer, but only because of the trade industry itself. After landlocked nations get access to international (or even continental) trade, surely economic variance should decline as nations previously excluded from trade prosper.

Indeed, Africa (and, to a lesser extent, Latin America) seem to be the last vestiges of a landlocked era. North American countries are large, each with access to the sea. Australia is an Island. Europe has a customs union. Most of Asia doesn’t live in a landlocked country. Africa is moving towards freer markets in pockets with the East African Community etc. Further, it’s probably not smart to move towards fully free markets immediately. Industrial policy is important in a world of capital, particularly so for Africa to be competitive in the future. However, moves towards regional customs unions so that no nation is locked from trade will be a real boon.

Indeed, it would be interesting to consider a regression that considers not a binary access to seaports, but some index that captures the cost of access to international trade from regulations, tariffs, or any other such policies.

Altman notes that countries with the lowest negative residuals (those that performed worse than expected) were, unsurprisingly, locked in generations of civil conflict, extractive dictators, and war. So comes the cost of having a fancy British legal system.

I wasn’t surprised to see the extent to which Arab countries, like Qatar, exceeded their predicted output considering the ridiculous rents on oil, but was surprised to see that even the United States had a very high residual. Altman points out, this residual can be explained completely by a relatively high GII indicating, perhaps, the subjective nature of the index or, perhaps, a culture that thrives despite gender inequality.

This is an empowering report because about 50% of the variation in output can be reduced to eminently solvable problems (I don’t consider draught to be solvable, though it may be in the future). As development economists have noted for a few years now, Africa isn’t intractable. Jeffrey Sachs noted that almost 30% of economic output can be explained by malaria.

It’s time to get that 30% back.

The Whole Foods Whoax

December 11, 2012
Uncategorized
3 Comments

So I live in India – where the “Green Revolution” really started. Many people – here and elsewhere – have a very critical opinion of the work of M.S. Swaminathan and Norman Borlaug (the fathers of the revolution). This criticism is usually presented along with a general criticism of genetically modified foods and other “unnatural” endeavors.

Broadly, the criticism levied falls into several categories:

  1. Socioeconomic: The Monsanto/Cargill empires are breaking down the “small farm” community that once thrived. Labor exploitation is on the rise and the corporations are reaping the profits from the poor farmers.
  2. Health: The pesticides in Green Revolution food are not healthy to eat and is a broad cause of lifestyle distress (I’ve heard claims/speculations as far reaching as that non-organic foods cause cancer from “reputable” news sources).
  3. Environmental: Modern agricultural practices are water-intensive and unsustainable at best – a means of “converting petroleum into food”.

There is some truth to each of the arguments made above. But to what extent does this justify a revolution to the past? To what extent has “modern agriculture” the devil that many make it out to be (and there are many such people here, especially in India).

Socioeconomics From a socioeconomic perspective, I agree that modern farming might be resulting in greater income inequality between large farmers and the actual laborers. However, this is largely a structural flaw of any scaled enterprise. When the Industrial Revolution to foot in Europe and the United States the inequality between the robber-barons and the laborers skyrocketed. However, the general wealth of the population increased. Inequality, per se, is not bad, it can even be a great motivating force (I say this carefully, having fallen on the “right” side of inequality). I’m not trying to throw a free-market, Milton Friedman argument here – but I am saying that the effect on inequality per se is not justification enough.

Government regulation to ensure fair treatment of laborers through prevention of monopsonies is one partial solution. India is largely unmechanized (due to backward government policy encouraging manual work) – the number of agricultural workers in the future will hopefully decrease the need for there to be such a large disconnect between the “owners” and the “workers” in which mechanization allows the “owners” to work their own soil.

The day Facebook had its IPO, the income inequality in California (and the country, and the world) ever so slightly increased. Are we the worse of? Scalability and efficiency even if not ultimate goals benefit all of us.

I had a small epiphany the other day when I went to eat at a chai-kadai for lunch (something that is of questionable sense for someone who has lived in the US for fifteen years, as I have). I had a full, hearty, meal for Rs. 20 (eggs, tons of rice, beetroot – nutritious and healthy) as well as a cup of, well, chai. Rs. 20 is equivalent to less than 50 cents. Such affordable meals have allowed the Indian masses to put food on their tables. So yes, inequality has increased, but so has the ability for the common man to feed his family (a very patriarchal society indeed).

Naysayers of the revolution point to the fact that the Food Corporation of India wastes over half its grain each year – a result of India’s Green Revolution. This is probably a good example of reverse causality. We must a priori assume that India cannot store its food because there has been no investment in the technology needed to do so. A terrible cold-chain, no silos, etc. Therefore the Green Revolution has allowed a large portion of India to eat despite its terrible ability to preserve food.

In 1968, Ehrlich argued that millions would starve and die because “India couldn’t possibly feed two hundred more million people by 1980”. No, not without science it could not. As a result of Borlaug’s dwarf wheat, India became self-sufficient in cereal production by 1974. You find that many of the pro-organic crowd here and elsewhere fall near the top of the socioeconomic spectrum – they’re not the ones who would pay the price when the country doesn’t have enough food. They’re not the ones for whom a lunch means three more hours worked, for whom putting food on the table means migrating away from the kids for maybe over eight months.

Health Organic sounds a lot healthier. And is a lot healthier if you don’t properly take care of the fruits and vegetables you are eating (washing it, etc.) However, thelargest scientific study on this issue – which used data from over 50 years of nutritional studies – noted that there is a negligible positive effect when one consumes organic food. This is not to say that organic is less healthy or that one should not consume organic food – there might be other reasons to do so. For example, animal welfare is generally a more important concern for organic farms than it is for conventional farms. However, this is again a tangent to the real question at hand.

Environment This is the big question, isn’t it? Now, let’s start with the facts. If we revert to Organic Farming, as Norman Borlaug has calculated, the world would be able to sustain ~4 billion people. Before we even consider organic farming, we should accept a priori that we are willing to pay the social cost of a Malthusian catastrophe. Indeed there is something deeply unsettling to me that the millions paying for this do not include those paying seven dollars for a gallon of milk.

I am the first to accept that the status quo, too, is unsustainable. There are states and farms in India that will probably loose the ability to remain fertile in about ten years, a result of modern agricultural practices. However, there do exist ways to sustainably farm using industrial methods. Can we not have major, scientific, research schemes that find ways to increase the productivity while at the same time decreasing the environmental cost? When there is large-scale investment in science (likely in times of war) we find that great advances do happen. We should inject warlike funding to such programs to allow for a more sustainable world.

A common question ignored is that modern farming allows you to receive a greater yield rate per acre, which allows you to till a lower surface area and thereby allowing you to conserve a greater portion of your total land. We would certainly have to increase our “area farmed” (and cut into untouched, pristine areas of nature) were we to abdicate efficient farming practices.

We must first make the steps that have the greatest impact per dollar spent. This means, for a country like India, to invest in high-quality silos, to teach farmers about the proper way to use herbicides, develop a high-quality cold-chain. This would do far more for the environment per dollar spent than investment in organic farming.

There are also simple steps we can take. Eat locally, from your farmers market… Don’t buy Kiwis (sorry New Zealand!) In fact there is some irony in the fact that Whole Foods imports from overseas (at great carbon cost) much of its organic produce in the winter when “conventional” food is available next door.

This post is already too long – and I don’t want to end on a negative note. I understand the merits of organic farming just I’ve heard too much lately about how modern agricultural has ruined the world and I don’t believe that is by itself true. Are we “borrowing from tomorrow”? Maybe. But with organic agriculture you would be borrowing from the many people that would not have existed today or be living on below-subsistence levels of food. To become better we do not need to look back, but look forward. What works about organic farming? How can that be incorporated into a modern and industrial model.

As a final note, when we for reasons of intuition and gut reject science – an evidence-based system – I think we are doing a disservice to our future. To question and challenge science in a rational and critical manner is one thing, but to damn it as a pawn of “big ag” is quite another.