Development Bank Research Bulletin

Monetary policy simulation game

Do you want to test your skill as a central banker? The Swiss National Bank -- the central bank of Switzerland -- has created a monetary policy simulation game called MoPoS, and you can try your skills without doing too much damage to our economy.

The game program can be downloaded from here

And an instruction guidebook is also available in a pdf file.

MoPoS (short for: Monetary Policy Simulation Game) is a computer game which lets the player act out the role of a fictitious central bank by implementing monetary policy in a simple virtual economy. The purpose of the game is to give the player a feel for the options and limitations of monetary policy.

There is, however, no connection whatsoever between MoPoS and the monetary policy conducted by the Swiss National Bank.

On the one hand, no special background knowledge is necessary to play the game, which has been designed for interested lay persons as well as pupils and students. Since, on the other hand, it allows the model specifications (monetary policy regulation, parameter values, shock characteristics) to be altered at will, informed users will also find numerous forms of application. MoPoS was developed by former National Bank economist Yvan Lengwiler.

Czech Republic to overtake East Germany in seven years

What could explain why East Germany, with all the rule of law and administrative integrity in place, plus 1 trillion euro of subsidy, is soon going to be overtaken by Czech Repbulic (in gdp per captia) which is plagued by rampant "looting" and "no law and no finance"? Labor market inflexiblity is the key.

The economic transition in the East Bloc is always said to be a failure. Rapid convergence didn’t happen, income level stagnates, reforms and polices are wrong... Nevertheless, to give a fair judgment, we need to find a proper benchmark, because otherwise we don’t know how things otherwise would have evoled.

For Czech Republic, the perfect benchmark is East Germany. Before taken over by the communists, The Czech lands (Bohemia and Moravia) were at similar level of economic development as what later became Democratic Republic of Germany. Four decades later, at the time of communism’s collapse, Czech was poorer than East Germany. East Germany is bigger than Czech (population: 16 million vs. 10 million at the time of transition), but not much bigger. They are not only neighbors, share a lot of historic background, but also similar in industrial structure (as a result of Soviet planning) at the time of transition.

What did East Germany get afterward?  East Germany got pretty good institutions (legal system, political system, business environment) in place in short period of time, , rapid transfer of knowledge and know-how from fellow Germans from the West through training and transfer programs, efficient banking sector as a result of the direct takeover of East German Bank by more efficient Frankfurt banks, and on top of all these, one trillion Euro of fiscal transfer to finance massive public investment in equipment and infrastructure.

With all of these perfect advantage, East Germany was supposed to be converge to living standard in the West pretty soon and further widened the gap with its Easter neighbor the Czech Republic.

In the Czech Republic, in contrast, legal system is not functioning, “looting” was rampant among corporate managers in the midst of mass privatizations, business environment is plagued by corruption and bureaucracy red-tape, inflation was high and fiscal policy was not working for most of the 1990s, financial system was in bankruptcy until foreigners start to take over some of them......and not to forget, there is no "West Czech Republic" that can inject one trillion Euros.

All of these contracts will forecast East Germany’s rapid and certain dominance of Czech Republic in terms of economic growth and rising GDP per capita.

The results in hindsight however contract such predictions made back then. Yes, Now East Germany is still some 15% richer than Czech Republic (note that East Germany started richer), but the trend in the past seven years or so will project that with another seven years, the Czech Republic is going to take over East Germany in terms of GDP per capita, if Czech Republic continues to growth at 3.3% /year while East Germany at 1.0%/year.

The reason, as Professor Jennifer Hunt (McGill University) suspects is rooted in the labor market in East Germany.  East Germans are half as productive as their Western counterparts, but with the slogan “The same pay for the same work” they are demanding the same level of salary.  In 2003, although Eastern GDP per capita was only 67% of the western level, disposable income per capita was already 82% of the western level.  Western firms thus would rather expand their facilities in the West to serve the new consumer market in the East, instead of employ workers in the East.

It is certainly a good and attractive slogan that everyone gets the same pay, but when you are not as good as others (at least at this moment before you go through some skill training), demanding the same level of wage as the smarter people are getting can only give you two results: (1) unemployment; why would employers (except the public sector) want to pay more to get less. (2)  lower paid and dirty jobs that people in the West don’t want to do; so you are segregating yourself by your own decision. As an old communist-era axiom in the Czech Repubic goes: "We pretend to work, and they pretend to pay us". True in East Germany now.

The whole plot was conspired by the labor unions in the West, which got higher wage pact for their comrades in the East. The true intention was to price out East German workers from the market, not to show solidarity!

Reference:

Jennifer Hunt: Is the transition in East  Germany as success?  (pdf file)

What do surveys tell us on how to win Latin America’s soul?

As the Economist magazine features in “The battle for Latin America's soul”, Latin American countries one by one is falling into hands of populists who oppose to economic reforms. It thus becomes an urgent question how market economy and economic reform can win Latin America’s soul again?

Ugo Panizza and Monica Yanez from the Inter-American Development Bank recently published a paper titled “Why are Latin Americans so unhappy about reforms?” in which they looked into the  Latinobarometro survey, which was conducted yearly in Latin American countries since 1996, for answers.

They use the opinion surveys to document discontent with the pro-market reforms. They explore  four possible sets of explanations for this discontent: (i) a general drift of the populace’s political views to the left; (ii) an increase in political activism by those who oppose reforms; (iii) a decline in the people’s trust of political actors; and (iv) the economic crisis.

What they find  is that the macroeconomic situation plays an important role in explaining the dissatisfaction with the reform process, while the other factors are not important. 

Detailed research of the survey data show that even if in 1997 100% of people belong to the center right, while in 2002 100% of them convert to extremist left, the support for reform will only go down by 9%. This means that even such an extreme assumption of drift to the left can only explain one third of the actual drop in support for reforms.

The survey results also show that increasing political activism of the leftists or decline in the trust of political actors cannot explain the drop in support for reforms

The single most important factor is the economy. Drop of GDP growth by one percentage point can reduce support for reforms by 1.1%. In the case of Argentina, growth rate dropped by 21 percentage points  between 1997 and 2002, which would predict a drop in support for privatization equivalent  to 23 percentage point.

In Latin America, countries experiencing crisis usually fall into vicious cycle.  When the economy performs badly or experiences a crisis, it becomes much easier for populists to get into power and halt economic reforms. Without reforms the country cannot gain real competiveness internationally, and the political situation becomes self-reinforcing as the economy deteriorate further (sometimes several years can be saved with high oil price, but then the pain will be felt harder when oil price drops).

Economic and employment growth is the only criteria voters use to evaluate reforms, and they usually don’t give you second chance. Reformists need to think more about the stability consequence of the reforms they propose, because “one strike, you are out”. Better do it slowly but safely.

Reference:

Why are Latin Americans unhappy about reforms?

When labor has a voice, everyone suffers! According to a new research

Michael Moore has long been fighting for workers’ rights to have a voice in managing corporations. “We can do it too!” he always argues.

Professors  Olubunmi Faleye, Vikas Mehrotra, and Randall Morck did a study on the consequence of labor control and paint a rather sad picture for us on what will happen.

They find that:
“Relative to other firms, labor-controlled publicly-traded firms deviate more from value maximization, invest less in long-term assets, take fewer risks, grow more slowly, create fewer new jobs, and exhibit lower labor and total factor productivity. We therefore propose that labor uses its corporate governance voice to maximize the combined value of its contractual and residual claims, and that this often pushes corporate policies away from, rather than towards, shareholder value maximization.”

When labor has a voice in corporate governance, a corporation actually creates fewer new jobs!

This is good for those already in the union shop as their jobs are secure and they don't care about other Americans. But this is absolutely bad and unfair for other hard-working Americans.

Think twice before buying into the idea that all workers are brothers for one another! For unionized workers, the size of the pie is fixed; they will be mad at you when you, a hardworking young worker more eager and better equiped for the job, wants to “steal” their lunch.

Reference:
When Labor Has a Voice in Corporate Governance, (PDF file)  forthcoming in the Journal of Financial and Quantitative Analysis, alos covered by MIT Sloan Management Review

Does the new labor law really harm French youth? Who actually take to Paris streets? The truth is...

French are  taking to streets protesting. Why? They say they are protesting against a newly passed law that gives employers the right to fire workers under the age of 26 during their first two years on the job. They are outraged as it sounds that it gives the right to employers to fire people at their will. For them, it is like “What? You passed a law giving capitalists the right to kill people.....”

What does the law really do?

If I am an employer, and I am (under the old law) not given the right to fire a worker once I hire him; What will I do when making hiring decisions?  First, I am very reluctant to hire any one, as I fear that I may be burdened by him in case the demand for my products turns out lower than expected. Second, I will prefer hire an elder and more experienced worker, as I can know his quality from his previous career. As a result, under previous French labor law that making firing very difficult, unemployment is high and in particular for young people without any working experiences.

The new law is addressing exactly this problem. They give the right to employers to fire young workers under the age of 26 during their first two years on the job. Now I am more comfortable in hiring new and young workers. First, I can hire him when sales are rising and fire him when demands are low. (Note that previous I won’t hire this person in the first place); Second, I am willing to try out a young worker, because compared to an elder worker, it is easier for me to fire him if he turns out to be of low quality.  Thus the law will give many people the change of a first job. This is why the law is known as First Job Contract (The Contrat Premiere Embauche, or CPE)

Many workers are outraged by the word “fire”. But think about it: you can only be fired if you are hired in the first place. If you are unemployed, a law that protects you from being fired is meaningless.  Let me ask you: would it be a great thing if we pass a law permitting people to get anything from grocery stores for free? Isn’t it great? But in that case grocery shops will be empty and shopkeepers will move away and you would starve and cry outside the shops, and the law is meaningless for you. I don’t think I need to elaborate on another example such as passing a law exempting everyone from paying back credit card debts. Does it mean that then you will get unlimited credits from banks?

Why do they take to streets and who are they?!

Now you understand that the law actually helps unemployed young people? But why do they take to streets? French are smart people and they should have already figured out what I say. Yes, they do! And that’s exactly why they don’t take to streets. Ironically, It is another group of people that are protesting, those who are over 26, educated , or unionized. Hey, the “victims” are staying home, why are you instead in such a  hurry?!

As rightly pointed out by a BusinessWeek article,

“The students involved in the most recent demonstrations against the CPE are the ones least likely to be affected by it. That's because university students in France are often nearly 26 by the time they complete their studies. Relatively few would thus fall under the law's purview. Similarly, many of the trade unionists and civil servants protesting the CPE are also unlikely to ever be affected by it because they already have extremely strong job protection. Indeed, the French youth who might benefit the most from the CPE, the immigrant and first-generation youth that burned the suburbs of Paris last year, are rarely seen or heard from in the fevered demonstrations about CPE. "To a certain extent," notes Six, "It's the wrong kids marching in the street."

Now their motive is clear:  it is not about protecting the relatively unskilled young people, it is about protecting their own turf. Under the new law, unskilled young people will be given more chances by employers in trying their first jobs, threatening the job positions of elite college students and trade unionists. When the old law made firing workers very difficult, employers usually prefer experienced workers (who are already unionized) or college graduaes who demonstate their quality by being admitted into colleges and having managed through graduation. Under the new law, everyone is equal, and employers can check out who are of higher quality. Elite college students and unionists do not like this. It's that simple.

It is perfectly understandable that people protest against legislative changes that negatively affect their own interest. But by cheating? By claiming that you are protesting on behalf of those who you actually want to get rid of? Give me a break.

Is Stiglitz more moral than others? Are government interventions really better?

Joseph Stiglitz argues in his book "Globalization and its discontents" that governments under some circumstances (i.e. in the presence of market failure) can improve economic outcome by well-chosen interventions. But how can you be so sure that governments will select “well-chosen” interventions, and who are going to be the judges on what are “well-chosen” and what are not. Theoretically Stiglitz is absolutely right (in that there are market failures), but in practices no one can agree on what are “well-chosen” unless there is an omnipotent angle who can plan our welfare benevelently (but we know that all government officials are human beings!).

In a book review of Stiglitz’s “Globalization and its discontents”, Harvard professor Benjamin M. Friedman very insightfully point out that the main flaws of Stiglitz’s accusation (of pro-market polices)  lie in his selective memory and his ignoring of counterfactuals. Basically, Stiglitz keeps on mentioning several successful cases of economic miracles where government interventions may play a helpful role, while remains outright silent on vast majority of other cases where government interventions created disasters. No one say that market economy is perfect. But as Churchill puts it, democracy is certainly not the best system, but it is at least not the worse. The same logic applies to market economy: when evaluating the outcome of a decision, you ought to assess it in relation to the plausible counterfactual alternatives, i.e. will things get worse or better under an alternative route. Otherwise you may reach a conclusion that all doctors are bad because their patients are all sick. I am sure the patients will not be sick unless they see doctors; they will simply die.

Let me cite some words from Professor Friedman’s book review article, which I like very much:

“A more fundamental problem, as Stiglitz readily acknowledges, is that we cannot reliably know whether the consequences of the IMF's policies were worse than whatever the alternative would have been. Many longtime observers of the developing world will notice that Stiglitz rarely mentions economic policy mistakes that poor countries make on their own initiative. Nor does he pay much attention to the large-scale corruption that is endemic in many developing economies—except in the case of corruption in Russia, where he argues that the privatization program pushed by the IMF opened the way for corruption on a historically unprecedented scale. He also never points out that the typical developing country spends far more on its military forces (to fight whom?) than it receives in foreign aid; yet it would seem necessary to take account of such wasteful expenditures, along with graft in all its forms, if one is to give a clear picture of why the non-developing economies are not succeeding.”

Stiglitz in his book also accuses that IMF officials are insensitive to poor people. He observes that IMF officials tend to meet only with finance ministers and central bank governors, as well as with bankers and investment bankers; they never meet with poor peasants or unemployed workers.

To answer him, let me quote Dr. Gregory House’s famous answer in the TV Series House M.D. , when asked why he never tries to meet and talk with patients (he only make diagnoses based on medical test results. )

He calmly addresses the question: Do you want a doctor who will hold your hands when you are dying, or a doctor who walk away from you when you are recovering?

To solve real problems, good intentions are not sufficient. In many cases, disaster are created by people with good intentions, as well as by hypocritical people who assume they command moral heights. We need someone who exhibit actions in helping poor people, instead of someone who repeats to you day by day how he cares about you and how others do not care about you.

Please also check out my previous commentary on Stiglitz's book review of Friedman's "Moral Consequences of of Economic Growth".

Chinese Dream: inequality of prosperity vs. equality of poverty

There are a lot of concerns about China’s income disparity between costal provinces and inland provinces. Let me show you why we shouldn’t worry TOO MUCH about it (we do need to worry about it though, and we definitely need to come up with solutions; but don’t’ worry too much or go against natural laws).

Some stylized facts for our readers:

50% of World's population and 67% of World's GDP are within 100 KM of an ocean or a river that is navigable as far as the sea. In Japan, 97% of population live within 100 KM of coast. In Europe, 89%, live within 100 KM of coast or ocean-navigable waterway. The ratio is 65% for the United States.

Thus it is natural that income disparity will always exist between costal region and inland of China, because you are naturally disadvantaged if you reside in inland areas.

You will certainly question me: why is the income disparity that huge in China then? Americans residing in inland are relatively poor but the gap is not as large as that is found in China.

The reason is population density. Starting more than 1,000 years ago, Chinese migrated westward and southward for new lands, and eventually the population density in these new-found lands becomes as high as where Chinese were originated. So long as the population density in inland region is higher than what its geography can support, you will have lower standard of living there; At least you have to try much harder.  American inland income level will go down substantially too if Mountains states have to support the same level of population density as in New England. There can only be several Las Vegas.

The only solution to this is migration of labor, as well as increase of accommodation capacity in already densely-populated costal area through better planning.  In Japan, the government does manage to increase population density in Tokyo bay area without compromising too much in environmental protections.

For the past twenty years, high geographic and social mobility in China has been a great weapon in combating poverty and social unrest. 

Believe it or not, most of China’s middle class and new rich were born in inland countryside. They left their stifling hometown and headed for costal cities.  There are few opportunities in inland usually not because of high transport costs. It is more a culture thing, that inland people are relatively isolated and have less exchange with outsiders, as a result, through generation after generation’s cultural reinforcement, they become  less open-minded and less flexible, which is very bad in today’s commercial world.  Many inland Chinese who get successful in cities are unwilling to return because they really hate the gossiping and equalitarian culture back in their hometowns. Such culture really kills talented people.

Some leave by attending colleges in cities, thanks to the standardized college entrance exam which is probably the last area of the system that is not yet corrupted. Even the most totalitarian emperors in Chinese history dared not to abort or corrupt the exam system, because by doing so you are closing the route of social mobility and you are calling for grassroots uprisings.

Those who are less intelligent usually start  as laborers in construction sites in big cites, save some money, start small businesses, grow bigger. They are advantaged because they are more hard-working than those born in cities, and can take any pains in the process (what kind of pains and humiliations can be greater than returning to their hometowns without getting rich)

Whichever routes they take, they settle in cities, and within one generation of sacrifice they place their children on the same starting point as those who were born in cities. We talk about American dream, and this is Chinese dream!

We rarely notice such high social mobility in China because once these country folks settle in cities they blend with the other people and most of them are unwilling to reveal their original roots. Most of them deep down still feel inferior. 

This doesn’t matter though, so long as the system has provided paths for inland people to step up the social ladder.  It is the fact that most senior officials in all levels of government and businessmen in the Forbes list of richest Chinese were born in countryside.

World Bank’s “ World Development Report 2006: Equity and Development” calls for equality, but isn’t inequality of wealth through personal hardworking more beautiful than equality of poverty through government intervention.

World Bank president Jim Wolfonson realizes this too, and write down some important caveats in the introduction page in case the message of the book get mis-interpreted.

"The history of the twentieth century is littered with examples of disastrous policies which were promoted in the name of equity or equality, and the results of which were ruinous. No policy that pursues equity without respecting market-based individual incentives for prosperity is likely to succeed. The joint pursuit of equity and prosperity must therefore be cognizant of the primacy of individual freedoms, and of the role of markets in allocating resources"

What determine turnovers of China’s provincial bosses? Evidence from historical data

It is widely believed that personnel decisions within China’s bureaucracy system are all based on connections, office politics, and dirty techniques. Serious examination of historic data reveals that the system is more sophisticated and meritocratic than it seems to be.

Professors Hongbin Li and Li-An Zhou at the Chinese University of Hong Kong study turnover data of top provincial chief in China between 1979 and 1996, and find that the likelihood of promotion of provincial leaders increases with their economic performance, while the likelihood of termination decreases with their economic performance.

Obviously, the central government uses such institutionalized rule to promote desirable local economic outcomes. They also find that the central government always evaluates the average performance over the provincial boss’s whole tenure rather than the performance in the year when the decisions were made.

GDP-based promotions have the negative side. The fastest way to push up GDP is through public investment, while the last thing you need to care is pollution. This is exactly why the central government is recently emphasizing the so-called "Green GDP".

They published the findings in the Journal of Public Economics, a top journal in the field.

Political Turnover and Economic Performance: The Incentive Role of Personnel Control in China
Abstract: In this paper, we provide empirical evidence on the incentive role of personnel control in post-reform China. Employing the turnover data of top provincial leaders in China between 1979 and 1995, we find that the likelihood of promotion of provincial leaders increases with their economic performance, while the likelihood of termination decreases with their economic performance. This finding is robust to various sensitivity tests. We also find that the turnover of provincial leaders is more sensitive to their average performance over their tenure than to their annual performance. We interpret these empirical findings as evidence that China uses personnel control to induce desirable economic outcomes. Our study adds some basic evidence to a growing theoretical literature emphasizing the role of political incentives of government officials in promoting local economic growth.

Indian state-owned banks introduce performance-linked incentive packages for employees: the true story

According to a report in today’s Business Standard, India’s finance ministry decided on a reform plan to improve efficiency in state-owned banking sector. In the plan, not only the chairmen and executive directors but also ordinary employees are entitled to  performance-linked incentive packages.

“Heads of 29 public sector banks are set to get a performance-linked annual incentive package. Besides, all of them will get a lumpsum ex-gratia payment on retirement, depending on the number of years they put in as directors on bank boards.  Down the line, close to 800,000 employees in the public sector banking industry, too, will get incentives, based on their performance in five key areas.”

Five parameters are considered to determine the size of annual bonus,  which includes “credit growth, deposit mobilization, quality of assets, and recovery of non-performing assets.” (The report mentions only four parameters though).

I don’t think such design can help achieve the efficiency goal.

First of all, credit growth and deposit mobilization has nothing to do with efficiency; to the contrary, for India, faster credit growth and deposit mobilization  in state-owned banks actually reduce financial stability and crowd out efficient investment (as state-owned banks typically use the deposits to purchase government bonds instead of to invest in good projects).

Secondly, the “incentive” package is not linked to individuals’ performance but the performance of the whole bank. No employees will work hard to improve quality of assets or to recover non-performing loans, because (1) if he works hard, his colleagues in all branches across India can free-ride on the results as well (2) if he doesn’t work hard, he can still receive bonus pay so long as his colleagues work hard (3) knowing this, no one work hard.

There are restrictions on the total size of the incentive package: “The maximum amount a bank can pay to employees through this route will be capped at 1 per cent of a bank’s profit after tax (PAT).”  Nevertheless, no details are given regarding what fractions of this 1 per cent will be allocated to ordinary employees. Theoretically, all of them may be allocated to the CEO, which did happen in many corrupted countries when they introduced so-called “employee” incentive package. As a matter of fact, I also notice that: “Financial incentives given to chairmen and executive directors will be outside the cap (1 per cent of PAT) applicable to bank employees.”  Ha, I caught you!

I speculate that the plan is drawn up simply for the purpose of legally tunneling money from the state treasury to chairmen and executive directors of state-owned banks.

No regulations are unbeatable, not even China’s one-child policy

Economists have long told us that people respond to incentives! Given proper incentives, you will be amazed by the kind of genius solutions people can come up with. No regulations are unbeatable, because the people and businesses you are regulating are always more-motivated than employees in regulatory agencies, and they will always be able to find some ways to avoid the regulations. Sometimes, it takes the form of bribery, in the others genius and absolutely legal solutions.

China: Drug bid to beat child ban
SHANGHAI, China (AP) -- More Chinese women are exploiting easy access to fertility treatments to skirt China's one-child limit, leading to a boom in numbers of multiple births, an official newspaper reported Monday. The main pediatric hospital in the eastern city of Nanjing recorded 90 births of twins or triplets last year, up from an average of 20 in past years, the China Daily said.

Genius solution notwithstanding, Isn’t it better for people to spend their time and talent in more productive activities (well, certainly having more children is also a “productive” activities) than in avoiding regulations.

Wherever there is a regulation, there is always some way to circumvent it, and this is how tax codes in the United States accumulate to thousands of pages of long, and Americans wastes tens of billon of dollars just to avoid them. By some estimation, it is actually better off for the society if American tax officers are corrupted because you may spend less money bribing them than hiring tax advisors, and in both cases American government won't recieve your money anyway.

Raghuram Rajan on Chinese financial sector reform

Related to IMF China mission chief's remarks on Chinese reform priorities, Raghuram Rajan also made similar statements one week earlier (Jan 8, 2006) at the American Economic Association (AEA) meetings.

The title of the speech is "Financial system reform and global current account imbalances". The title is not about China, but the whole speech is centered on China's financial sector reform. As a matter of fact, AEA later invited Dr.Rajan to, based on his speech, co-write a policy article with former IMF China mission chief Eswar Prasad, titled "Modernizing China's growth paradigm", to be published in May issued of American Economic Review. Looking forward to reading it.

Some background reading:
(1) Raghuram Rajan: "China's Financial-Sector Challenge", at Financial Times (May 10, 2005)
(2) Eswar Prasad: "Next Step for China: Why financial sector reform is a crucial element of a long-term growth strategy", Finance & Development (September 2005 issue)

By the way, Dr.Rajan was invited by Chinese National Development and Reform Commission (a government agency in charge of economic reforms) to make the same speech to Chinese officials in July 2005. Chinese are keen in hearing different opinions, however harsh they may be.

I am not that lucky. Since some time ago I have not been able to post any comments on an Indian economy blog. Maybe I shouldn't have criticized India for her mounting government debt. I am still reading their blog though, because I find a lot useful information in it. Why reject information?

IMF mission chief for China: Rebalancing economic growth in China

Found this recent commentary by Steven Dunaway and Eswar Prasad titled “Rebalancing economic growth in China” (Jan 11, 2006). It also appeared as an op-ed on International Herald Tribune.

Nothing unusually new, but it is good to hear them from IMF mission chief for China. I like the article very much because (1) it is a rather comprehensive list of priority items; (2) it is a list of priority items ONLY.

It is too easy and tempting for policy economists to come up with a laundry list. With limited resources and political capital, however, you better focus on priority issues only.

Clearly China has reached a stage when structural reforms have to be carried out.

Several main points they made are summarized as follows:
(1) "Rebalance the economy away from heavy dependence on exports to lead growth towards self-sustaining domestic demand, including a substantial improvement in the efficiency of investment" (READ THIS TWICE, IT IS VERY IMPORTANT)
(2) Develop a broader-based, well functioning financial sector to make best use of the huge amount of savings! It is a key priority!
(3) Increase flexibility of exchange rate regime to provide more scope for monetary policy independence, as well as to bolster household’s real incomes.
(4) Provide better education, health care and pensions, to reduce uncertainty and precautionary savings.

References:
Prasad and Rajan: China's financial-sector challenge
Prasad: Next Steps for China

Raghuram Rajan: India, the past in its future

I have to recommend to you this excellent speech made by Raghuram Rajan (Economic counselor and director of research, IMF) at the Forum for Free Enterprise (Mumbai, India, January 20, 2006). The title of the speech is: “India: The past in its future”

In this speech, he analyzes India’s past experience, current problems, and solutions in a very insightful way.  Dr. Rajan loves India, has the knowledge and intelligence to serve the country, but I wonder how many politicians in India will truly buy his ideas. He says the reason he left engineering and even the country was partly because the economic environment in India at that time simply did not need the creativity and the innovation that he brought to the table.  I am not sure even after so many years have passed whether Indian politicians and bureaucrats will need him in the near future, for his economics expertise.

Some excerpts from the speech are given below. More technical-minded readers also can read this academic paper co-authored by Dr. Rajan, which I believe provides some background analysis behind the speeach. The paper is titled "India’s Pattern of Development: What Happened, What Follows? "

“Because employment was so important for India, encouragement was given to small-scale industries by reserving specific areas of production for them. But because firms could not grow to efficient scale, production was unprofitable, so few jobs were actually created. Government sought to protect unskilled labor in large firms—for example, through laws against firing. But this again meant that large firms stayed away from labor intensive industries, so fewer jobs were created. Moreover, firms resorted to temporary workers or stayed small so that labor laws did not apply. In short, labor laws neither led to the creation of more jobs, nor to the protection of most workers.”

“Similarly, if the goal is to improve primary education, we should avoid the knee jerk reaction of throwing more resources at the problem. We should ask why on any given day in a government school, only 25% of the teachers are playing truant, why at any given time only 45% of the teachers in a classroom are teaching, why the poor are willing to pay hundreds of rupees per month for a private school while avoiding the free government school across the street, and why a private school teacher shows up to teach as often as the government school teacher even though his pay is one fourth to one eight that of the latter's. Government has to understand how to improve incentives better before throwing more resources.”

The link between racism and trade protectionism

I love reading Harvard professor Niall Ferguson’s books and articles. He is such a library of history that he can always inform current affairs with similar historical lessons. Many of us rarely realize that history always repeats it self and human beings are very forgetting, and this is why we keep making similar mistakes.

In a recent article “We may have no ghettoes – but Britain must beware the paradox of integration”, he tells us why integration and prosperity of minority groups may not bring peace but disasters to them. 

Through his analysis, I find the true root and reason of  rising trade protectionism and politician hawks’ hysterias in coining “China threat” (note: this is however my own extension of Prof.Ferguson's theory, and he didn't talk about trade protectionism in that article)

“Successful racial integration - whether in the housing or the labour markets - can in fact have precisely the opposite effect, paradoxical though that may seem. Here's how.

A century ago, hundreds of thousands of Jews migrated westwards from Russian-occupied Poland and Ukraine to escape from discrimination and pogroms. Many settled in Western Europe. There they thrived, quickly leaving behind the slums where they had first settled. By the early 20th century the sons and grandsons of immigrants were prosperous businessmen, professionals and academics.

Another indicator of integration: more and more Jews married non-Jews - by the early 1930s, for example, one in every two marriages in Hamburg involving a Jew was to a Gentile. So total was the assimilation of German Jewry that religious leaders feared their community was simply going to dissolve itself.

Yet within a decade, dissolution had given way to the "Final Solution", as first Germany and then all of Continental Europe was gripped by an extraordinary anti-Semitic backlash.

The Holocaust was, of course, a unique historical crime. Yet its underlying cause - a violent reaction against the apparently successful integration of an ethnic minority - was far from unique.

This is not to predict either Nazism or Balkanisation in Britain. But it is to point to the dangers of a comparable kind of backlash against integration. Because for every success story like the academically ambitious Anthony Walker, there are at least two - and probably more - white losers.

Ill-educated, unskilled and probably unemployed, Britain's white losers ought to blame themselves (or possibly their elected leaders and negligent parents) for their plight. But it is much more convenient for them to blame the hard-working offspring of immigrants, whose achievements contrast so starkly with their own. Their resentments are likely to be inflamed by the sight of a non-white man with a white woman, since sexual jealousy nearly always plays a malign role in crises of integration. It certainly did in Nazi Germany.”

Was there a corporate governance failure in Asian financial crisis?

Till these days, I am still not very sure whether the largest problem in Asian financial crisis is corporate governance failure. If the goal of corporate governance is to maximize shareholders' profits, then I think we had very good corporate governance back then.  The losers in Asian financial crisis were creditors, depositors, and taxpayers, none of them are whom corporate governance is supposed to protect. So it was more a government failure, as it is the government's job to protect taxpayers and creditors.

Let’s not confuse between corporate governance and corporate operation. For example, below I cite some statement by ADB.  They seem to be blaming everything on “corporate governance”, but they are actually talking about financing decisions, which is about how a corporation is operated.

“The high level of nonperforming loans among banks and the over-reliance of the corporate sector on them reflect both weak governance and the lack of alternative financing sources to banks.”

Well, how could choice of capital structure be directly related to corporate governance?? We can call it a bad finance decision in hindsight, but  at that point in time, when short-term debt was cheap, it was absolutely in the interest of shareholders to choose such capital structure.  Mismatch of maturity and currency structure in borrowing was key in bringing down Asian corporations. But this is about risk management, not corporate governance.

Cronyism lending is certainly bad. But from the perspective of shareholder in the borrower firm, it is good corporate governance that the firm borrows from connected banks at favorable terms, because it maximizes the profit of shareholders in the borrower firm, although to less extent for minority shareholders.

Even shareholders in the bank benefit, given that depositors, and ultimately taxpayers (when government bails out failed banks)  bear the cost of banking failure, while shareholders may well enjoy higher return had the banks not failed.

If we establish that corporate governance is about the interest of shareholders, then Asian financial crisis is a state failure, not a market failure created by the corporate sector.  The reason why minority shareholders are willing to participate is exactly that they expect they can still extract rents from other parties even after expropriated by the majority shareholders. Thus the greatest problem is transfer of wealth from consumers, potential competitors etc to the listed companies.  And even if the corporate governance is perfect, this benefit transfer will continue, because it is to the interest of shareholders to use political connection to gain benefit for the firm. When corporate governance is weak,  majority shareholders get larger share of the pie, but minority shareholder also benefit, though to lesser extent, otherwise they wouldn’t  have participated in the first place.

If anything about corporate governance has to be done at all, it is about the corporate governance  of banks and financial institutions, not the non-financial corporate sectors. I however won’t call this corporate governance reform, because such reform is about better protection of depositors and taxpayers, who are not shareholders.

For the corporate sector, the problem is  more about the risk management technique. I am sure controlling shareholders have best incentive to adopt good risk management, if they know that corporate failure may trigger nation-wide crisis and no one (including themselves) can escape. I still have strong belief that no incumbent would try to sink their own boats even when they have their own life boats. You still lose a lot, although less than the costs incurred by minority shareholders. It is common knowledge that, when the economy is in turmoil, political powers are more likely to change hands, and no incumbent will like to see it happens, let alone creating it on purpose. The crisis was unexpected for them too.

South Korea: an economic superpower in the making

The rise of India has long been attracting economists’ attentions, but very few people realize that in one or two years of time South Korean economy will exceed the size of India.

Despite South Korea’s astonishing achievement in raising its per capita income, in the perception of  many people S. Korea is just another  rich but small country like Singapore, and only draw our  attentions because the troubles of her Northern neighbor.

We haven’t’ realize that she is actually a very populated country, and an economic superpower in the making.

If you are Luxemburg, no one care whether you are rich or not. But we are talking about a country of similar population size as France! And with similar income level as Portugal! And unlike Portugal, it is a very innovative country by the way! By the way, Korea still invests 30% of its GDP, a ratio that is close to China's (40%); and all countries with higher investment ratio than Korea's are poor countries.

Unlike Taiwan that make profit by exploiting cheap labor in China  , South Korea has been manufacturing products under their own global brand names such as Samsung.

Professor Hasung Jang , Dean of Korea University's Business School, who was named Star of Asia by BusinessWeek for his contributions in reforming Korean corporate sector, is very proud of his country’s great industrial competiveness and potential:

“Korea is the only country that boasts of competitiveness in many manufacturing sectors, including automobiles, electronics, steel, shipbuilding, petrochemicals, and IT. It is hard to find a country that has competitiveness comparable to Korea’s. Therefore, we have to make good use of these excellent advantages and draw up growth strategy in this knowledge-based economic era.”

Please imagine a France rising up in East Asia, it is difficult, but try.

Japan has less than three times that of South Korea’s population, and every international  investment bank has a region called Asia (excl. Japan),  I wonder whether in 20 years time we will have a region called Asia (excl. Japan and South Korea)

I would like to refresh you with some basic facts that many of us usually haven’t realized:

(1) South Korea’s population is nearly 50 million. To put this number into perspective, France has a little more than 60 million, and Japan has less than 130 million.
(2) South Korea is the 12th largest economy in the world. By the end of 2005,  at market exchange rate, Korea’s GDP is 726 billion USD, while India’s is 735 billion, and Russia 740 billion. I would say the gap can well be due to estimation errors.
(3) They’ve been through economic crisis and political transitions. Unlike India and China that are still addressing easy problems, Koreans have gone through the tough times, endured the short-term pains, became a democratic country, and further increase of income is just a matter of time.

To Professor Hasung Jang, the big problem is whether the political leadership of the country can make best use of his country’s advantage:

“It seems that the confrontation between conservatives and liberals is getting worse. But what’s more worrisome is that rightists, who are accustomed to the government-led economy and chaebol dominance, and leftists, who are insensitive to global trends, are managing the economy in a manner that runs counter to the global trend,” he said.

Well, at least in Korea political parties try to differentiate themselves in economic policy, whereas in Taiwan no one can win on the platform of better economic policy. Taiwan has one advantage though: they don’t have militant leftists.

For more information on Korea, check CIA factbook

New theory: Language is your destiny

Lee Kuan Yew (former PM of Singapore) says “Culture is your destiny” , does he say it in English, Chinese, or Malay? Does this really matter?

It does! Amir Licht, Chanan Goldschmidt, and Shalom Schwartz at the Hebrew Univerity of Jerusalem operationalize culture with data on cultural dimensions for over 50 nations adopted from cross-cultural psychology, and find that culture predicts the institutions you adopt.

Most interestingly, they find that whether the language you speak allows you to drop pronouns determines you culture, and in turn the governance structure of your country. For example, if your language allows you to omit ‘I’ , it reduces the conceptual differentiation between person and context, and the culture should emphasize little about uniqueness of an individual, i.e., it is a collectivism society.

Indeed, when Lee Kuan Yew makes his decisions, he rarely thinks it is his decision, but Singapore’s decision. When you are his enemy, you are Singapore’s enemy.

Culture Rules: The Foundations of the Rule of Law and Other Norms of Governance
Abstract:      
This study presents evidence about relations between national culture and social institutions. We operationalize culture with data on cultural dimensions for over 50 nations adopted from cross-cultural psychology and generate testable hypotheses about three basic social norms of governance: the rule of law, corruption, and accountability. These norms correlate systematically and strongly with national scores on cultural dimensions and also differ across cultural regions of the world. Regressions indicate that quantitative measures of national culture are alone remarkably predictive of governance and that economic inequality and British heritage add to predictive power. Instrumenting culture with a linguistic variable on pronoun drop yields consistent results, indicating a significant influence of culture on governance. The results suggest a framework for understanding the relations between fundamental institutions of social order as well as policy implications for reform programs

Pro-business or pro-market: Which works in India?

In the latest issue of IMF Staff Papers, Dani Rodrik and Arvind Subramanian at IMF argues that the pro-business attitudinal change in the 1980s instead of the pro-market reform in the 1990s contributed to India’s growth acceleration .

From "Hindu Growth" to Productivity Surge: The Mystery of the Indian Growth Transition

Abstract: This paper explores the causes of India's productivity surge around 1980, more than a decade before serious economic reforms were initiated. Trade liberalization, expansionary demand, a favorable external environment, and improved agricultural performance did not play a role. We find evidence that the trigger may have been an attitudinal shift by the government in the early 1980s that, unlike the reforms of the 1990s, was probusiness rather than promarket in character, favoring the interests of existing businesses rather than new entrants or consumers. A relatively small shift elicited a large productivity response, because India was far away from its income-possibility frontier. Registered manufacturing, which had been built up in previous decades, played an important role in determining which states took advantage of the changed environment.

T.N. Srinivasan at Yale University is not at all convinced by the argument, and makes some harsh critics.

This is a disappointing paper. It sees a mystery and fails to convince through analysis why it does. Had the authors been familiar with Indian economic literature, they might not have written it! The literature has not only noted the growth acceleration in the 1980s but has also questioned its sustainability on the grounds of its possibly being debt-led and fueled by employment and real wage expansion in the public sector.

Dani Rodrik and Arvind Subramanian strike back and it seems that they do have a point.

How many analysts seriously believe that the Asian financial crisis of 1997–98, arguably much bigger in magnitude than India's in 1991, proves that the rapid growth of Republic of Korea, Thailand, Malaysia, and Indonesia in the decades prior was unsustainable? And we have seen few analysts arguing that the crises in Latin America (Mexico in 1994, Argentina in 2000, or Brazil in 1998–99) call for a change in the market-based reforms preceding the crises on the grounds that they were unsustainable!

Why is India’s financial system less solvent than China’s?

First, I have to make it clear that, I am NOT saying that (1) India’s financial system is insolvent, or (2) China’s financial system is solvent. I am only arguing that India’s financial system is less solvent than China’s, i.e., you should worry about India too if you think China’s financial system is in big trouble.

There is this popular view that India is blessed by a sound and efficient financial system, while China will be troubled by the huge amount of non-performing loans sooner or later.

It is however not clear whether India’s or China’s financial system has greater amount of “non-performing assets”, because financial system is consisted of both the banking sector and the government public finance system.  Chinese banks have to assume some public finance roles and fiscal functions, while India parks all bad assets in the government’s public finance balance sheet. We thus need to take into account India’s bankrupt public finance system when we compare China and India’s financial systems.

In the early stage of China’s economic reform, in order to increase the efficiency of distributing resources, part of the government’s fiscal function was transferred to commerical banks that were spinned out from the planning-era mono-bank. Before the reform, there were no commercial banks, and planning commission of the central government was in charge of disbursing all investment funds.

Certainly state-owned banks are less efficient than private-sector banks, I don’t deny. But this move was an improvement of efficiency for public finance, which is also part of the financial system.  Later empirical studies show that state-owned banks distribute resources more efficiently than government agencies, partly because there are four state-owned bank of equal size operating nationally that are competing with each other.  Most of the non-performing loans were accumulated in this transition period. Argubaly, the other option at that time was to park these liabilities direclty in the government’s public finance balance sheet. This option is choosen by India.

In India, banks are not asked to assume these fiscal functions (burdens) as Chinese banks are, and thus the banks are much healthier. But we have to understand that bad "white elephant" projects are still there. They have to be financed by someone. They are financed by the government, directly. These "non-performing" liabilities don’ disappear, they are simply moved from the balance sheet of the banking sector to the balance sheet of the government’s public finance.  When an Indian PSU wants funding, the government borrows money and the liability is in the government’s balance sheet.  I don’t think PSU sector in any time soon will return large amount of money to the government, and I thus can assume that all the investment in PSUs by Indian government can be defined as “non-performing” if we think of the government as a “bank” that pursues profits

When we evaluate the health of India’s financial system, we have to evaluate the system as a whole, not only the banking system, but also the public finance system.  India’s public debt is more than 80% of its GDP. If Chinese government leverages its public debt to this level, she will have more than sufficient funds to write off all non-performing loans in state-owned banks. And it is legitimate for the government to do for she is the lender of last resort.  This is why depositors are still pouring more money into the system.  For India, the risk is in the balance sheet of the government, and IMF is her lender of last resort.

The reasons why India’s financial system is less solvent than China’s are that (1) when public finance and bank finance is combined, India’s balance sheet is more leveraged; (2) Chinese banks, although much less efficient than Indian banks, allocate resources better than Indian government; (3) India has a bigger public sector, more aggressive and less responsible fiscal policy;  (4) It is not clear whether IMF will bail out Indian government in a prompt fashion when she declares bankruptcy, while Chinese government will certainly bail out her banks as their is concensus that the banks have suffered for the government and it is time for paying back now that the government is flooded with tax revenues that are rising +20% yearly.

Note:   I don’t deny that China’s banking system also is in big trouble. How to improve efficiency of Chinese banks is an extremely difficult task.

The case for having “stupid” banks

Russians bankers are very smart, and thus they will never lend for your business investment (except in resource extraction industry, where it is easier to collateralize you revenues). They know very well that if they do they will end up with a lot of non-performing loans for sure, being aware of the unmatched skill of Russian borrowers in cheating. But is this what we really want? A stable but non-lending banking sector? Why don't you just use your own piggy bank! If they are not performing their roles, why do we care about how stable they are and how low a non-performining loan ratio they've achieved?

Banks not investing enough in economy

Bank credits only account for 7%-8% of total investment in the country and 2%-3% of that are foreign bank credits, he said at a banking conference in Yekaterinburg on Friday. "This is a very small investment in the development of the Russian economy and such a situation needs to changed at the root," he said.

MOSCOW. Jan 27 (Interfax) - Russian banks are not investing enough in the country's economy, Deputy Central Bank Chairman Gennady Melikian said.

China has a huge banking sector, with a lot of non-performing loans. I however argue that, to promote economic growth in a mid-income developing country, it is better to have a Chinese banking sector than to have a Russian one.

Let me explain why non-performing loan is NOT a problem.

When you get bad loans, it doesn’t mean that some wealth is burned away.

Let me give you an example: I have one apple, and I decide to loan it to you and you promise to return two apples to me at the end of the period. You plant the seeds (let’s assume for simplicity that you cannot eat the apple without destroying the seeds), and grow an apple tree with four apples in the tree. Then, either (1) you harvest them and run away from me (i.e. corporate governance problem) (2) Your neighbors come at night and quietly eat them all (business environment problem) . Either way, the result is that I have bad loan, because you don't return apples to me as you promised. But for the society this “project” produces four apples of benefit out of one apple. Remind you that even it the case that you neighbors steal and eat the apples, the society benefit as your neighbors are part of the society too.

However, if I decide not to loan you the apple, but eat it (with the seeds), there will be no bad loans, but no benefit for the society, either. This is what happens in Russia, India,Mexico, etc , where the banking sector doesn’t lend to any risky (but socially productive) investment projects. No one lends, and no bad loans for sure.

In China , however, government-owned banks are “stupid”. They build roads, power plants, steel plants, etc, and somehow borrowers always manage not to pay back the loans, and the banks have a lot of bad loans. But it doesn’t mean that these roads and plants just vanish. The social value of these big projects may be very positive. And as a matter of fact, most of the government-directed investments are put into infrastructure or heavy industries; the tasks are so well-defined that even inefficient SOEs can deliver the projects without wasting too much money (well, they certainly waste a lot of money)

Most private enterprises in China “steal” well-trained engineers and technicians (who bring with them the core techonology too) from SOEs, and some even “loot” the SOEs for machines, but these engineers and machines do not disappear from the economy although they are recorded as loss for the SOEs. So all of these bad loans are just something on the balance sheet, whose share will mechanically shrink as the economy grows bigger.

Finally, I have to remind you that most of China's non-performing loans are the results of policy lending, which means that the state-owned banks are taking away some fiscal burdens from the government. In India, non-performing loan ratio is low, but the government accummulates huge public debts to finance projects that if put into private banks' loan portfoilos will in all cases become "non-performing loans". If you accuse these projects to be unproductive, then they should be unproductive no matter whether they are in banks' portfolios or in government's portfolio. As a matter of fact, Chinese banks allocate resources better than their Ministry of Finance, and thus letting the state-owned banks to perform fiscal role is definitely efficiency-improving.

Smart private sector bankers will shy away once cheated, but stupid state-owned banks will just keep on lending. Sometimes a little bit stupidity accidentally leads to better results. Wright brothers were stupid; Thomas Edison was stupid too.... A smart banker should never listen to Wright brothers, and should never have lent to Delphi, Visteon, Ford, GM.... well, there were no defaults in primitive age when people only bartered...

China to learn from Korea's New Village Movement (Saemaul Undong)

New Village Movement (Saemaul Undong) was Korea’s big government-led plan of modernizing the countryside launched in 1971. At that time, fast industrialization had created a huge gap between urban and rural area, and something had to be done. Koreans couldn’t address the problem better. Huge infrastructure expenditure in the rural area made use of excessive supply in building material industry, improved welfare of rural people, fostered civic participation, calmed down unrest, and created new domestic demand. The government planed the basic infrastructure, but also provides funding and building material for projects drawn up by villagers themselves, which is exactly what we now call public-private partnership.

China’s situation now is similar to Korea in the 1970s, and indeed they are sending  people to Korea to study the experience of New Village Movement, and they are determined  to copy it.  If China could create demand from inside (currently most of the growth depends on exports) ,  I believe China as a large economy can keep its fast growth for the next 20-30 years to come, as domestic demand once created  is self-sustaining.

Fix Mexico's banks, not China's

It always puzzled and shocked me that some Latin American and Eastern European countries have private credit to GDP ratios of merely some  30%.  What can you do with so little credit? It is barely enough to sustain basic investment given some reasonable assumption of asset-to-GDP ratio.

I notice that bank in Asians' definition is quite different from what people outside Asia define banks.  In Asia,  bank lending strikes you as commercial and industrial (C&I)  lending that finance purchase of equipment and building of factories, while outside Asia banks focus on mortgage and consumer lending, and seldom go beyond working capital financing when they lend to businesses. So Asian banks are actually development or long-term credit banks in Western definition, and certainly we cannot evaluate their performance based on the same safety requirments, if we want them to promote economic growth. Development banks will certainly be more leveraged and have higher NPL ratio as they lend to risky long-term projects. In the meantime, in Asian's definition, many Latin American countries don't have a banking sector at all, if only bank lending that finance future growth is counted as banking.

Here comes the trade-off between stability and economic growth.  I assume that it is C&I lending that really matter to economic growth. If banks never finance equipment purchase or long-term investment, then they are stable, but in the meantime they are not really doing their bit to the economy.  This is why Mexican banks are in relatively good shape now in balance sheets. In China, lending has historically been 100% C&I loans, while in the United States C&I loans account for only 15% of banks' loan portfolio. Certainly NPL ratio will be higher if you do C&I, but we have to understand why we need banks in the first place when it comes to development: we first want them to do C&I so as to promote economic growth, and then come in the second requirement that we want them to stable.  Stable banks that don't do much C&I lending is no better than "narrow banks".   10% C&I loan ratio is good for the U.S., because academic studies  show that at this very mature stage of development the overwhelming sources of financing for U.S. big corporations is not external finance, but  internal cash flows (i.e., the old money). This however doesn’t  work for developing countries.

Inefficient allocation of funds is certainly one main reason why non-performing loan ratio is high, but high NPL ratio only means that the private benefit of the failed projects are negative, the social benefit could still be positive. For many developing countries, it may not be profitable to invest in roads, dams, power plants, etc, but there is no question that the society’s benefit is far higher than the cost. In China’s case, the high NPL ratio is more a result of banks sharing some fiscal burden with the cash-constraint government at the beginning of the reform. Also, after reforms, some fiscal expenditures are no longer allocated by the bureaucracy  system, but through the banking system (which I admit is certainly also heavily influences by the government.)  Research however shows that Chinese banks allocate funds more efficiently than the governments. Certainly, they are still very inefficient, but please compared it to the alternative that the government would allocate the funds, and please take into account the stable fiscal stance in China as a result of this transfer of duty to “private sector”.

What happens in many countries is that, when we emphasize stability (particularly after crises) , many banks switch completely to residential mortgage, consumer, and working capital lending, which also help reduce their risk-weighted assets defined by Basel Capital Accord. But then they are not banks anymore, in the sense that real banks should do C&I lending and finance expansion and growth of the industrial sector.  When banks are privatized they will certainly switch immediately to mortgage and consumer lending, which are same and sometimes also very profitable, and you don't have a real banking sector anymore to achieve poverty-reduction goal.

Maybe Singapore's Temaesek with DBS bank is solution struck in the middle?  Let the private sector do what they want to do (montage, consumer and working capital lending), and let the public sector do what public sector should do (long-term credit). State-owned banks can be very inefficient, but it is still more efficient than letting ministry of finance to directly allocate long-term credits.

Income inequality in Washington D.C.

Within the Washington, D.C. metropolitian region, for each mile travelled from Southeast Washington (a poor area) to Montgomery County in Maryland (a high income area), life expectancy increases about 1.5 years. Between them, there is a 20 year difference in life expectancy.

According to Harvard professors David M. Cutler and Edward L. Glaeser, it is the Potomac River (which cuts through Washington) that causes the lower living standard in the southeast part of the city. In their paper "Are ghettos good or bad?", it is found that ghettos are more likely to be formed in cities with rivers because the rivers facilitates the segregation of Black neighborhoods from White neighborhoods, and segregation creates worse life outcomes for the Black, in schooling, employment and single parenthood.

Thai Prime Minister's own 96-hours live reality show on poverty reduction

Thai Prime Minister Thaksin produced a live 96-hours reality show in which he is the main actor, with  cameras followed him throughout the countryside of Thailand.  The billionaire politician slept in a tent between visits to villages in the northeastern province of Roi Et, where the average monthly income is about 2,700 baht (US$68; euro55).

Thaksin claims that the main target audience of his show is his government officials, not the public. He wants to show the bureaucrats  how to help the poor.  Many however believe that he is using the show to recovery public support to him which is waning recently.

The response from the public however is very negative. According to a poll, over one-third of the respondents thought that the round-the-clock live broadcast would be “staged” . A local resident told journalists from Strait Times: “ When I woke up this morning, I couldn’t recognize the road in front of my house. They have been paved overnight although no government officials cared about it in the last decade”

Lee Kwan Yew: Confucian model won't work for India

Mr. Lee is a very frank. In an interview with Joshua Cooper Ramo (who named the so called "Beijing Consensus"),  Lee Kwan Yew repeats his “culture will determine your fate” theory. Many Indians may feel offended by his assertion, because Mr. Lee is implying that, maybe, Indians are not hard-working enough?

“It’s more applicable to Vietnam than to India. The Indians haven’t got the Confucian culture. Without being imbued in a culture that enjoins you to endure hardship and have the stamina to struggle on in a cohesive society where the individual subsumes himself for the benefit of the family and his society, it’s difficult to expect that degree of sacrifice.”

Well, overseas Indians certainly are unusually hard-working, but foreign investors generally find it difficult to set up sweatshops in India (although sometimes the conditions are already quite good... Come on! You are in a developing country, what luxury do you expect!) . How can economic growth come without sweat? I always question.

Amartya Sen is very critical of Lee Kwan Yew (see What Lee Kuan Yew and Li Peng don't understand Asia). I have to  say that Lee could be a little too pragmatic and “growth-centric”, but Sen is certainly far too idealistic (in the sense that his theory can be applied only when angles govern)

For those who are interested in Beijing Consensus, you can find the introduction in http://fpc.org.uk/fsblob/244.pdf   . I have to remind you though, that I think it is rubbish.

You may find that my own position in this article is pretty vague. Well, it is a sensitive subject.

The Moral Consequences of Economic Growth

Recently I read this book review by Joseph E. Stiglitz on Benjamin M. Friedman’s book “The moral consequences of economic growth” . I find some of his views contrasting each other.

For example, he recognizes that there are priority and trade-off in setting targets. I agree.

“Brazil, for example, must choose whether to use its limited health budget to pay full-market price for AIDS drugs; some AIDS victims may live as a result, but people in need of other health care will die, because money that could have been spent on their needs is simply not there.”

But then when he criticize Friedman, he forgot what he has just said

“There are three fundamental flaws in this analysis. The first relates to the definition of poverty. As the World Bank has emphasized at various points, poverty is not just a matter of income; insecurity and voicelessness are also part of its profile. Friedman's analysis completely ignores these other dimensions.”

Hey, certainly dignity is important for poor people too, but when they are starving, they want food more than preaching from Prof. Stiglitz. Do you still remember the Brazil example you just used?

He then wants to tell us that GDP per capita is not important.

“Consider the following thought experiment: If you could choose which country to live in but would be assigned an income randomly from within that country's income distribution, would you choose the country with the highest GDP per capita? No. More relevant to that decision is median income (the income level that 50 percent of the population is below and 50 percent is above).”

I like this thought experiment, I always cite it too. But the example he gives exactly contradict his theory. GDP per capita is not important? I bet no one will prefer born in Uganda than in the United States. People from Uganda will find slums in America looks like heaven. Average level of living standard is still important after all.

And then he cites the declining median income in America to show that growth may not benefit the poor. I saw this number in many blogs recently. I don’t have any sympathy toward this.

“As the income distribution becomes increasingly skewed, with an increasing share of the wealth and income in the hands of those at the top, the median falls further and further below the mean. That is why, even as per capita GDP has been increasing in the United States, U.S.median household income has actually been falling”

Eh, lazy people,  don’t blame others, if you keep skipping schools, if you keep spending more time watching MTV channel than reading your science textbook, if your life goal is to act very “cool”,  why do you think you deserve much higher pay than your counterparts in developing countries who are more "boring" than you are? When you are fooling around, other people are studying, other people are working hard; the society is very fair to you. No pain, no gain, that's always true!

Largest consumer credit database in the world!

comes from the most populated country, not surprsingly. This will greatly improve the infrastructure for consumer lending in China. Banks are willing to lend to personal consumers only when (1) they can control the credit risk (2) the cost of checking credit is low.  Good news to consumers!
Consumer lendings, including residential mortgage lending, are much safer than commerical and industrial lendings. To reduce non-performing loans, Chinese banks have to rebalance their portfolio and increase the share of consumer lending, there are simply no other ways. So this is a good news for investors of Chinese banks, too.
A centralized state is sometimes a great advantage in getting such huge project done within a short period of time. Several years ago, Citigroup was trying to build their own consumer credit database in China. Don't know whether they are still continuing developing their own system.

China's central bank launches personal credit information database

BEIJING (AFX) - China has launched a national personal credit information database, in another step towards reforming the country's financial system, the central bank said. So far, this system has covered every commercial bank in China and some of the rural co-operatives, with 340 mln individuals in their records, the central bank said. At the end of 2005, the database had recorded 97.5 pct of total outstanding consumer loans, it added.

What's Deutsche Bank's philosophy in Growth?

The text at the end of this post is taken from Norbert Walter's speech at the American Chamber of Commerce, Cairo, when discussing prospect of Egypt. Egyptian economy is certainly not interesting (well, I don't deny that Egypt already has all the elements needed for economic growth. Why does't Egypt grow? I really dont' know) , but I guess Mr Walter was simply using it to illustrate DB's philosophy in what determin prosperity of a nation.

Combined with what I read from DB's other recent reports in relation to their Global Growth Centres 2020 project (which is similar to Goldman Sachs's BRIC), it is very clear that DB believes in two things (because investment is endogenous, and he mentioned enviroment for political correctness reasons):
(1) Demography: younger nations grow faster
(2) Trade: open economies grow faster

These seem not very surprsing arguments. It doesn't take a large team of DB economists to show this. I read the message differently though: I think what DB wants to say is NOT that these two factors are very important, but that the other factors (that he didn't mention) are NOT important. That is to say, don't care about other risks (political or financial),  go forward and invest in China and India.

What makes a country grow?  (by Norbert Walter, Deutsche Bank)

In DB Research's Global Growth Centres project, we have analysed the factors that determine a country's growth prospects.
First, in the medium to long term the dynamism of a society is decisively influenced by its demography: by the development, size and age structure of its population. In this respect, it seems that today the world is split in two parts: one part ageing, with population growth declining or even becoming negati