To inform, confuse, and enlighten; in economic matters as well as philosophical ones. Jørund Aarsnes and Stephan Jensen write on economics and the human condition.
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Category — Growth

The Future of Capitalism (and economics)

The opening session today in the ongoing OECD Forum 2010 was on the future of capitalism, where economic historian Anatole Kaletsky argued that “we’re entering a new period of pragmatism, when ideology will give way to a more “common sense” approach.” Arguably, this is not such a radical notion; the financial crisis has shown in a dramatic way that there have been some serious cracks in what has commonly been accepted as “good” economic policy. It is easy to blame greed and carelessness in the financial sector, but that hardly goes to the heart of the problem. At the end of the day, even if the greed and carelessness of a few “evil bankers” really is to blame, policy has to change if the economic structures have been conducive to making it cause despair for millions of people.

Aside from highlighting dysfunctional economic structures and the need for reform, a very immediate consequence of the crisis is that Governments have been [Read more →]

May 28, 2010   1 Comment

Governance for Economic Growth

King Solomon -the wise and rich by Giovanni Demin (1789-1859)

For the past 8 years Dani Kaufman has been publishing his Governance Matters papers in which  assessment of the level of governance in countries across the world is performed. Last year he followed up with pointing out a group of 8 (ggg-8) which apparently could teach other countries around the world how governance should be done. When the financial crisis struck Dani Rodrik used the opportunity to attack Kaufmann, who he finds, puts too much weight on governance when it comes to economic growth:

“After all, no-one can deny that the United States, for all its financial follies, is a rich country.  It turns out that it is possible to be corrupt in a fundamental way and still be rich. My own view is that there was never a strong theoretical or empirical argument for relying on governance reform, as conventionally understood, as an engine of higher growth.  The case for governance reform is that it is a good thing to do in and of itself.  But don’t confuse it for a growth strategy.”

For Rodrik, who has also recently come out as a skeptic to democracy’s effectiveness in promoting growth, the active measures and policies a government implements is more important, more resembling industrial policy. In response to Rodrik the Governance Matters blog of the World Bank say that

“It is true though that the debate about the causal relation between governance and growth is open and far from reaching final conclusions -and even when evidence suggests its existence, the transmission mechanisms from good governance to growth remain unclear. This makes more relevant the analysis and diagnosis of what aspects of governance matter the most for growth -under local and more specific circumstances.   There is an agreement that the times of cookie-cutter approaches for the governance reform agenda are over.  Instead, a country-oriented approach provides the best chances to effectively link the governance reform agenda to a country’s growth strategy.”

At least one agrees that governance must be looked and evaluated at at an aggregate, national level, but there are major flaws with the way Kaufmann tries to measure governance and its effects. By subjectively setting a standard for what ‘good governance’ encompasses, one assumes that what is good governance for one country would also constitute good governance for another. This is clearly wrong. Even though Norway scores close to top on the list on most measures, adopting Norwegian style institutions would not necessarily work very well in most other countries.

For good governance, I would argue, there is no gold standard, every country has to design its system to fit its context. Moreover, one needs to take history into account and basing a governance system on what is already there. Rather than searching for Platonic ideals we should seek effective governance systems that work – very much in line with the Neo-Schumpeterian or Evolutionary approach.

Lastly, governance should be evaluated in terms of effect or result and not process. I would say China constitutes excellent governance, how would it be possible to achieve above 10 percent growth almost  every year for the last 30 years if not? This is not to argue China is an ideal democracy or that it is treating all of it citizens very fairly, but in terms of improving the life’s of its citizens it has been truly successful. By evaluating policies on the basis on results we also ensure that the debate becomes a lot less biased and ideological.

May 28, 2010   No Comments

The Return of Industrial Policy and the Incorporation of Time into Economics

The port of Shanghai from WikiCommons

Dani Rodrik recently had a commentary where he argued that industrial policy is returning to the main stage.  Within the Tallinn School (i.e. the economic research associated with the Technology Governance program in Tallinn) active government policies are seen as essential in order to create the ‘virtuous circles’ of high value-added economic activities. Rodrik (not associated with Tallinn), argues that industrial policy is  (i) “a state of mind rather than a list of specific policies” (ii) “relies on both carrots and sticks” and (iii) “industrial policy’s practitioners need to bear in mind that it aims to serve society at large” As Erik Reinert has shown, history abounds with  examples of how almost every successful economy has at some point employed some kind of industrial policy. Skeptics usually reply, yes, but what about all the failures?   By no means is industrial policy always effective and how well it works in a specific case depends on an inordinate amount of variables. Importantly, it is “a state of mind” and one must experiment to see what works. I would rather ask: what is the alternative, if industrial policy is the only way we know to have worked? Recently, the World Bank has come off as a bit more positive towards industrial policy, but their understanding is quite narrow:

“If industrial policy is nothing more than government agencies organizing conferences with private sector players, I’m all for it. If we include in the definition of industrial policy the supply of classic public goods like infrastructure and education in coordination with the needs of the private sector, I am still fully in support. However, I tend to part ways when the state gets involved to the point of picking winners, which must inevitably be the case when more heavy-handed interventions are put on the table. ” from the World Bank Private Sector Development Blog.

Industrial policy is more than supplying basic infrastructure, but still it is not about picking winners. One aims to develop specific sectors of the economy, calculating that the spillover effects will benefit the economy as a whole. The Asian economies, of India and China,  but also Brazil are recent examples of how industrial policy has been implemented successfully. But Chris Blattman points to an interesting example of how it has been carried out for shoe manufacturing in Ethiopia.

From my experience, how one looks at industrial policy depends a lot on one’s view of economics: In the first post here at Evolution-Revolution, we argued that “understanding the dynamics that propel the economy into the unknown should be at the core of economics, rather than optimizing a static economy that only exists in the abstract.” As such if one believes the most efficient allocation of today’s resources is essential one quite naturally comes to the conclusion that any form of intervention is inefficient. By incorporating the dimension of time however, one can more easily conclude that its worth sacrificing a little efficiency today for what might be a much more prosperous tomorrow.

May 27, 2010   1 Comment

Vulnerability of Open Capital Flows: IMF and WB return to Ragnar Nurkse

According to the Washington consensus, open international capital flows were essential to developing countries in order to achieve cheap financing and efficient allocation of resources. In particular, the IMF and the World Bank were stalwart defenders of floating the exchange rate and letting the market forces determine the inflows and outflows of capital of a country.

Classical development economists, such as the Estonian Ragnar Nurkse, pointed out the fragility of relying on external financing as early as 1944 and paradoxically laid the basis for the founding of the Bretton Woods institutions (IMF and World Bank). With Bretton Woods came the managed flow of international capital, but which collapsed in 1968 and led to subsequent liberalization. In receiving aid and loans from the World Bank and IMF, developing countries were pressured to liberalize and open their economies to foreign investors.

After the Asian crisis of 1997, more attention was paid to fragility that arises when foreign investors withdraw capital and local currencies collapse. The problem is especially acute when locals have taken up loans denominated in foreign currencies, thus the depreciation causes their debts to sky-rocket. But it is first recently that mainstream economists have argued for letting developing countries control the capital inflows.

I find it very warming that both the IMF and World Bank seem to have changed tack, and returned to their more Nurksean / Keynesian roots. In this very interesting blogpost, Jamus Lim of the World Bank presents data that out of 189 major capital account liberalizations since 1970, at least 154  have led to a severe financial crisis!  He concludes by quoting a recent IMF staff paper.

Finally, the the selective use (PDF) of capital controls in a broad policy mix may be useful in helping moderate surges in portfolio inflows, especially when they are directed toward debt rather than equity. “

Striking words when coming from Washington indeed.  More depressingly though, Estonia seems to have forgotten the lessons from its premier economist.

If you are interested in the topic of international financial fragility, the excellent work of  Jan Kregel and Hyman Minsky is recommended.

May 27, 2010   1 Comment

Winds of Change in Development Economics

Something is definitively going on in the world of development economics. On top of a poor growth record in the countries where the then dominating “Washington Consensus” was deployed in full force during the 1990’s and 2000’s, the global financial crisis has made revisionism cool and brought about a wonderful flowering of all kinds of interesting intellectual changes.

I was particularly struck, today, by one of the latests post on the World Bank blog, linking to a paper with the same title:

A Primer on Export Diversification: Key Concepts, Theoretical Underpinnings & Empirical Evidence

The post and the paper are not, as you might think, written by Erik Reinert, but by a World Bank economist by the name of Salomon Samen. It discusses, amongst other things, the importance and relevance of classical development economists such as Raul Prebish and Hans Wolfgang Singer:

Based on the Presbish-Singer hypothesis, free trade and its corollary specialization were to confine developing countries in the production of primary products which are subject to short and long term detrimental effects for developing countries. Hence, in order to stabilize export earnings, boost income growth, and upgrade value added, developing countries had to increase the variety of their export basket. In the light of the dismal economic performance of many developing countries that implemented trade restrictive protectionist policies in the 1960s, and 1970s, many policy makers have, since the 1980s, been seeking to expand their exports and have increasingly been recommending development strategies based on outward orientation including reduction of trade barriers and opening of international trade to foreign competition. Because export supply responses following first generations of outward oriented trade policy reforms have been mixed, expanding and diversifying exports remains a major concern for policy makers in many countries.

It will be interesting to see how long parts of “heterodox economics” will remain heterodox.

May 27, 2010   1 Comment

A treat: For your reading pleasure

Some recent and interesting articles, all very recommended:

An excellent article on zoophiles, animal lovers – there is more to human sexuality than I would ever have expected and somehow horses are particularly attractive

Steve Randy Waldman explains why measuring bank balance sheets (capital) is impossible

A report from Morgan Stanley on the emerging global trends of internet usage, especially mobile

Dani Rodrik on the return of industrial policy – governments can pick winners

How to make a  freestanding handstand Push-Up – my goal for the next year

Stiglitz on an agenda for reforming economics at the newly established, Soros-financed, Institute for New Economic Thinking (video)

April 15, 2010   No Comments

“Investing in the Democratic People’s Republic”

Noko Jeans founders, from left to right, Jakob Ohlsson, Tor Rauden Källstigen and Jacob Aström with a pair of their jeans produced in North Korea.

Der Spiegel has a very interesting article on three Swedish guys who have started their own jeans brand, Noko Jeans. Noko has chosen a quite unusual country for the manufacturing of its jeans: North Korea. Apparently the People’s Republic has its own web site where it offers opportunities for foreign investors. Maybe we are actually seeing the first few steps of a softening up of North Korea and its eventual emergence as a part-taker in the global community.

For Noko the deal was closed in the same way as most early investors in China did it. Heavy drinking and socialization with the locals to build trust and making a deal with a conglomerate that really seems to make everything. They couldn’t get all that they wanted though; the jeans had to be black since blue denim jeans were considered too much of an American symbol. Some old habits die hard after all.

January 11, 2010   3 Comments

Lower Wages: Not Necessarily a Solution to Unemployment

The argument is simple;  in times of distress wage reductions will lead to a decrease of aggregate demand, reducing sales in turn decreasing demand for labor and wages.  One has a vicious circle of decreasing wealth and employment.

Some industries where wages / prices are very flexible are particularly vulnerable to this dynamic, agriculture being one. In the great depression farmers where hit particularly hard, prices collapsed and many defaulted on their mortgages. The goal of Franklin D. Roosevelt’s Farm Strategy And The Agricultural Adjustment Act of 1936 was precisely to stabilize agricultural prices and reestablish the purchasing power of the farmers. 

The common notion among economists, is exactly the opposite, that lower wages will increase employment. This sounds logical and is probably most often true, but its important to understand that the dynamics of economics are ever-changing and no universal laws can be made. By looking at – not only – the supply-side of the economy, but also at the demand-side, one realizes that if there is no one to buy your goods it doesn’t matter how cheap you produce them. This follows the reasoning of Henry Ford who argued that the role of a good industrialist was to set wages as high as possible and that all of his workers should afford a Ford Model – T. He reasoned that without demand, there is nothing to sell.

For more on this  see “On the Consequences of Nominal Wage Flexibility” at Economist’s View

December 17, 2009   No Comments

Government Venture Capital – Socialism or Pragmatism?

The Wall Street Journal reports today that the United States Federal Government is dwarfing private investors in providing venture capital for new high-tech startups – in particular in “clean technology”. Predictably, many (Americans) are worried that this is another step in the direction of a socialist United States. This is worrying too much.  There are abundant examples of governments successfully investing in industry – especially “infant industry” – in non-socialist countries with weaker constitutional safeguards than the U.S. If anything, it is a much more sensible way to do stimulate the economy during a recession than having people paint lamp-posts or pick leaves.

More importantly, the surge of public investments into high-tech business is probably very good for the private sector, both in the long and short run. Already, private venture capitalists are eager to invest in companies that receive loans or equity investments from the government. This, of course, can simply be attributed to the fact that more access to capital and concessionary interest rates should make lower risks and higher returns more likely. However, the much more significant effect – especially over time – is the establishment of strong intrasectoral networks that are necessary for any advanced industry to flourish. Such networks – prominent examples are Silicon Valley and (until recently) the car manufacturing clusters around Detroit – allow for specialized production knowledge to be developed and disseminated, specialized suppliers and consumers to gain sufficient economies of scale, and for consumers to “learn” new products; all necessary ingredients for dynamic economic growth. Notably, a high degree of geographic concentration is not always necessary, but a fairly large number of firms and a significant industry size is.

The network dynamic also highlights a particular reason why it may be appropriate for taxpayers to be venture capitalists. Because many of the benefits of venture capital investments – such as new innovations or other “network benefits” as outlined above – are external to individual firms and investors, but still benefit the economy as a whole, VC investment incentives are in some ways more symmetrical with those of taxpayers than private VC firms.

Of course, the establishment of strong dynamic intrasectoral networks can and has many a time been achieved without government intervention. However, it has not been achieved without plentiful financing – plentiful financing clearly not available in the wake of a financial crisis, especially for small firms. When the Federal Government is able and willing to make the necessary investments, why not be pragmatic rather than paranoid and let it? If anything, in five or ten years the U.S. might just find that they paid off.

December 14, 2009   1 Comment

Free Markets and Somali Pirates – Qualitative Aspects of Economic Growth

According to Reuters, a new stock exchange is at the center of booming economic growth in the Somalian coastal town of Haradheere. Lack of government interference in the region has allowed a highly profitable piracy sector to appear as an engine of economic development, turning the former fishing village into a bustling boomtown. A local ex-pirate named Mohammed, tells Reuters that “Four months ago, during the monsoon rains, we decided to set up this stock exchange. We started with 15 ‘maritime companies’ and now we are hosting 72. Ten of them have so far been successful at hijacking,” Mohammed said.”The shares are open to all and everybody can take part, whether personally at sea or on land by providing cash, weapons or useful materials … we’ve made piracy a community activity.”

The mention of weapons is of particular interest. Although Somalia is a one of the poorest countries in the world, it is awash with weapons – and these weapons are often the by far most valuable assets many Somalians possess. Through the piracy exchange, poor Somalians can make a return on these assets – without raiding their own countryside. For example, the Reuters article mentions a young woman who invested a rocket-propelled grenade launcher she received in alimony when she divorced her ex-husband – and made a $75 000 return on that investment in a little over a month. In a strange way, piracy is contributing to capital flows from rich to poor countries, as well as increased internal stability in Somalia.

The exchange also claims to be attracting foreign investments – FDI, if you will – in particular from the Somalian diaspora community. This is ironic. If true, it is not unlikely that western governments such as that of my native Norway indirectly are contributing to piracy financing through a.o. welfare payments – while at the same time paying for naval forces to fight the same very same pirates that are attracting investments.

The economic growth surrounding the Somalian piracy sector is extremely interesting for several reasons. Firstly, it is an example of how self-organizing economic systems coupled with rapid economic growth can appear under conditions of extreme laissez-faire in a basically ungoverned area. With little “external” interference, quasi-free markets allow productive resources to efficiently flow to sectors where returns are highest, and institutional mechanisms – such as the Haradheere stock exchange – “spontaneously” develop to grease the wheels of economic growth.

The Somalian Piracy sector is also interesting because it shows so clearly that the kind of growth described above can be – qualitatively speaking – utterly perverted and hollow. In particular, it can be totally unrelated to production. In the case of the pirates mentioned here, the high returns on investment and the resulting economic growth is actually a result of sabotage of production.

These qualitative features are obvious in the Somalian case because they are so extreme. However, there is little reason to believe that economic growth fueled by piracy is the only type which may be qualitatively undesirable. Speculative housing bubbles, for instance, come to mind. Perhaps qualitative aspects of economic growth should be paid more attention to in general, both in rich and poor countries.

December 14, 2009   1 Comment