Growth and Crisis - Building Capacity through Rethinking Development

The Day After Tomorrow: Fiscal Quality

Otaviano Canuto — Thu, 14 Oct 2010 16:41:06 +0000

Marcelo Giugale

This is the second in a series of blogs where we take a look at the issues and the countries that will be at the forefront of the development agenda, not now, not next year, but over the next 2 to 5 years—as we discuss it in more detail in the recently released book The Day After Tomorrow: A Handbook on the Future of Economic Policy in the Developing World.

Most advanced countries face a post-crisis period in which fiscal adjustment will be the norm. They need more revenues and less expenditure. Their priority is quantity. In contrast, developing countries came in and out of the crisis with relatively strong fiscal positions, and see a horizon of solvency, especially those that export commodities. This gives them an opportunity to improve the functioning of fiscal policy—their priority is quality. There are several reasons to believe that many of them will seize the opportunity.

First, fiscal policy may start leaning more “against the wind,” that is, may become more countercyclical. This is not just because of the proliferation of “medium-term budget frameworks,” “fiscal rules,” and “fiscal responsibility laws,” many of which were in place before the crisis. There are also the political rewards that accrued to leaders that had previously accumulated funds and could spend them at the outset of the global recession. Think Chile’s former President Bachelet. Imitation is likely.

New Thinking on Macroprudential Regulations

Raj Nallari — Fri, 01 Oct 2010 16:04:57 +0000

The traditional micro-prudential regulations of bank-by-bank audit and supervision proved inadequate during the recent global financial crisis. There is now a new thinking on (i) how to reform the global financial system and how to reduce the vulnerability of the system to adverse changes in macroeconomic and market conditions; and (ii) which macroprudential approaches to be introduced to complement micro-prudential policies to deal with systemic and aggregate risks, such as excessive leveraging by all types of firms and households coupled with liquidity mismatches during a boom followed by excessive risk-averseness and de-leveraging during busts. There is also the issue of how best to deal with too big to fail institutions and inter-connectedness.

The objective of macroprudential policies is to ensure financial stability which means maintaining a steady stream of financial services to the whole economy, such as payment services, credit availability and insurance against risk. Other goals such as dampening unnecessary exuberance and over-leveraging, and avoiding asset price bubbles can also be added to the objectives of macroprudential policies. So there is a need for consensus on what exactly should be the goal(s) of macroprudential policies and supervision.

The Day After Tomorrow: Growth Switchover

Otaviano Canuto — Mon, 27 Sep 2010 15:34:23 +0000

Marcelo Giugale

It is becoming common wisdom that developing countries are doing well while the rich world is stuck in long-overdue austerity. Barring another subprime crisis (this time, in public debt), the locomotives of global growth are about to “switch over.” How come? Will this hold?

These are just two of the many questions asked and answered in the new book, The Day After Tomorrow: A Handbook on the Future of Economic Policy in the Developing World, which collects the views of some 40 World Bank economists.

Released this morning, the book looks at how developing countries are becoming the new locomotives of growth in the global economy, and foresees the major trends for these countries in the next two-to-five years. It includes an analysis on each region and also on issues such as governance, finance, trade, and poverty reduction, of course.

So what’s behind the “switchover”? There are mainly five reasons. First, the balance sheet of both the public and private sectors in the emerging economies are pretty clean. As borrowers, they are becoming a better, and perhaps under-rated, asset class. This will make them magnets for some of the new massive savings that advanced-economies will have to generate. Capital eagerly flowing south? Sounds early-eighties, debt-crisis familiar? There is a key difference, though. The money will not go to bank-roll bloated fiscal deficits. More likely, it will go to pay for productivity-enhancing infrastructure investment, much of it led by private companies.

Factors in Structural Unemployment

Raj Nallari — Thu, 23 Sep 2010 20:05:02 +0000

The labor market has the unenviable task of not only absorbing the additional workers entering the labor force each year (as a result of population growth) but also dealing with the unemployed workers as economies. The Keynesian view of unemployment is due to lack of aggregate demand while the neoclassical view is that when prices and wages adjust unemployment will come down significantly. In more and more developing countries, long-term unemployment (workers unemployed for over six months) is spilling over into structural unemployment, which the ILO in its several publications underscores as the mismatch between the skills of the unemployed and the demand for skills in the labor markets.

This structural unemployment may arise due to automation in the work place (e.g. need for higher and higher computer skills), rigidities in the labor market, such as high costs of training or in the case of US de-industrialization as manufacturing jobs are continuously lost to

More and Better Jobs: Are Fiscal Stimulus Packages Helping?

Raj Nallari — Wed, 01 Sep 2010 14:52:28 +0000

Derek Chen

Global GDP growth and as well as GDP growth in each of the regions were lower in 2009 compared to 2007. More specifically, specifically, negative growth rates were observed during 2009 in developed countries & European Union, Central and SE Europe & CIS countries and to a lesser extent in LAC, while the growth rates for East Asia, South Asia, Middle East, North Africa and Sub-Saharan Africa were positive in 2009 but lower than in 2007.

Reflecting this, all regions experienced higher unemployment rates, with the highest being in the developed economies & EU, Central and SE Europe & CIS and LAC economies, which again all had negative GDP growth rates in 2009. The ILO estimates that the global crisis has led to 34 million more unemployed and the World Bank estimates that about 60 million people may have been pushed into poverty.

From Bubble to Bubble: Government Policy Blunders

Raj Nallari — Mon, 30 Aug 2010 16:58:30 +0000

Greedy speculators in housing and private bankers, financial innovation and failure of risk models, regulators and credit rating agencies were all deservedly blamed for the recent financial crisis. Behind this all is public policy that worsened the problems.

Long before the greed of speculators and bankers went wild and long before there were sub-prime housing loans, there was the US Government involvement in the form government subsidies as reflected in (i) the existing tax-deductibility of home-mortgage interest payments; (ii) Federal Housing Administration programs which provide credit to first-time home buyers and permit up to 97 percent leverage at origination and also permit cash-out refinancing that resulted in 95percent leveraging (take-out of $520 billion each year by households through re-financing); and (iii) government financial subsidies through federal home loan bank lending for owning ‘an American dream’ and directing credit to low-income communities in line with the spirit of Community Reinvestment Act of 1977 and establishment of quasi-government agencies such as Frannie Mae and Freddie Mac. In addition, there is ever increasing moral hazard in the financial sector over the past century in the form of deposit insurance, reduction in capital adequacy ratios, implicit and explicit guarantees for bank bailouts to all types of financial institutions, including the too big to fail institutions. These policies combined with Fed policy of cheap money by keeping interest rates low to help economic recovery from the dot-com bubble burst of early 2000s only fueled credit growth and exacerbated the speculative bubble in housing market. From Iceland to Ireland to other European countries and USA housing bubbles were spawned in this fashion.

Pathways to Development: What We Know and Don’t Know

Raj Nallari — Thu, 19 Aug 2010 00:29:50 +0000

Shahid

Development is about welfare enhancing transformation through economic, social, political, and technological progress. Transformation is predicated on per capita income growth but development is also about progress in reduction of poverty and inequality, individual capabilities, access to social services, and quality of life. Both growth and development are also predicated on distributive politics of how a society is able to deal with vested interests and social conflicts.

During past sixty years, growth spurts have occurred in most countries but generally outcomes have fallen short of expectations. Developed economies have averaged growth rates of 2.4 percent during 1990 and 2008 while developing economies have collectively increased their GDP by an average of 4.7 percent over the same period. For low and middle income countries, physical capital is the

The Power of Innovation - free Webinar TODAY at 3PM EST

Ihssane Loudiyi — Thu, 22 Jul 2010 16:40:03 +0000

Join Aleem Walji, formerly of Google.org, now the Practice Manager of WBI’s Innovation Team and one of the lead authors for a webinar to mark the launch of a special issue of Development Outreach magazine on “The Power of Innovation.”

In a post-crisis world, innovation may be the single most important driver of economic growth and competitiveness. The time is right to move development forward through creative uses of technology. We now have the capacity to scale up innovative approaches to meet the needs of people at the “bottom of the pyramid” when traditional markets fail to do the job. Our authors share their thoughts on how to mobilize innovative solutions to reduce poverty - smarter, better, faster, and differently. Global experts discuss policy, process, new applications, and projects in social enterprise and innovation.

Webinar - Thursday, July 22, 2010 3pm EST (login opens at 2:45)

To join the meeting:
1. Go to http://worldbankva.na4.acrobat.com/devoutreachlaunch/
2. Click on Guest, and type your name to enter the meeting.

More info at: http://bit.ly/cVVZmU

Policies for Growth E-learning Course - Apply by September 17, 2010

Ihssane Loudiyi — Fri, 16 Jul 2010 16:00:55 +0000

What? E-learning course on
“Policies for Growth”
When? October 1-31, 2010
How to Apply? Please follow this link

Tentative Agenda

The story of growth and poverty reduction is much debated in an ever-changing world. The challenge in the 1960s was how to lift low-income countries from a low-growth trap to a reasonably high-growth path. Fifty years later we have many fast-growing emerging economies but also over a hundred countries unable to move away from low-growth and high-poverty traps.

Between 1960 and 2010, 3 major shifts impacted how we think about growth and poverty. These big shifts were from state-directed ‘commanding heights’ to market-driven approach, from structural issues of deregulation, liberalization and privatization to sectoral sources of growth, particularly agriculture and financial services, and from macroeconomic to microeconomic (and now macro-micro) approaches to growth. Somewhere along these shifts, there was a recognition that poverty reduction is a goal in itself and does not have to depend on how fast or slow a country is growing. The new wave of globalization that has swept the world during the past two decades has aided growth and poverty reduction in the developing world but the ongoing global economic crisis threatens to undo all those gains and much more.

For policy makers, practitioners and students who want to learn more about growth and poverty reduction in development economics today, the World Bank Institute is offering an e-learning course on Policies for Growth.

The application deadline is September 17, 2010. Please note that a nominal fee of $250 will be assessed for accepted participants.

Fiscal Stimulus: Too Little or Ineffective? What Next?

Raj Nallari — Tue, 06 Jul 2010 12:00:00 +0000

All over the world, countries have put in place fiscal stimulus packages as a response to the global crisis. In the US and UK, despite the large fiscal stimuli, the economies are stalling and unemployment rates are still high. Now, Paul Krugman is advocating a second $800+ billion stimulus as he is worried of a Third Depression (i.e. 1873-4, 1929-30 and now) or at best a low job creation and low GDP growth for the short to medium term. According to Krugman, low growth and high unemployment are shorter term problems that have to be resolved before fiscal austerity and debt reduction (which are longer term issues as bond financiers are still buying US securities). Others of conservative leanings, such as John Taylor and Gary Becker, are of the opinion that the Bush tax relief of 2008 did not work and that the Obama stimulus may not work because of small “fiscal spending multiplier”, and as the package is badly designed.

Carmen Reinhart and Rogoff document eight centuries of financial crisis and come to the conclusion that almost all the time it ends in tears with “deficits, debts and defaults.” Reflecting this view, leaders at the recent G-20 meetings pledged for fiscal austerity as the fiscal stimulus packages are quite unpopular in the western world.

Re-thinking Trade Models - Why did Trade Collapse During this Crisis?

Raj Nallari — Sun, 04 Jul 2010 18:00:00 +0000

Seventy percent of all trade is trade in goods. World trade volume declined by over 20% from peak levels trough April 2008 to January 2009, and this decline was observed across the board – advanced economies recorded a decline of over 23%, Asia about 25%, and so on. Several explanations were provided. One was that countries were raising tariffs and nontariff measures to protect domestic industries during the global downturn. Now, there is evidence that despite some ‘buy American’ and ‘buy British’ type of fiscal stimulus packages, and notwithstanding the rhetoric of governments, protectionism was muted and almost all countries held up their side of the WTO agreements. Others stressed that decline in economic activity was the primary cause of sharp decline in trade. But as pointed out by Chinn (2009) and others, the decline in US imports was much larger than that warranted by the decline in US GDP. The value of the dollar, as it gained strength during a period of international uncertainty, and the change in relative prices were other plausible explanations, but these too do not fully explain the decline in trade volume across all parts of the world.

The Next Wave of This Crisis

Raj Nallari — Wed, 30 Jun 2010 20:52:37 +0000

After all is said and done, this crisis had its genesis in US and European countries living beyond their means. This was reflected in large current account deficit which was financed by emerging economies of China, Russia, Brazil, Korea and others. This was in contrast to economic theory which tells us that advanced economies are supposed to generate savings and hence have current account surpluses while developing countries should be borrowing to finance their deficits (as they need foreign capital to finance their infrastructure and other needs).

The world is in the midst of extreme political risk – defined as not only wars and coups but governments rushing in with quantitative easing, banking bailouts, and large fiscal stimulus packages, embarking on industrial policies, and trying to re-regulate without fully understanding the unintended consequences of their actions. These expansive domestic policies have increased sovereign debt risk and raised stock prices in a large number of countries. Governments are trying to find domestic solutions to global problems of market volatility – volatility as reflected in descent of euro vis-à-vis the dollar, large movements in stock market indices, and swings in commodity prices. Markets in turn are looking at how governments are coping with big problems, such as the sovereign debt problems in Greece, Spain and other European countries. California could default on its debt obligations – what then for the global economy?

Poverty is Destiny?

Raj Nallari — Tue, 22 Jun 2010 21:17:33 +0000

The World Bank estimates that there are more than 1.4 billion people in the world who live below the poverty line of $1.25 per day. It will be interesting to see what happens to children born in poverty: to follow them from womb to tomb, the entire life cycle. We now have several countries with detailed information in the form of living standard measurement and other surveys. There is a lot of country-by-country variation but the trends are unmistakable.

We know from Deaton and Subramanian (1996), the poorest people—the ones in the bottom decline in terms of per capita expenditure—consume on average slightly less than 1400 calories a day, which is almost half of that recommended by poverty specialists. Women, particularly pregnant women still suffer from under-nourishment, iodine and other deficiencies, and lack of pre-natal care (despite the advances made in maternal mortality and pre-natal care in recent years).

South Korea won its first World Cup match, can it score for development, too?

Shahrokh Fardoust — Thu, 17 Jun 2010 14:39:10 +0000

Ngozi Okonjo-Iweala (left) and Il Sakong (right)

At the same time that red jersey fever was building across Korea ahead of the World Cup, Korean officials were building a strategy to score not just on the soccer field (which resulted in Korea's first ever win against an European team away from home), but also in the development arena, where concerns about poverty, climate change and food security trump worries about all else.

So, let's look back at the policy arena in Busan from June 4-5, where G-20 members called for concerted efforts to narrow the economic gap between emerging and developing countries. They seem to have won some initial ground, since growth-oriented development issues are being included in the Toronto meetings later this month, then at the Seoul Summit in November.

The G20, with Korea as Chair, takes its responsibility of bridging the divide between emerging market G20 members and the rest of the developing world very seriously (just like their fans take football very seriously). Their compelling development story – moving from a relatively low-income country to high-income nation within a generation -- makes them the right nation to get the job done.

The job is to put in place a framework for strong, sustainable and balanced growth made at the G20 in Pittsburgh in September last year.

Reflections on Development Economics After the Crisis

Jean-Christophe Maur — Tue, 15 Jun 2010 14:15:12 +0000

Raj Nallari

We took advantage of the recent ABCDE conference in Stockholm during May 31-June 2, 2010 to hold side discussions with 15 high-profile academics and researchers. We were expecting that they would tell us that economic development thinking should be revisited in the light of the crisis, but surprisingly, the responses were that likely no. Views fell in two broad camps – first, that it is too early to say because the evidence has not yet been fully studied; and second, as far as the poor are concerned, the crisis is a ‘tempest in a tea-cup’ as the bottom 20% of the population living close to the poverty line of $1.25 per day are in ‘perennial’ crisis, are always at risk and vulnerable.

The finer grain of the researchers’ reflections highlighted six main aspects:

(1) Those focusing on extreme poverty alleviation underscored that even before the crisis markets were not working for the poor. The crisis unfortunately furthers highlights this and will probably impede further efforts to fight against poverty. Financial markets were singled out as particularly deficient. It was observed that globalization has widened the income inequality with haves at one end and poverty traps at the other end. Some of our interlocutors went further to say that the bottom 20 percent do not have physical capital/assets to use as a stepping stone, and a solid enough human capital base, and therefore end up being forced to eke out a living relying on natural capital (environmental assets) and social capital precluding any possible accumulation.

Recoupling or Switchover

Otaviano Canuto — Tue, 01 Jun 2010 21:30:41 +0000

The current recovery in advanced economies is now exhibiting several signs of fragility. Their medium term growth prospects also look difficult. In this environment two questions arise: Will developing economies experience a renewed downward “recoupling” as a result of a low-growth scenario in advanced economies? Or, on the contrary, could developing countries “switchover” to become locomotives in the global economy, providing a countervailing force against an otherwise slowing-down train? As discussed in my new paper, here are some of the factors pushing in these two opposite directions.

Several factors point to a medium-term reduction of both actual and potential growth in most advanced economies. First, sooner or later fiscal consolidation will become a major issue among advanced economies once—or even before—recovery is fully established. Future fiscal contraction negatively affecting the private sector will be the price paid for the role of fiscal stimulus in helping rescue advanced economies from the brink of the abyss during the crisis.

Secondly, the process of US households’ balance-sheet deleveraging and adjustment is far from complete. Consumption spending growth is likely to remain weak and/or wobbly in the absence of large renewed hikes in asset prices.

A third aspect to weigh against a return to a high-growth path is the likely jobless nature of the current recovery in many high-income countries. Slow-to-reverse shocks—a financial crisis combined with a house price bust, cross-sector differentiated job creation/destruction—have been in play and continued macroeconomic uncertainty is also countering employment growth.

Re-thinking Trade Policy

Ravindra A. Yatawara — Fri, 28 May 2010 01:49:15 +0000

Trade theory has always been lagging behind reality. From Ricardo ‘s (1817) explanation of trade based on relative productivity/technology differences among nations, it took over a century for Eli Heckscher and Bertil Ohlin (1933) to formalize a model that would explain inter- industry trade patterns based on a countries ’natural resources or factor endowments. It was almost 50 years later that Paul Krugman incorporated scale economies and imperfectly competitive markets to explain intra- industry – the observed phenomenon that countries were trading the same product- for example importing and exporting cars. In the last few years, a new paradigm is evolving that moves away from viewing trade as solely the exchange of final goods to one that incorporates the growing role of global supply chains and the international exchange of tasks or activities- off-shoring. All these theories have implications for optimal trade policy, and policy advice that nations receive from trade economists.

The question is how far is the trade field from the reality frontier? Is there sufficient general equilibrium analyses of trade policy in developing economies? How relevant is policy advice based on current models? This note is not an analysis of whether outward-orientation is valid, but instead offers some new trade and trade policy realties, and identifies some areas where more work is needed to provide policymakers with valuable guidance in thinking about trade integration.

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

Salomon Samen — Wed, 26 May 2010 23:37:01 +0000

This new paper provides a basic understanding of: (i) the concepts of Export Development and Export Diversification, (ii) what the theory says about Export Development and Diversification? and (iii) what empirical evidence shows on the links (correlates) between export diversification, exports growth, and overall growth.

The role of export development and diversification in growth in developing countries has received considerable attention in development literature over the last 50 years. During the 1950s, 1960s, and 1970s, and largely influenced by R. Presbish (1950) and H.W. Singer (1950), the prevailing development strategy in many developing countries and particularly in Latin America, Africa and South Asia, was in favor of import substitution and extensive use of restrictive trade polices for economic diversification. In the light of the success of China, India, and the East Asian “Tigers”, this view of economic diversification through import substitution evolved considerably towards export promotion and outward orientation in the 1980s, 1990s, and early 2000s.

Because many developing countries are heavily dependant on commodity exports, making them extremely vulnerable to external shocks, a key challenge confronting policy makers in those countries is that of expanding export revenues, stabilizing export earnings, and upgrading value added in a changing North-South trading structure.

The Role of Cultural Heritage in Poverty Reduction

Otaviano Canuto — Tue, 25 May 2010 21:16:42 +0000

Notre Dame Cathedral in Paris, France

We economists tend to see well-being, and poverty in particular, as a matter of finances and income. But fortunately, at least in the Bank, we have come a long way from that simplistic view. Reducing poverty is not only about increasing productivity and income. It is about enabling people to have a broad sense of well-being and opportunities to express and make choices about their lives.

As the famous Bank series “Voices of the Poor” and the follow up “Moving Out of Poverty” have shown us, poverty is much more than lacking a steady or sufficient source of income. Being poor is being vulnerable: to crime and violence, to the lack of justice and access to services. Being poor means inability to negotiate, bargain, and get paid. Poverty, in a nutshell, is a kind of decline in social connectedness. So that’s why social solidarity and cultural identity are so relevant to poverty reduction.

One aspect of cultural identity is cultural heritage, an issue that was widely discussed at the 13th Annual International Symposium: Economic Benefits, Social Opportunities, and Challenges of Supporting Cultural Heritage for Sustainable Development, held May 20 – 22 at Word Bank headquarters in Washington DC. The conference, organized jointly with the U.S. National Committee of the International Council on Monuments and Sites, explored fascinating topics –from the contribution of cultural heritage to the development of sustainable communities, to the looting and illicit traffic of cultural treasures.

What Drives Productivity

Raj Nallari — Mon, 24 May 2010 18:33:51 +0000

Productivity is the efficiency in converting inputs to outputs. It is also called TFP (total factor productivity) and measured as a residual – the difference between outputs and a set of inputs (e.g. labor, capital, and intermediate goods, including energy, land and buildings). Measurement problems plague both inputs (e.g. how do you account for quality of labor or capital) and outputs.

To wit, managers with MBAs, flexibility in labor and capital markets, fuel efficiency, relatively higher spending in IT (computers) and R&D, and policies that promote market competition, trade liberalization, deregulation of energy, and encouragement of foreign direct investment that brings in technical progress and leads to learning (catch-up) is shown to contribute to higher productivity. Exporting firms tend to have higher productivity. Inefficient firms can still survive in stable industries where technology is static, and where market competition is limited by a variety of local factors and relationships (e.g. China where the protection is afforded by local governments).

Internal Ventures of the Post-Washington Consensus: “Only Connect”

Yevgeny Kuznetsov — Fri, 21 May 2010 20:30:41 +0000

The post-Washington Consensus has emerged recently as an umbrella denoting the search for pragmatic and context-specific solutions to problems of developing countries. The recent financial crisis, with its epicenter in the rich economies, has demonstrated that the whole world, not just poor countries, is developing. One feature of the new pragmatism is that industrial policy is back. But in contrast to import substitution, it is an open economy industrial policy – the objective is to increase economic openness: enhance flows of knowledge, foster productive innovation, and promote non-traditional exports. Under rubrics such as productive development policies or innovation strategies, governments in developing countries are providing public inputs, each customized and bundled to suit the needs of particular domains of economic activity, but not others.

How are we responding? One way to understand the World Bank’s role in articulating the post-Washington consensus is to imagine a pyramid. At the top are the ‘thinkers’ of DEC, the Bank’s research and data arm. There are encouraging discussions on new structural economics (Justin Lin), empirical work on new trade theory, and – as one would expect – a new open industrial policy. At the foundation are task managers of lending operations. By being responsive to the needs of the client, but without much fanfare, they are in the forefront of the post-Washington consensus in their dialogue with our most sophisticated and demanding clients such as India, China, Argentina, Mexico, Russia, Malaysia or Chile. A new generation of lending technology and innovation operations is quietly emerging which emphasizes selectivity and focus on a few domains and sectors of the economy deemed strategic rather than the across-the-board focus on innovation climate. Practitioners take the need to make ‘’strategic bets” for granted (‘’the entry costs are high, technology is changing rapidly, one can’t do everything, we need to be selective”), so the issue here is to design private-public institutions to share risks and minimize state capture. New institutions of open industrial policy are being self-discovered on a daily basis, yet there is too little contact between the new theory (‘thinkers’) and cutting edge practice (‘doers’).

Export Development, Diversification, and Competitiveness: How Some Developing Countries Got It Right

Salomon Samen — Thu, 20 May 2010 15:30:10 +0000

A Paper for Discussion

In recent decades, export competitiveness in a changed and increasingly changing world has been at the heart of growth and development debates in almost all countries. Drawing upon the lessons of experience of the most successful exporters in the developing world¹, this paper provides an overview of institutions and policy practices successfully experienced for the expansion and diversification of exports, and the strengthening of industrial competitiveness in some developing countries.

Although exports are important for growth and development, developing countries have been struggling with the challenge of expanding and diversifying their export baskets beyond their primary product bases for a long time. Based on research in recent two decades, it is now well established that, openness to trade and integration into global markets is a central element of successful growth strategies; and higher and sustained economic growth is associated with export growth (Dollar and Kraay (2001).

Against the background of growing disparity in income between the developed and the developing world due in large part to divergence in industrial competitiveness, the central question has always been: what can and should be done in developing countries to boost their export growth, accelerate their export diversification and enhance their competitiveness in international markets? While there is considerable agreement on some of the policy lessons learned from successful exporters of the developing world (need for sound macroeconomic management, appropriate exchange rate and general encouragement to exporters), there is more controversy on the role and usefulness of some other policies and particularly on selective policies targeted to specific activities. However, a look at the experience of the most successful exporters of the developing world that were able to reverse more than a hundred years of sluggish development and achieve unprecedented manufacturing performance, suggests that they may have done something right.

The Perennial Crisis in Governance

Raj Nallari — Tue, 18 May 2010 21:11:34 +0000

What do we learn from the troubles of Goldman Sachs, British Petroleum, Enron, Satyam, and other modern day corporations? These are the most sophisticated corporations ever formed yet victims of their own governance failures.

Public sector governance problems are known from time immemorial. The first description of governance problems of the state in the form of bribery, corruption, and other mis-governance is attributed to Patanjali who lived in India around 53 A.D. Corporate governance problems are relatively recent. With the industrial revolution came the need for a corporation to organize and manage capital and labor. The Board of Directors by law is given the full authority in a corporation. In the initial days of industrialization, the family-owned corporations had family members on its Board. However, over time as the corporations became more complex, the management team of chief executive officers and financial officers have managed to gradually erode the power of the Board and made the Board an ‘overseer.’ This is the problem of principal-agent, where the agent (management team) usurps power from the principal (Board of directors and share holders). Even this function of overseeing has been diluted because of complexity of business transactions and provision of inadequate and often ‘obfuscating’ information by the managers. In addition, more and more Boards are stacked with ‘insiders and friends.’ As a result, we have reached a stage in several ‘big and small’ corporations where there is a crisis in corporate governance. The recent financial crisis is but one manifestation of this corporate crisis, where complexity is deliberately created under the name of financial innovation, just to deliberately obfuscate information to Board of directors, stakeholders and public at large.

Making Inclusive Growth Not Elusive

Ihssane Loudiyi — Mon, 17 May 2010 13:58:26 +0000

By Dr. Jayanta Roy

India’s economic performance in the last decade has been stellar. The average GDP growth has been about 9% in the last five years, with the same trend foreseen despite the major global economic upheaval. Inflation is stable, with a slight hiccup of rising food prices. Balance of payments is under control with burgeoning foreign exchange reserves. In IT and ITes, India is a recognized world leader. Most economists and institutional investors are projecting China and India to be the super economic powers by the end of the century, surpassing USA. Some economists are predicting that India will even outpace China in this marathon. There is no doubt that India has arrived.

The downside risk of India’s growth momentum is slim, or non-existent. The successive governments since the launch of the reform have steadfastly followed the development strategy, with innovative mid-course corrections when needed. The IMF has applauded the strong rebound of the Indian economy well ahead of other countries from the recent global financial crisis. Although, a few second generation economic reforms need to be implemented, Indian economy is on cruise control mode for high sustained growth. It makes little sense to play with small differences—9% versus 10%—as GDP growth targets. Economists have convincingly argued that high GDP growth in India will be sustained. But it is the quality of growth which is in question.

Managing Bubbles

Raj Nallari — Tue, 11 May 2010 22:39:58 +0000

In 21 industrial economies during 1970-2008, there have been about 47 housing price busts and about 90 stock price collapses. Sometimes they both overlapped, other times not. There is now concern that stock markets in Emerging Markets have expanded rather rapidly since their lows at end-2008. There are worries that the fiscal stimulus packages and monetary easing policies that we put in during the crisis months of October 2008 to June 2009 may have sowed the seeds of the next bubble as private sector credit has increased sharply in several emerging economies.

In several of these episodes of busts, in the run up to the asset price bubbles, there has been a rapid growth in the credit. In the recent crisis, not only in the industrial economies but also in the emerging economies, particularly Emerging Europe, housing prices rose sharply in the run up to the crisis and were often associated with a rapid credit growth resulting in an escalation of household leverage and debt. So asset price rises were accommodated by credit booms. In turn, the credit booms were associated by an increase in capital inflows. Credit booms, in turn, drive increases in housing prices and/or stock prices, and/or exchange rates. There is therefore a feedback loop, that fuels increased household and financial firms’ leverage, and lowering of lending standards (as reflected in the sub-prime loans in the United States). The longer the credit boom goes on the higher the probability that it will end up in a financial crisis.

Paul Collier and his Plundering Planet: When Both Economists and Environmentalists Don’t Get it Right

Otaviano Canuto — Wed, 28 Apr 2010 19:28:23 +0000

Do you remember The Bottom Billion, Paul Collier’s 2007 book which became a classic? If you do, you will certainly like his latest work, The Plundered Planet. He came to launch his new book to the Bank this week, and I found it both fascinating and provocative. Let me give some examples of why.

Professor Collier, now the Director of the Centre for the Study of African Economies at Oxford University, declares a two-front war on economists and environmentalists at the same time. He is against what he calls “utilitarian economists,” because if left on their own, they would end up plundering the planet. But Collier also takes on “romantic environmentalists,” who would be unable to eradicate hunger in case they’re given the chance to rule the world. So as you can see, the book’s premises don’t really fit into the script of the blockbuster, Oscar-winning movie Avatar.

For Collier, who also worked as the Bank’s Research Director some years ago, Nature is the lifeline for the countries of the bottom billion – and thus cannot remain untouched. With a strong faith in the power of well-informed ordinary citizens, Collier proposes a series of international standards that would help poor countries rich in natural assets better manage those resources. Technology, which enlarges the capacity of ordinary citizens, is also necessary to turn Nature into assets. But of course, in order to be effective and benefit the bottom billion instead of just the few at the top, regulation, which requires governance, is another seminal element of the equation to create prosperity. If you leave regulation out of the equation, as some Libertarians do, the result is nature plundered. But if you end up with too much regulation – curbing the use of Nature – and thus preventing technology, then the result is hunger. And I’m certainly not one of those radical, romantic environmentalists who can imagine a bottom billion who is hungry but happy.

The Service Revolution

Ihssane Loudiyi — Mon, 26 Apr 2010 18:50:05 +0000

by Ejaz Ghani

China and India are both racing ahead economically. But the manner in which they are growing is dramatically different. Whereas China is a formidable exporter of manufactured goods, India has acquired a global reputation for exporting modern services. Indeed, India has leapfrogged over the manufacturing sector, going straight from agriculture into services.

The differences in the two countries’ growth patterns are striking, and raise significant questions for development economists. Can service be as dynamic as manufacturing? Can late-comers to development take advantage of the increasing globalization of the service sector? Can services be a driver of sustained growth, job creation, and poverty reduction?

Some facts are worth examining. The relative size of the service sector in India, given the country’s state of development, is much bigger than it is in China. Despite being a low-income region, India and other South Asian countries have adopted the growth patterns of middle- to high-income countries. Their growth patterns more closely resemble those of Ireland and Israel than those of China and Malaysia.

India’s growth pattern is remarkable because it contradicts a seemingly iron law of development that has held true for almost 200 years, since the start of the Industrial Revolution. According to this “law” – which is now conventional wisdom – industrialization is the only route to rapid economic development for developing countries.

Re-thinking Fiscal Multipliers

Raj Nallari — Tue, 20 Apr 2010 17:33:51 +0000

Keynes is best known for suggesting fiscal stimulus policies and programs to increase aggregate demand to get out of a deep recession. Since the marginal propensity to consume is positive and less than one; the bigger it is, the larger the fiscal multipliers will be and the faster we will get out of a recession. Conventional Keynesian multipliers are meant for closed economies (no leakages from demand through imports and the effect of the fiscal expansion on the exchange rate further reduced multiplier) and do not consider the total debt position of the country. More generally, the fiscal multipliers of an expansionary fiscal policy will be bigger if the leakages are minimized, an accommodative monetary policy is implemented, and the fiscal position of the country is sustainable after the initial change in fiscal policy. Historically, multipliers on government spending are estimated to be in the range of 1.5 to 2, while tax-cut multipliers can be much smaller, say 0.5 to 1.

But the world is a drastically changed place, particularly during this global crisis, ant the various multipliers are likely to be much smaller because of leakages in a globalized world in the form of higher imports from rest of the world. Also, the various multipliers may work at cross purposes and the cumulative effect may be much smaller as shown in Vegh et al. (2009). The full effect of fiscal policy multipliers in the first round is smaller in models that incorporate a sensitivity of the private investment to the interest rate. Public investment might crowd-out private investment in implementation of fiscal stimulus packages. The crowding-out is the result of an expansionary fiscal policy causing the interest rates to increase and thereby reducing the private investment as financing becomes expensive.

Re-thinking Economic Policy: An Overview

Raj Nallari — Thu, 15 Apr 2010 13:47:58 +0000

The global financial and economic crisis of 2008 has brought an urgency to focus on shorter-term policy issues related to managing bubbles, analyzing current development paradigms, and drawing out policy lessons for future action, particularly lessons learned during the past two years. At the same, longer-term development challenges also must be addressed to avoid the mistakes of 1970s and 1980s when managing stabilization issues dominated economic policy making and development economics was pushed aside for a while. For example, with the exception of East Asian countries and more recently India, why are African, Eastern European and Central Asian, and other South Asian countries unable to sustain high growth rates for more than five to seven years? What are the policy implications of demographic changes and climate change? There is a need for policy discussion on frontier topics such as rethinking globalization in trade, finance, and labor; new economic geography; green growth; and inclusive, balanced, and sustainable growth.

The 15th-century Florentine Niccolo Machiavelli is said to be the first to state, “Never waste the opportunities offered by a good crisis.” During a crisis, countries experiment with policies and learn a lot in a hurry. This overview shares this learning on early policy responses to the current economic crisis, focusing particularly on specific issues that are of interest to policy makers and practitioners in the developing countries. The overview is a compilation of notes that staff members of the World Bank Institute have used during global dialogues and international seminars and conferences since October 2008.

What brought the world to the edge of an abyss in September 2008? After quickly recovering from the Asian crisis of 1997-98, world economic growth accelerated during the period 2000-07. However, in hindsight, there was a ‘perfect storm’ in the making as US and European housing defaults began to pile up beginning in late 2006, oil prices doubled in a few months during late 2007 and early 2008, while rice, wheat, and corn prices jumped by 40-50% during the same period.

Conditional Individual Bailouts - a Potential Anti-crisis Instrument

Ihssane Loudiyi — Mon, 12 Apr 2010 16:48:38 +0000

by Rebekka E. Grun

Why save the banks, and not their clients?

The current financial crisis is not the first for economists or central bankers. What was relatively new though is that many proven tools do not seem to work. Monetary impulses, liquidity – for a long time the market did not seem to take notice. Fiscal impulse, stimulus packages and bank bailouts – little success in most places. Increasing the dose – ditto. Maybe it is time to step back and acknowledge this crisis as different, to examine it for specific causes and tailor a new tool.

The root cause of the crisis is known; financially semi-literate clients were talked into mortgages they did not understand and resulted a bigger bite than they could chew. This happened to an extent that generated a crash wave big enough to shake more than one national banking sector.

Why now does the discussion on remedies not focus on this cause? Why not save the individuals that went bust rather than their banks? Unconditional bailouts, of course, would generate the wrong incentives (for the banks as well, by the way). It is therefore important to attach smart conditions to discourage free riding. For example a course in financial literacy and commitment to a program of (maybe painful) debt restructuring, and possibly further measures to improve the education or health of the affected individual or family.