Category Archive for: International Trade [Return to Main]

Sunday, January 14, 2007

The Split over Trade Is Not Confined to Democrats

There has been attempt after attempt to portray the trade issue as an area where Democrats are deeply divided, and there has been much written about how Democrats will stifle trade and hurt the economy now that they are in power.

But the split is not unique to Democrats. As with immigration, Republicans are no less divided on this issue. First, the article about Democrats:

The Coming Democratic War on Free Trade, by Steve Chapman, Real Clear Politics: It's an elementary axiom of economics that if Person A sells something to Person B, it's good for each of them. Otherwise, why would they bother? It should follow that if Country A sells something to Country B, both again benefit. But Democrats have turned against that basic insight. They think if Americans buy something from abroad, it makes us worse off, and they want to protect us from such folly.

"Free," when modifying "trade," is a four-letter word on the left. Bill Clinton favored breaking down barriers to international commerce, but the idea has lost favor in the Democratic party... The American Prospect, a liberal magazine, reports with glee that "every single newly elected Democratic senator is a critic of free-trade orthodoxy."

Among the most vocal critics of open commerce is Sen. Sherrod Brown of Ohio, who ... vows not to vote for any agreement that doesn't impose strong labor and environmental standards on our trading partners. Brown reflects the views of labor unions... Demanding the imposition of American-style labor and environmental standards on poor nations is merely a ruse for rejecting trade liberalization altogether. ... Likewise with environmental rules. ...

Trade opponents retort that the job growth has been a hollow victory, because the rich are getting richer and everyone else is getting poorer. But the facts indicate otherwise. As economist Alan Reynolds notes in a new study for the Cato Institute..., the Census Bureau calculates that ... income has risen just as fast among the bottom 40 percent of households as it has among the top 40 percent. ...

Brown and others cling to the superstition that we can get rich by sealing ourselves off from the world and paying each other high prices for products made entirely in the U.S. of A. If they manage to erect new barriers to trade, we'll learn once again that protectionism is nothing but fool's gold.

Saying that '"Free," when modifying "trade," is a four-letter word on the left' is a misrepresentation. It's a misrepresentation because the same division appears on both sides of the political aisle, and because many Democrats favor free trade. More on this in a moment, but this is not the only argument the author makes that is misleading. For example, the author cites The American Prospect as gleeful that "every single newly elected Democratic senator is a critic of free-trade orthodoxy." But here's Robert Reich writing in American Prospect, and there are many more examples like this:

Continue reading "The Split over Trade Is Not Confined to Democrats" »

Tuesday, January 09, 2007

Is the High Rate of Worldwide Economic Growth Sustainable?

Martin Wolf discusses the sustainability of high rates of economic growth in both developed and developing countries:

Globalisation’s future is the big long-term question, by Martin Wolf, Commentary, Financial Times: ... Let us ask ... a ... question: how strong and sustainable is the underlying dynamic of the world economy? As Lawrence Summers noted in his most recent column ..., the world economy in aggregate grew more during the past five years than in any five-year period since the second world war. Growth is not merely strong. It is also widely shared. In 2006, ... the economies of the high-income countries probably grew by 3.1 per cent,... Meanwhile, the economies of the developing countries ... expanded by 7.0 per cent, after 6.6 per cent in 2005 and 7.2 per cent in 2004.

This performance has occurred in spite of significant economic and political shocks: the collapse of the stock market bubble in 2000, the terrorist attacks of September 11 2001, wars in Afghanistan and Iraq, the continued uncertainty about future large-scale terrorism, the jump in oil prices, protectionist rhetoric in a number of high-income economies and a breakdown in the Doha round of multilateral trade talks. ...

[T]he underlying engine of the world economy is immensely powerful. ... Today’s world economy is being driven by four closely interconnected forces: technological innovation...; entry into the world economy of the vast majority of human beings ...; the “catch-up” process in these economies; and the integration of global markets in goods, services and capital that we call globalisation...

To these forces should be added the background condition of monetary stability. ... The implication of this perspective is that any slowdown – or “mid-cycle correction” – will be short-term and shallow. Not only would the underlying dynamic remain but such a slowdown would trigger offsetting forces, including more relaxed monetary policies and, in all probability, lower oil prices, as well.

Unfortunately, there is an alternative perspective. It is that much of the world suffers from a huge surplus of savings over investment. ... The effort at absorbing this surplus has had two closely interconnected consequences: the first has been the emergence of the so-called “global imbalances” in which the US has absorbed about three-quarters of the excess savings of the rest of the world; the second has been a long period of relaxed monetary policy, particularly in Japan and the eurozone, but also for some time in the US as well. This, it is argued, has had powerful effects on asset prices, particularly house prices in a number of high-income countries. Strong house prices have, in turn, sustained demand at high levels...

The more persuasive is this “liquidity” story, the more plausible it becomes that the correction is going to be more painful than conventional wisdom believes. ... How then does one assess prospects? Provided the broad story of economic dynamism remains credible, the world economy will probably overcome temporary difficulties...

So how plausible is maintenance of the underlying dynamic? For economic policy, this raises two big questions: the first is whether inflation will be contained; the second is whether globalisation will be sustained. On the former, there is no reason to forget what we have so painfully learned. On the latter, however, there is greater uncertainty.

One reason for this is that even a relatively mild slowdown might shift policy in high-income countries, especially in the US, in a much more protectionist direction. The widespread perception that the majority of the population has not been gaining from recent growth makes that outcome more likely... An open economy will become unsustainable if a majority concludes it is against its interests.

Even more important are the fragile political underpinnings of global economic integration: the US is on the verge of what may ultimately prove the most significant defeat in its history; an attack on Iran looks possible; and North Korea has become a nuclear power. Above all, we live in a world marked by shifting relative power and religious and political turmoil in much of the Islamic world.

The big question then is not whether there will be some correction – even, at worst, a US recession... The world economy should be able to survive such a jolt, provided its underlying dynamism remains in place. What matters far more is the future of economic globalisation. On that we can hope, but cannot be confident. Its viability will depend on wise leadership – a commodity, as usual, in frighteningly small supply.

Saturday, January 06, 2007

China and the Trade Deficit

Yesterday Michael Spence, the 2001 Nobel laureate in economics, a senior fellow at the Hoover Institution, and a professor emeritus at Stanford University discussed out trade deficit with China. Here's what he had to say followed by the reactions of Brad DeLong and Brad Setser.

First, the editorial:

We Are All in It Together, by Michael Spence, Commentary, WSJ: In 2005, the People's Bank of China ... accumulated $200 billion of additional reserves and is well on its way to holding $1 trillion of reserves... The accumulation ... was the policy action that caused the value of the yuan to remain stable relative to the dollar.

Casual conversation and commentary lead most Americans to think that this accumulation of reserves corresponds to a large trade surplus in China, achieved by holding the value of their currency down. In fact, the Chinese trade surplus is not that large. It is well under 5% of GDP, smaller in percentage terms than the U.S. trade deficit.

The accumulation of reserves in China is not primarily a trade-surplus issue. In 2005, China's trade surplus was $50 billion. Net inbound foreign direct investment was another $50 billion. And then, notwithstanding capital controls, there was an additional, largely unwanted net capital inflow of $100 billion. ...

The combination ... (adding up to $200 billion) would have put strong upward pressure on the value of the currency, risking a sudden and steep loss of competitiveness. To prevent this China bought foreign and largely dollar-denominated assets. ...

China has modest inflation and a reasonable balance between demand and capacity, but is out of external balance. The policy is to maintain internal balance while simultaneously moving toward external balance without losing growth. This involves letting the exchange rate rise but at a measured pace, reducing the excessively high rate of domestic saving and stimulating domestic consumption to take up the slack created by any loss ... in exports. ...

Chinese policy makers understand that holding the exchange rate down and preventing this shifting mix runs the risk of locking the economy into a labor intensive export mode for too long. Letting the currency rise will put the right kind of pressure on the economy to evolve as incomes rise. ...[T]here is a lively internal debate about what the right speed is. ...

The U.S. position on China is politically driven and is partly right and partly incoherent.

Continue reading "China and the Trade Deficit" »

Thursday, January 04, 2007

Globalization, Wages, and Jumping J-Curves

Jagdish Bhagwati of Columbia University defends globalization in this commentary from the Financial Times:

Technology, not globalisation, drives wages down, by Jagdish Bhagwati, Commentary, Financial Times [open link]: We have recently witnessed a flurry of comment in the US on the long-running stagnation of wages. Many believe that the future livelihood of the “middle class” is also at risk.

Lou Dobbs ..., the ... Economic Policy Institute and nearly all the Democrats newly elected to Congress believe that globalisation has much to do with the economic distress of the working and middle classes. Therefore they ... want to lean on the door – even to close it – on trade with poor countries and occasionally on unskilled immigration from them.

Proponents of globalisation ... find themselves in a politically implausible position: they typically ... accept this “distributional” critique of globalisation – yet nonetheless propose that those adversely affected should accept globalisation but be aided...

As it happens, globalisation’s supporters are on firmer ground than they fear. Examine the common arguments linking globalisation to the distributional distress and little survives.

First, all empirical studies, including those done by some of today’s top trade economists (such as Paul Krugman ... and Robert Feenstra ...), show that the adverse effect of trade on wages is not substantial. ...

Second, the same goes for ... studies by the best labour economists regarding the ... influx of unskilled illegal immigrants into the US. The latest study by George Borjas and Larry Katz ... also shows a virtually negligible impact on workers’ wages, once necessary adjustments are made.

Can it be that globalisation has reduced the bargaining ability of workers and thus put a downward pressure on wages? I strongly doubt this. First, the argument is not relevant when employers and workers are in a competitive market and workers must be paid the going wage. As it happens, fewer than 10 per cent of workers in the private sector in the US are now unionised.

Second, if it is claimed that acceleration in globalisation has decimated union membership, that is dubious. The decline in unionisation has been going on for longer than the past two decades of globalisation ...

Has the outflow of direct foreign investment ... contributed to a decline in wages? As I look at the data, the US has received about as much equity investment as it has lost over the past two decades. One cannot just look at one side of the ledger.

The culprit is not globalisation but labour-saving technical change that puts pressure on the wages of the unskilled. Technical change prompts continual economies in the use of unskilled labour. Much empirical argumentation and evidence exists on this. ...

Such technical change is quickly spreading through the system. This naturally creates, in the short-run, pressure on the jobs and wages of the workers being displaced.

But we know from past experience that we usually get a J-curve where, as increased productivity takes hold, it will ... lead to higher wages. So why has there been no such significant effect in the statistics on wages for almost two decades?

I suspect that the answer lies in the intensity of displacement of unskilled labour by information technology-based change and in the fact that this process is continuous now – unlike discrete changes caused by past inventions such as the steam engine. Before the workers get on to the rising part of the J-curve, they run into yet more such technical change, so that the working class gets to go from one declining segment of the J-curve to another.

The pressure on wages becomes relentless, lasting over longer periods than in earlier experience with unskilled labour-saving technical change. But this technical change, which proceeds like a tsunami, has nothing to do with globalisation.

Wednesday, January 03, 2007

The Austrians versus the Neo-Cons on International Trade

We hear a lot about the division among factions in the Democratic Party, the Rubinites and the populists in particular, over issues involving international trade. The implication is that divisions on the right, if they exist at all, are much smaller. But as this shows there is a large divide between the Austrians and the Neo-Cons on this issue:

Yellow Journalism at The Weekly Standard, by By Robert P. Murphy, Ludwig von Mises Institute: Critics of the welfare-warfare state are no fans of the magazine The Weekly Standard. Bill Kristol and its other regular contributors are among the most hawkish of neoconservatives out there. Yet these "right wingers" are also bad on economics too, even though the average person would probably consider them to be laissez-faire.

Of course, there is no real contradiction here: if the federal government (at least with Republicans in control) is good at fixing foreign cultures, then why not use it to improve the economy at home, too?

Today's case study is Irwin Stelzer's recent piece, "Worry About OPEC, Not China." Although international trade can get complicated, especially when fiat currencies are involved, Stelzer manages to pack an impressive amount of nonsense into a fairly short article. I offer this critique to shed some light on these confusing issues.

Continue reading "The Austrians versus the Neo-Cons on International Trade" »

Saturday, December 30, 2006

Exchange Rate Clubs and the Monetary Approach

There is a long comment by Ronald McKinnon on the link between exchange rates and international adjustment at Martin Wolf's blog at the Financial Times. This is a shortened version, just a part of the section at the end -- there's quite a bit more at the (open) link given above:

Exchange Rate Clubs and the Monetary Approach Specialists in exchange rate economics fall into two distinct clubs: A and B. Members of Club A, by far the larger group, have been brought up since they were undergraduates on the elasticities model of the balance of trade. Besides being algebraically tractable, the microeconomics of this model seem intuitively plausible. With nominal export prices 'sticky' in each country’s currency in the short run, the relative price effects of a depreciation in the nominal exchange rate seem to go in the right direction for reducing a trade deficit. The depreciating country’s exports become cheaper in world markets and it sells more, and its imports become more expensive in the domestic currency so it buys less, so the trade balance allegedly improves. Members of Club A focus on this link between the real, i.e., inflation - adjusted, exchange rate and the real trade balance. ...

Continue reading "Exchange Rate Clubs and the Monetary Approach" »

Sunday, December 17, 2006

The Other Side of the Export Coin

Nouriel Roubini dissects Ben Bernanke's recent comment that China's currency policy amounts to an "export subsidy" for Chinese firms and notes it could just as easily be termed an "import subsidy" for the U.S. He also talks about the wisdom of Bernanke raising the issue in the first place:

Is China Subsidizing its Exports or Subsidizing US Imports? By Nouriel Roubini: Is China subsidizing its exports or subsidizing US imports? In his written remarks - but not in his actual speech in Beijing - Bernanke urged China to stop subsidizing its exports via a weak RMB (see also Brad Setser's comments...). He could have as well said that China is subsidizing US imports of Chinese goods, thus keeping Wal-Mart prices and US inflation lower than otherwise. Of course, from an economic point of view subsidizing exports is equivalent to subsidizing imports. But - from a political economy of protectionism perspective - speaking of export subsidies is putting the blame on "unfair" Chinese policies rather than recognizing, as the term "import subsidy" would have conveyed, that this Chinese currency policy is highly beneficial to US consumers and that it is keeping US inflation lower than otherwise.

Also speaking of "export subsidies" in the context of currency policy is loaded and dangerous: export subsidies are illegal within the WTO rules. And arguing that a weak currency is effectively an export "subsidy" could even give legal cover to those in the US who may pursue protectionist legal action against China because of its alleged export "subsidies". This is not an idle threat: when I was at the White House's CEA in the late 1990s we had to fight non-stop bone-headed protectionist proposals by the Dept. of Commerce ... to change US "dumping" rules to include low import prices due to the weakening currency values of some of our trading partners (for example the Asian currencies in crisis). ...

Friday, December 15, 2006

Bernanke: Pegged Renminbi an "Effective Subsidy"

Ben Bernanke stirs up a little controversy by first planning to tell China in a speech that its undervalued currency amounts to an "effective subsidy" for exporters, then softening the language when the speech is actually delivered:

Bernanke backs off from ‘subsidy’ accusation, by Kshrina Guha, Financial Times: Ben Bernanke ... stepped into a political minefield on Friday when he released remarks branding China’s undervalued currency an “effective subsidy” for its exporters which was distorting patterns of production and trade. In what looked to be a last minute bid to avoid controversy, Mr Bernanke then dropped the phrase from his speech to the Chinese Academy of Social sciences, using the less inflammatory term “distortion” instead.

Mr Bernanke’s original text talked about “the effective subsidy that an undervalued currency provides for Chinese firms that focus on exporting rather than producing for the domestic market.” This phrase – even though not finally uttered by the Fed chief – is likely to be seized on by US manufacturers who have long pressed US government agencies to make the same determination in trade cases.

Continue reading "Bernanke: Pegged Renminbi an "Effective Subsidy"" »

Monday, December 11, 2006

Manufacturing Comeback?

The Financial Times says reports of the death of manufacturing in developed countries are greatly exaggerated:

Western industry is learning again to compete, by Peter Marsh, Financial Times (free): If the doomsayers are to be believed, virtually all the world’s production is shifting to low-cost nations such as China, in a process that will make factories in rich countries about as rare as frock-coats and gramophones.

But the reality is different. Certainly, companies have in the past decade relocated a lot of production to countries outside the main developed nations – but western Europe, North America and Japan will this year still account for about three-quarters of world manufacturing output. China’s share is about 9 per cent, albeit substantially higher than the 4 per cent it accounted for a decade ago.

Moreover, an extensive series of interviews by the Financial Times has found top executives of many industrial companies strikingly upbeat about their capability to operate plants economically in in the high-cost countries, often in tandem with other production centres in the lower-cost regions.

It is becoming clear that a wide range of factories in high-wage nations are capitalising on positive factors that offset their larger cost burden. These include the ability to develop products using sophisticated technologies and to produce highly “configured” goods tailored to the needs of local customers. ...

A generally benign economic background – the result of an economic upturn in Europe and Japan along with strong growth in emerging nations such as China and India – has provided a sturdy platform for the strengthening role for manufacturing in the rich countries. “My feeling is that many companies based in the high-cost regions have pretty much reached the limit of what they intend in transferring jobs to China and other emerging economies on the grounds of costs,” says David Hensley, director of global economic co-ordination at JPMorgan, the US investment bank. ...

After a manufacturing recession in 2001, when global factory output fell 2.5 per cent, output increased by an average of 3.6 per cent a year starting in 2002. As part of that, many manufacturers operating in high-wage regions are showing distinct signs of life, though profits for many remain fairly low. ...

[R]ecently, manufacturers have started to explore a middle ground. In steel for example, the rush is on not to acquire production in low-cost developing countries but rather that low-cost producers are struggling to buy high-end plants in Europe and the US that can make specialised, high value-added products...

When the hybrid model works within a single company, linking the two sets of plants is a transfer of know-how in production and design, with the factories in the high-wage nations – the so-called mother plants – capitalising on their higher levels of technology by generally taking the lead in these relationships...

But, illustrating the flexibility of the model, the flow of ideas can also work the other way around, helping the high-cost plants to learn from activities in the low-wage nations. ...

In many instances, companies find the competitive position of their factories in high-wage nations is protected by working in areas of sophisticated technology or design, where the capabilities of rivals in low-cost nations are still some way behind...

Many groups find their high-cost plants to be valuable not just for making products for sale to the final customer. These also sometimes have a role producing high-tech components of use by the companies’ low-cost factories, which operate using lower levels of technology.

With these high-cost plants acting as “feeders” for the low-cost operations, the conventional way in which the hybrid model works – with parts channelled from low- to high-wage nations on the grounds of costs – is reversed. ...

Sunday, December 10, 2006

Summers: Restoring Fairness

Larry Summers tells politicians to listen to their populist mandate and manage it wisely as they search for a way to distribute income more equitably, and he encourages corporations to cooperate. "The place to start," he says, "is by restoring the progressivity of the tax system":

Only fairness will assuage the anxious middle, by Lawrence Summers, Commentary, Financial Times (free): ...Coming from very different parts of the country and very different political perspectives, the new members of Congress have in common that they have all heard from the anxious middle class. They feel under enormous pressure to respond not just to the economic insecurity that middle-class voters feel, but also to voters’ resentment at what they see as disproportionately prospering corporate elites. If the new Congress sees itself as having a mandate for anything in the economic area, it is for policies that “stand up” for ordinary Americans against the threat they perceive from corporate and moneyed interests.

These populist impulses have roots much deeper than campaign rhetoric. In the past, real wages and corporate profitability have moved together... The unique feature of the current expansion is the divergence between the fortunes of capital and the fortunes of labour. While workers normally receive about three-quarters of corporate income, ... the Economic Policy Institute has calculated that, since 2001, labour has received only about one-quarter of the increase ..., as real wages have failed to keep pace with productivity growth. ...

These economic and political trends are and should be of great concern to the business community as well as to policymakers. They have led to populist policy proposals that cut against the grain of the market system by, for example, limiting free trade agreements, restricting outsourcing or limiting the ability of successful companies to expand.

The track record of such populist proposals is dismal. They rarely achieve their objectives and come with huge collateral costs. ... Yet it would not be a sufficient response for business or government simply to explain why populist policies would be counterproductive and to suggest ... a “stay the course” strategy, perhaps with increased attention to the displaced. If the anxious middle’s concerns about fairness are this serious when the unemployment rate is 4.4 per cent, they will be far greater whenever the economy next turns down.

This puts a premium on finding measures that go with ... the market system while also responding to concerns about fairness. The place to start is by restoring the progressivity of the tax system – an area where much can be accomplished before considering changes to the rate structure.

It is neither fair nor efficient to audit disproportionately the tax returns of those in the bottom half of the income distribution at a time when most of the $500bn tax gap comes from those with high incomes. There is no policy justification for allowing the erosion of corporate income tax through pervasive use of corporate tax shelters and manipulation of transfer price rules. Not only does this cost the government revenue, it also puts undue competitive pressure on companies that want to meet obligations to their workers.

Much more can done in a range of areas, from disclosure of executive compensation, to ensuring that the government leverages the volume of its purchases, to making financing of education at every level more equitable, to making sure that businesses continue to take responsibility for their workers’ healthcare costs.

When, as now, concerns become sufficiently serious, those with bad ideas always win out over those with no ideas.

John Kennedy famously challenged Americans: “Ask not what your country can do for you. Ask what you can do for your country.” In the years ahead, this question will be put with increasing force to US corporations. A great deal depends on the vigour with which it is answered.

Saturday, December 09, 2006

Varian: Who Benefits from Increased Productivity?

Hal Varian, from 2003, on the distribution of the gains from technological change and international trade:

Rising productivity is a good thing, right? Tell that to the newly unemployed, by Hal R. Varian, Economic Scene, NY Times: Recently productivity has been growing at a rate of about 4 percent a year. For the country as a whole, this means that each year we can work as much as we did last year and consume 4 percent more; or we can consume as much as we did last year and work 4 percent less.

That's got to be a good thing, right?

Well, it depends on whom you ask. In truth, those productivity gains have resulted in some people's working 100 percent less, with the rest of us consuming 4.01 percent more. If you are one of the unemployed, chances are you are less enthusiastic about the productivity gains than are those who have enjoyed the increased consumption.

Strangely, productivity growth is not getting much blame for the ''jobless recovery.'' Criticizing technological progress is downright un-American. On the other hand, criticizing foreign trade is a traditional pastime here, as in every other country.

To economists, trade and productivity growth have a lot in common: each allows you to produce more with less.

James Ingram's economics text tells the story of how an entrepreneur built a factory that was significantly more productive than his competitors' plants, and was hailed far and wide for his brilliance.

But then his dirty little secret was revealed: all he was doing was importing goods from abroad through the back door.

In terms of impact on employment, trade is usually better than productivity growth; those dollars sent abroad eventually come back to purchase American products, and employ more workers. By contrast, jobs lost to productivity increases stay lost; try to find someone today who can make buggy whips.

Gains from trade or technology initially tend to accrue to owners of capital. When a company fires a computer programmer and shifts the job to India, the company captures the difference in wages.

It wouldn't have to work that way. Suppose the programmer found his doppelgänger in India, and started exporting tasks on his own. ''Dear Sanjay, please write a subroutine to sort these accounts and send it back to me by 5 p.m. (California time).'' Each week the programmer could cash his $1,000 paycheck and send $100 to Sanjay.

This is only a thought experiment, not a policy proposal. But it illustrates the point that the controversy over trade and technology is not about whether or not they are good things -- of course they are -- but about who will capture their benefits and who will bear their costs.

There is little doubt who wins in the long run: consumers. Virtually all the gains in the standard of living in the last two centuries have come from technology. Trade has had a smaller but still significant effect on growth in per capita consumption.

Achieving the gains from technological advances can be tortuous. Back in 1886, when America's railroads standardized on one gauge, it became substantially cheaper to transport goods. A great boon for everyone, right? Well, tell that to the workers who unloaded and loaded freight at the cities where different-gauge railroads met. They rioted over the change, and understandably so -- the benefits from technological progress came at the expense of their jobs.

Eighty years later, the longshoremen's union was more farsighted. It saw new technology coming for unloading ships and negotiated lifetime employment at high wages. The result was that by 2002 a full-time longshoreman earned $80,000 to $107,000, depending on whether you ask the union or management.

The crucial issue in last year's West Coast port strike was not whether technology for managing shipyards would be introduced -- both sides were in favor -- but whether the new information-processing jobs went to union workers.

The longshoremen's union has tried to ensure that a significant part of the gains from productivity increases accrued to its members. But even the longshoremen recognize, though they might be loath to admit it, that there has to be something for both sides in the negotiation; if all the gains go to labor, there will be no incentive for capitalists to adopt more productive technology.

Capitalists have to get their piece, so they will have an incentive to pony up the money. How much labor ends up with depends on its bargaining power. If workers do not have much bargaining power, they get the short end of the deal.

In the long run, as the new technology becomes widely adopted, competition pushes prices down. The gains that originally accrued to the owners of capital are competed away, and consumers -- meaning workers for the most part -- end up with the benefits.

Look at travel agents. The Internet opened up a new channel for airlines to communicate directly to travelers. Intense competition for passengers meant that most of the gains from the new technology were passed along to consumers, with travel agents squeezed out of their jobs.

But once they find new jobs, those same travel agents will benefit from the lower prices that resulted from productivity gains elsewhere.

Workers who are at a stage of their life where they want to increase consumption, or accumulate assets, naturally resent labor-saving productivity growth or trade. But those who are about to retire, and consume more leisure, find cheaper goods attractive. It's unfortunate when trade or productivity growth causes a 50-year-old worker to lose his job; but the same economic changes can be a boon to a 62-year-old who can then afford to retire a few years early.

In the next decade, the baby boomers will start to retire and we will have to learn to produce more with less labor. Productivity growth and international trade will be important to making a successful transition to a labor-scarce economy.

But if these gains from technology and trade are to be politically palatable, we have to find a way to make sure that all can benefit from the increased opportunities they offer for consumption and leisure.

Friday, December 08, 2006

Protectionism's Winners and Losers

From The Economist:

The perils of protectionism, The Economist: Peter Mandelson is an avowed trade liberal. So it is somewhat embarrassing that as the European Union's Commissioner for Trade, he has presided over the imposition of punitive duties on a wave of Asian imports. ... But on December 6th he had the chance to repair his liberal credentials when he launched a green paper on the EU's trade-defence policy.

The EU's trade-defence rules, which determine when it can impose anti-dumping, anti-subsidy and safeguard measures, were drawn up a decade ago. But they are beginning to show their age. Global supply chains have stretched round the world and many European companies have outsourced production to Asia. As a result, more European companies are being hit by the EU's own retaliation against unfair competition. That has pitted Europe's retailers against some of its manufacturers. As one retail boss puts it, views diverge widely: “They [the manufacturers] see China as a threat and we see China as an opportunity”.

Mr Mandelson's exercise is a chance to rethink what policy would do most good for Europe's economies. He wants the EU to look again at the “community-interest” test—that anti-dumping duties can be introduced only if they are in the wider interests of European business and consumers. Retailers complain that the test is in practice biased towards producers. ...

Here's a question. Many of you favor protectionist measures to protect jobs, and that's understandable. But as the article notes, there are many businesses that benefit from importing cheap goods from foreign countries to sell here, i.e. the businesses all along the import supply chain (which is far more than the employees on the floor at Wal-Mart). And those are benefits over and above the benefits to consumers from lower prices.

If we impose protectionist measures, what about the employees of these businesses? Do their jobs count? Are you willing to tell a dock worker, a truck driver, a rail worker, a worker at Wal-Mart, their managers, the associated support personnel such as accountants, the owners of the import businesses that will fail, etc. that the U.S. would be better off if they were unemployed so that workers in manufacturing could be employed instead? What would you tell these workers if they asked you why you want to take their jobs away? I think the answer might be that the new jobs would be better jobs, but what makes you so sure that if you try to turn back the clock now, the jobs will in fact be better?

Wednesday, December 06, 2006

Rubin, Rubin, We've Been Thinking...

Robert Rubin encounters critics among House Democrats:

Dems Bite Rubin's Hand, by William Greider, The Nation: Robert Rubin, the reigning guru on economic policy for the Democratic party, got a stiff surprise when he appeared today before the closed caucus meeting of House Democrats. A bunch of Democrats, including several of the new freshmen, challenged the former Treasury secretary--instead of listening reverently to Rubin's standard pitch for free trade and balanced budgets.

David Sirota had a source inside the caucus and reports on the blowback. Indiana freshman Rep. Joe Donnelly told about the Delphi employees in his district whose wages have been broken from $21 to $9 an hour, their pension obligations dumped on the government and jobs shipped offshore-- thanks to Rubin's "free trade" system. "What do you say to that?" Donnelly asked.

New Jersey Rep. Bill Pascrell unloaded on Rubin, linking the loss of America's manufacturing base to national security. Freshman Rep. Nancy Boyda of Kansas reportedly tore into NAFTA... Ohio Rep. Marcy Kaptur recalled the US trade deficit was $70 billion when Rubinomics was launched in 1993 and $370 billion at the end of the Clinton presidency (it is now $700 billion and rising).

I have no details on Robert Rubin's responses except that another source ... says Rubin begged off the negative questions by observing that the trade issue is "complicated." One House member reportedly growled that trade may be complicated, but losing your job is not complicated. ...

Monday, December 04, 2006

Nice Work If You Can Get It

Brad DeLong reports:

A +$400 Billion Week: Pierre-Olivier Gourinchas guesses that last week the U.S.'s net foreign asset position improved by $400 billion. Americans' assets overseas, you see, are primarily denominated in local currencies or are real assets. Foreigners' assets here, you see, are primarily denominated in dollars. The weakening of the dollar thus raised Americans' assets minus liabilities by about $400 billion.

Nice work if you can get it. Exorbitant privilege.

Nice work indeed. James Galbraith has some ideas about privilege, and about how easily privilege can be lost:

The dollar melts as Iraq burns, by James K Galbraith, Comment is Free, Guardian: ...[A]s the greenback approaches two to the pound, old-timers will remember the fall of sterling, under similar conditions of deficits and imperial retreat, a generation back. We have to ask: is the American financial empire on the brink? ...

The US economy is going soft faster than the inflation hawks and growth optimists thought. Housing has been in free-fall for months. With the new Congress anxious to display "fiscal responsibility" - cue Robert Rubin who has moved in very fast on Nancy Pelosi - there won't be any help next year from them. If business investment falls off, recession could hit in 2007 or 2008. With that fear in mind, gloomy profit expectations are setting in, and that's not good for the dollar. ...

So here's the big question: is the age of the dollar economy lurching toward an end? Are China, Japan, Saudi Arabia and other big holders of T-bonds about to start a rush, or even a stately promenade, toward the exits? Let's hope not, because the world is unprepared to replace the dollar with anything else. The euro is not suited for the job... An end to the dollar system would therefore be chaotic, inflationary, and very tough on world trade. The best argument for the dollar has always been: it's not in anyone's interest to bring it down.

Could it happen, though? Yes, it could. And it could be connected to that other unfolding disaster. As the "Pax Americana" goes to hell in Iraq ... let's remember that security and finance are linked. Typically, the country that provides global economic security enjoys the use of its financial assets in world trade. And when the security situation changes, that privilege can be revoked. The consequences are unpleasant. Ask the British: after the sterling area folded, it took a generation for the UK to come all the way back. ...

Update: In Response to Galbraith, Stefan Geens at economonitor says:

Stefan Geens, economonitor: I'm not convinced — the US is hardly facing the kind of existential threat the British Empire did 60 years ago. Nor do I see Asian central banks ever deciding to "punish" the US by piling into euros, as it would harm them as much as anybody else. Nose, face, spiting, etc...

Update: Suggested to me: Who's Afraid of the Euro?

Saturday, December 02, 2006

The GOP's Affection for Protection

Ever since the Democrats took control of congress, there has been an attempt to drive a wedge between the populist and free-trade factions within the party. Daniel Gross notes that the wedge is not confined to Democrats, the "Grand Old Protectionists" have a history of erecting tariffs and other trade barriers without any help from Democrats:

Grand Old Protectionists, by Daniel Gross, Commentary, Washington Post: Since the midterm elections, concerned internationalists have fretted that the incoming Democratic Congress will curtail the nation's free-trade policies. In Slate, Jacob Weisberg identified the new breed of protectionist Lou Dobbs Democrats. "So is America headed for a bout of protectionist class warfare?" worried the Economist. "With the Democrats having won a majority in Congress, and disquiet over globalization growing, a party faction that has been powerless -- the economic populists -- is emerging," Louis Uchitelle wrote in the New York Times. Washington Post columnist Sebastian Mallaby, reflecting the consensus, concluded that "the two parties have opposing attitudes on the subject of trade: Republicans see it as a source of growth, Democrats as a source of inequality."

However, these arguments misunderstand the new politics of trade. It's not a left-right split. Since 2000, Bush Republicans have done as much as Democrats, if not more, to erect trade barriers and tariffs. President Bush has talked a good game about free trade, and his administration has negotiated bilateral free trade agreements with Australia, Colombia, Morocco and several other countries. But just as free trade was a bipartisan project in the 1990s, this decade's anti-trade backlash has been bipartisan as well. Sens. Charles E. Schumer (D-N.Y.) and Lindsey O. Graham (R-S.C.) share little in common besides a desire to slap huge protective tariffs on Chinese goods. And all by themselves, Republicans have done great damage to the cause of free trade in the past several years.

Continue reading "The GOP's Affection for Protection" »

Wednesday, November 29, 2006

"Trade Obstructionism"

Robert Samuelson says globalization is a convenient scapegoat for many of our economic problems, but a closer look shows that "It would be insane to hamper our export prospects -- exactly what trade obstructionism threatens":

Globalization Makes an Easy Scapegoat, by Robert Samuelson, Washington Post: We may be about to shoot ourselves in the foot -- or maybe the chest -- on trade. In the name of "fair trade,'' we may punish our own exporters. In 2005, worldwide exports exceeded $10 trillion. Since 1980, they've more than tripled while the overall global economy doubled. Like it or not, massive international flows of goods and services (aka "globalization'') underpin all modern economies. We can accept this reality and try to benefit from it. Or we can rail against it. We seem to be edging toward railing.

Just last week, Democratic congressional leaders signaled they might oppose new trade agreements with Colombia and Peru. Who, if anyone, would benefit is unclear. ...[T]he agreements' darkened prospects have already led to layoffs in Colombia. In the United States, manufacturers believe the agreements would expand their exports. Peru's tariffs average about 10 percent, Colombia's about 11 percent... Most of these would go to zero under the agreements.

We are dealing with ... trade obstructionism: a reflexive reaction against almost any trade agreement. The idea is that much trade is inherently "unfair.'' ...[O]ther countries compete unfairly with low wages and substandard labor practices. (Indeed, the lax labor standards are cited to oppose the Peruvian and Colombian agreements.) Vast U.S. trade deficits measure the destructiveness. If trade is so unfair, why encourage more of it?

Much of this indictment is wrong or wildly exaggerated. For example, American trade deficits haven't destroyed U.S. job creation... Consider. From 1980 to 2006, the trade deficit jumped ... from less than 1 percent of gross domestic product to about 6 percent. Still, employment in the same period rose from 99 million to 145 million. Job creation defies the trade deficits, whose causes ... have little to do with "unfair'' trade practices. ...

U.S. jobs are destroyed for many reasons -- new domestic competition, new technologies, changing consumer tastes, the business cycle. A remarkable statistic: Every three months, 7 million to 8 million U.S. jobs disappear, and roughly an equal or greater number are created. Trade is a relatively minor factor in job loss.

It is, however, an easy scapegoat. It enables critics to blame foreigners and suggest a solution -- restrict trade. Globalization becomes a convenient explanation for many economic discontents, from job insecurity to squeezed living standards.

Hence, trade obstructionism. The timing could not be worse. The U.S. economy is now moving away from growth led by housing and consumer spending... Something will have to replace that spending if the economy is to continue to expand. The obvious candidates are exports and investment (in factories, machinery) related to exports.

It would be insane to hamper our export prospects -- exactly what trade obstructionism threatens. The world is quietly retreating from a multilateral trading system, where all countries simultaneously reduce trade barriers. The latest multilateral trade talks (the Doha round) are suspended; meanwhile, there are now more than 200 country-to-country and regional trade agreements. The United States has 13. But to negotiate more of them, the president needs so-called "trade promotion authority,'' and President Bush's expires in June.

If it's not renewed -- a good possibility -- the United States will effectively prevent itself from negotiating new trade agreements, while other countries are busily doing so. The European Union is now negotiating with India. The 10 Southeast Asian members of ASEAN are negotiating with Japan, South Korea and Australia. The hallmark of these agreements is that they discriminate against outsiders. So American exporters would face higher tariffs than many of their international competitors.

The next Congress must decide whether it embraces the symbolism or reality of trade. If it chooses symbolism, it will perversely harm many of the workers it's trying to help.

Sunday, November 26, 2006

Points of Agreement between Rubinites and Populists

The New York Times has another story about the split in the Democratic Party between the populist/protectionist faction and the free-trade advocates:

Here Come the Economic Populists, by Louis Uchitelle, Commentary, NY Times: For years, the Clinton wing of the Democratic Party, exercising a lock on the party’s economic policies, argued that the economy could achieve sustained growth only if markets were allowed to operate unfettered and globally.

Overcoming protests from labor unions, a traditional constituency, the Clinton administration vigorously supported free trade agreements like Nafta and agreed to China’s admission into the World Trade Organization. If there was damage to workers, then the Clinton camp proposed dealing with it after it occurred — through wage insurance, for example, or worker retraining and other safety-net measures. ...

Over time, this combination — called Rubinomics after the Clinton administration’s Treasury secretary, Robert E. Rubin — became the Democratic establishment’s accepted model for the future.

Not anymore. With the Democrats now a majority in Congress, and disquiet over globalization growing, a party faction that has been powerless — the economic populists — is emerging and strongly promoting an alternative to Rubinomics.

Continue reading "Points of Agreement between Rubinites and Populists" »

Wednesday, November 22, 2006

The Other Battleground

Fareed Zakaria says the U.S. is ignoring the battleground that matters most, the one that ultimately determines the balance of international power:

International Commerce Is the True Battleground, by Fareed Zakaria, Newsweek: President Bush ... is preoccupied almost entirely by Iraq, Iran, Israel, Lebanon, North Korea and, if he has time enough in a day, by Venezuela and Russia. His counterparts in Asia are focused primarily on something quite different: their own economic growth. And while roadside bombs may be what makes the daily headlines, it's ultimately economics that's likely to determine the international balance of power.

Consider a paradox: over the past five years, political turmoil has swept the world. It began with the attacks of 9/11, followed by bombings in Bali, Casablanca, Istanbul, Madrid and London. There have been two major American-led wars, in Afghanistan and Iraq, which are ongoing, protracted, expensive and increasingly destabilizing. Add to this the war between Israel and Lebanon, deadlock in Palestine, Iran's bid for regional supremacy, North Korea's nuclear test and Russia's growing clashes with some of its neighbors.

During this same period, the world economy has experienced its fastest five-year growth spurt in more than three decades. In fact, per capita GDP growth ... is higher than any comparable period in recorded history. ...

Markets are supposed to be smart. What are they telling us? That the current era of globalization is more powerful, widespread and resilient than many people realize. Today we are living through something practically unique—simultaneous growth worldwide. The United States, Europe and Japan are all doing well, but so are China, India, Brazil, Turkey and a whole slew of former Third World countries. ...

If this sounds as if everything will work out fairy-tale style, it won't. Global growth has its own complications. Demand for raw materials and energy is high and will keep rising. Countries that possess such resources—Iran, Russia, Venezuela, Saudi Arabia—become islands of exception to the very rules of markets and trade that are sweeping the world. Thus global capitalism produces its own well-funded anti-capitalists. Growth is also producing environmental degradation on a colossal scale. ...

For the industrialized world, the new global economy produces new stresses and strains. With hundreds of millions, if not billions of new entrants to global markets, Western workers fear for their wages. With new players in the global economy, industries of all kinds face new competitors.

There is no way to turn off this global economy, nor should one try. Every previous expansion of global capitalism has led to greater prosperity across the world. The story of the past 100 years is one of an ever-expanding pie. But this is a massive, complex process and requires enormous focus and attention. And while other nations around the world, from China to Chile, are playing to win, the United States as a government has barely focused on any of the major challenges or opportunities that it presents. We're too busy settling disputes between Sunnis and Shiites in downtown Baghdad.

A century ago, another great global power was similarly occupied halfway across its world, fighting a war and organizing the constitutional arrangements of Dutch farmers in the Southern Transvaal. Great Britain eventually won the Boer War, but it lost its focus on the economic challenges it faced. And finally it lost something else: its standing as one of the great global powers.

Monday, November 20, 2006

Has Job Security Declined? (Update)

[Updates at the end]

The Economist blog, Free Exchange, says outsourcing and technological change have not impacted job security - it's all a myth:

Unstable?, Free Exchange: Last month, unemployment hit 4.1% in America, the lowest ... in thirty years. Yet at the same time, Democrats are vowing to protect American jobs from foreign competition... If globalisation is sending jobs abroad, how is it that unemployment is so low?

Continue reading "Has Job Security Declined? (Update)" »

"Bad Economic Policy, Bad Energy Policy, and Bad Foreign Policy"

James Surowiecki of The New Yorker explains why tariffs, quotas, price guarantees, and subsidies in the sugar and ethanol markets are "bad economic policy, bad energy policy, and bad foreign policy":

Deal Sweetners, by James Surowiecki, New Yorker: America ... consume[s] ... close to ten million tons of sugar every year. But American sugar producers aren’t satisfied with supplying the most sweet-hungry population in the world. They’ve relentlessly sought—and received—special favors... The government guarantees producers a fixed price for domestic sugar and sets strict quotas and tariffs for foreign sugar.

Economically..., this has many obvious bad results. It keeps sugar prices in the U.S. at least twice as high as the world average. It makes it harder for companies that use lots of sugar to do business here—in the past decade, an exodus of candy manufacturers from the U.S. has eliminated thousands of jobs. And import restrictions make Third World countries poorer than they’d otherwise be. But protecting sugar also has a surprising consequence: it’s hurting America’s efforts to become more energy-efficient. ...

In recent years, as politicians have tried to deal with high gas prices, concerns about global warming, and America’s dependence on OPEC, a new savior has been found: ethanol. Ethanol has all sorts of virtues. ... So Congress has mandated that four billion gallons of ethanol annually be blended with gasoline, and it also subsidizes ethanol production with a fifty-one-cent-per-gallon tax credit. These policies have stimulated an ethanol boom...

Unfortunately, the ethanol produced in the U.S. comes from ... corn. Corn ethanol’s “net energy balance” ... is significantly lower than that of other alternatives, and modern corn farming isn’t easy on the land. By contrast, ethanol distilled from sugarcane is much cheaper to produce and generates far more energy per unit of input—eight times more... In the nineteen-seventies, Brazil embarked on a program to substitute sugar ethanol for oil. Today, every gallon of gas in Brazil is blended with at least twenty per cent of ethanol, and many cars run on ethanol alone, at half the price of gasoline.

What’s stopping the U.S. from doing the same? In a word, politics. The favors granted to the sugar industry keep the price of domestic sugar so high that it’s not cost-effective to use it for ethanol. And the tariffs and quotas for imported sugar mean that no one can afford to import foreign sugar and turn it into ethanol, the way that oil refiners import crude from the Middle East to make gasoline. Americans now import eighty per cent less sugar than they did thirty years ago. ...

We could, of course, simply import sugar ethanol. But here, too, politics has intervened: Congress has imposed a tariff of fifty-four cents per gallon on sugar-based ethanol in order to protect corn producers from competition. ... [T]he Bush Administration proposed eliminating the ethanol tariff this past spring, but Congress quickly quashed the idea ... [T]he sugar quotas appear to be as sacrosanct as ever. ...

Our current policy is absurd even by Washington standards: Congress is paying billions in subsidies to get us to use more ethanol, while keeping in place tariffs and quotas that guarantee that we’ll use less. ... Because of the ethanol tariffs, we’re imposing taxes on fuel from countries that are friendly to the U.S., but no tax at all on fuel from countries that are among our most vehement opponents. Congressmen justify the barriers to foreign ethanol with talk of “energy security.” But how is the U.S. more secure when it has to import oil from Venezuela rather than ethanol from Brazil? These tariffs are bad economic policy, bad energy policy, and bad foreign policy. ...

Should Environmental and Labor Standards Be Part of Trade Negotiations?

Should we refuse to trade with countries with low environmental and labor standards, or countries that have very low taxes or subsidize exporting industries because this gives them an unfair advantage? Here are arguments against insisting on "fair trade" standards as a condition for trade liberalization:

What Should Trade Negotiators Negotiate About? A Review Essay, by Paul Krugman, March 1997: ...The economist's case for free trade is essentially a unilateral case - that is, it says that a country serves its own interests by pursuing free trade regardless of what other countries may do. Or as Frederic Bastiat put it, it makes no more sense to be protectionist because other countries have tariffs than it would to block up our harbors because other countries have rocky coasts. So if our theories really held sway, there would be no need for trade treaties: global free trade would emerge spontaneously from the unrestricted pursuit of national interest. ...

Fortunately or unfortunately, however, the world is not ruled by economists. The compelling economic case for unilateral free trade carries hardly any weight among people who really matter. If we nonetheless have a fairly liberal world trading system, it is only because countries have been persuaded to open their markets in return for comparable market-opening on the part of their trading partners. Never mind that the "concessions" trade negotiators are so proud of wresting from other nations are almost always actions these nations should have taken in their own interest anyway; in practice countries seem willing to do themselves good only if others promise to do the same.

But in that case why should ... we demand ... only of trade liberalization? ... In particular, environmental advocates and supporters of the labor movement have sought with growing intensity to expand the obligations of WTO members ..., making adherence to international environmental and labor standards part of the required package; meanwhile, business groups have sought to require a "level playing field" in terms of competition policy and domestic taxation. ...

In 1992 Columbia's Jagdish Bhagwati ... and Robert E. Hudec ... brought together an impressive group of legal and economic experts in a three-year research project intended to address the new demands for an enlarged scope of trade negotiations. Fair Trade and Harmonization: Prerequisites for Free Trade? ... is the result of that project. ...

In this essay I will not try to offer a comprehensive review of the papers; in particular I will give short shrift to those on competition and tax policy. ... Instead, I will try to sort through what seem to be the main issues raised by new demands for international labor and environmental standards.

Continue reading "Should Environmental and Labor Standards Be Part of Trade Negotiations?" »

Saturday, November 18, 2006

NBER Reporter: Firms in International Trade

What are the characteristics of firms involved in international trade? Are these firms more productive? Do they pay higher wages? What are the effects of trade liberalization on employment, labor skill levels, and survival?

Firms in International Trade, by Andrew B. Bernard, NBER Reporter, Fall 2006: For most of its lengthy history the field of international trade largely ignored the role of the firm... Traditional trade theory explained the flow of goods between countries in terms of comparative advantage... Even the research focusing on differentiated varieties and increasing returns to scale that followed Helpman and Krugman continued to retain the characterization of the representative firm.¹ However, the assumption of a representative firm, while greatly enhancing the tractability of general equilibrium analysis, is emphatically rejected in the data. My research ... has been an attempt to ... understand the decisions of heterogeneous firms in shaping international trade and their effects on productivity growth and welfare.

Continue reading "NBER Reporter: Firms in International Trade" »

Is the "Capitalist Domino" About to Fall?

Robert Reich says the U.S. should normalize trade relations with Vietnam. I agree:

The New Domino Theory, by Robert B. Reich, American Prospect: President Bush arrives in Hanoi today for discussions about regional economic issues. He would do well to discuss frankly America’s fears about the "dominoes" of Asian capitalism.

You may remember the old domino theory of Asian communism. Four decades ago, American policy makers clung to the idea that the big domino of Soviet Communism had toppled China, and the domino of Chinese communism had then toppled North Vietnam. Unless the United States propped up South Vietnam, it was assumed, all of Indo-China would become communist.

Tens of thousands of Americans died in that war before America got out and let the dominoes fall where they may. But then a strange thing happened. Soviet Communism disappeared. China became the fastest-growing big capitalist nation in the world. And Vietnam became one of the hottest markets in Southeast Asia.

The real domino turned out not to be communism, but capitalism.

Yet the capitalist domino seems almost as threatening to America today as the communist one was forty years ago. This week, Republican leaders in the House called off a vote on a measure that would have given Vietnam permanent normal trade relations with the United States. They didn’t think they could get the votes needed to pass it.

Talk about shooting ourselves in the feet. Early next year, as part of its entry into the World Trade Organization, Vietnam will reduce tariffs on foreign goods and open its telecom and financial services sectors to foreign investment. But as things now stand, America won’t benefit from these measures because Congress won’t normalize trade relations with Vietnam.

Why not?

Continue reading "Is the "Capitalist Domino" About to Fall?" »

Wednesday, November 15, 2006

Exchange Rate Models "Not as Bad as You Think"

Charles Engel says there has been progress on exchange rate models since Meese and Rogoff's famous finding that the models are no better than a random walk at predicting the out-of-sample evolution of exchange rates:

Exchange-Rate Models, by Charles Engel, NBER Reporter, Fall 2006: Recent research that my co-authors and I have undertaken, as well as related research by other NBER researchers, suggests that theoretical models of foreign exchange rates are "not as bad as you think." ...

Should Exchange Rate Models Out-predict the Random Walk Model? For many years, the standard criterion for judging exchange rate models has been, do they beat the random-walk model for forecasting changes in exchange rates? This criterion was popularized by the seminal work of Meese and Rogoff.[1] They found that the empirical exchange rate models of the 1970s that seemed to fit very well in-sample tended to have a very poor out-of-sample fit. ...[S]ubsequent work has evaluated exchange rate models by the criterion of whether they produce forecasts with a lower mean-squared error than the simple random walk forecast of no change. Mark's (1995) paper was important in reviving interest in empirical exchange rate models.[2] He found that the models were helpful in predicting exchange rates at long horizons. Subsequent work has cast doubt on whether exchange rates can be forecast at long horizons, so there is a weak consensus that the models are not very helpful in forecasting...

West and I question the standard criterion for judging exchange rate models.[3]

Continue reading "Exchange Rate Models "Not as Bad as You Think"" »

Tuesday, November 14, 2006

Yesterday's Lou Dobbs

Guess where Perot "giant hypocrite sound" Systems is setting up operations?:

Company Ross Perot Built Is Now Hiring, in Mexico, by Elisabeth Malkin, NY Times: Remember Ross Perot’s “giant sucking sound”? The Texas billionaire and onetime presidential candidate railed against the North American Free Trade Agreement in the early 1990s, arguing that it would create a “giant sucking sound” of good American jobs pulled to low-wage Mexico.

But things change. Last week, Mr. Perot’s Texas company announced that it was hiring — in Mexico. The Perot Systems Corporation, which manages information technology for companies, is setting up a technology center in Guadalajara where it expects to employ 270 engineers by the middle of next year. ...

Perot Systems, based in Plano, Tex., had sales of $2 billion last year and employs 20,000 people in more than 20 countries, 6,000 of them in India alone. ...

Back in 1992 and 1993, Mr. Perot’s anti-Nafta harangues made him highly unpopular in Mexico... But a dozen years into Nafta, Mexicans are willing to let bygones be bygones. And so, it seems, is Mr. Perot...

Wednesday, November 08, 2006

Populism vs. Nationalism

I think this is a useful distinction:

A poll victory for economic nationalism, by Jacob Weisberg, Commentary, Financial Times: The bums, or at least many of them, have been thrown out. So the political conversation turns to the question of what the Democrats will do now... While it may be too soon to answer that question, we have seen enough to be alarmed about one tendency in particular: economic nationalism...

Most of those who reclaimed Republican seats campaigned against free trade, globalisation and any sort of moderate immigration policy. That these Democrats won makes it likely that others will take up their reactionary call...

There is an important distinction to be made between economic populism and economic nationalism. Many of Tuesday’s Democratic victors stressed familiar populist themes: corporate misbehaviour and tough times faced by working people. ... Raising the minimum wage (which Republicans foolishly failed to do before the election) is a classic populist position. Opposing Bush tax cuts for the wealthy is another. But in places where Democrats made their most impressive inroads ..., one heard a distinctly different message of economic nationalism. Nationalism begins from the same premise that working people are not doing so well. But instead of blaming the rich at home, it focuses its energy on the poor abroad. The leading economic nationalist today is probably Lou Dobbs, who natters on against free trade, outsourcing, globalisation and immigration...

The most prominent nationalist candidate this year was Sherrod Brown, who unseated incumbent Senator Mike DeWine in Ohio, a state that has lost 200,000 manufacturing jobs since George W. Bush became president. Mr Brown is the author of a book called Myths of Free Trade: Why American Trade Policy Has Failed. Here is a snippet from one of his television advertisements: “Sherrod Brown stood up to the president of his own party to protect American jobs, fighting against the Mexico and China trade deals that sent countless jobs oversees.” For some reason, economic nationalists never seem to complain about job-killing Dutch or Irish competition. The targets of their anger are consistently China and Mexico, with occasional whacks at Dubai, Oman, Peru and Vietnam.

One heard similar themes in the other pivotal Senate races. ... A much harder-edged nationalism defined many of the critical House races, where Democrats called for a moratorium on trade agreements, for cancelling existing ones, or, in some cases, for slapping protective trade tariffs on China. These candidates also lumped illegal immigrants together with terrorists and demanded a fence along the Mexican border. In Pennsylvania, Democratic challengers defeated Republican incumbents by accusing them of destroying good jobs by voting for the Central American Free Trade Agreement and being soft on illegal immigration. “Fair trade” candidates also won back formerly Republican seats in Ohio, Indiana, Iowa, North Carolina and Wisconsin.

Economic nationalism is not unique to Democrats – nor is it a new theme for them. The protectionist wing of the party first emerged in the 1980s when America’s manufacturing decline was linked to imports. ... But during his 1992 campaign, ... Mr Clinton espoused a free-trade position and embraced globalisation through his presidency. This set the direction for his party despite significant resistance in Congress. Mr Clinton’s argument was always that government should address the negative consequences of open trade through worker retraining programmes and by ensuring benefits not tied to employers, like healthcare and portable pensions. But the human capital part of Mr Clinton’s globalisation agenda never went anywhere, which partially explains the current backlash. ...

It would be going too far to say that the 2006 election ushers in a new protectionist consensus. But free trade has definitely left the building.

The populist, economic nationalists versus the populist, economic globalists.

I think Democrats should leave the globalist-nationalist debate aside and focus on areas of agreement first - implementing smart populist policies - because once that's done, the nationalist arguments will be less compelling and hopefully will then fall by the wayside. Here's a similar view:

Thus, ... the best road forward [is] to (a) make the Democratic coalition politically dominant through aggressive populism, and then (b) to argue for pragmatic reality-based technocratic rather than idealistic fantasy-based ideological policies within the Democratic coalition.

Tuesday, November 07, 2006

The New Globalization

I'm not sure this says as much new about globalization as the author claims, e.g. the Blinder work he refers to is discussed in "Offshoring: The Next Industrial Revolution?," but it's worth repeating in any case:

The new globalisation, by Anthony Giddens, Guardian: Globalisation is in the news again, following Gordon Brown's call yesterday to "rout the anti-globalisation forces of protectionism". ... Since ... globalisation has been debated so intensively and so continuously ... it is tempting to think that nothing original can any longer be said about it. But such a thought would be wrong. Anyone interested in how globalisation is changing our lives, and our economies, would do well to ponder the recent writing of a group of eminent economists at Princeton University. They are Professor Gene Grossman, Alan Blinder and their colleagues, together with a British author working in Geneva, Richard Baldwin, who has commented usefully on their work.

They have produced what they call a "new paradigm" of globalisation... One can see globalisation as involving several distinct phases of the disentangling of previous integrated economic activities. Starting in the late 19th century, sharp reductions in transportation costs meant that many goods no longer had to be made close to the place of their consumption. Since about the 1970s, because of a further leap in the ease of communication and transportation, stages in the actual manufacturing process can be separated from one-another and carried out at a distance. Transnational firms have developed a global division of labour...

But now a further phase of is occurring, Grossman et al say, coming from new processes of electronic offshoring, which are affecting services rather than manufacture. So far so conventional, because we are all aware of the growth of call centres in India... However, the authors say, electronic outsourcing is likely to go far deeper than call centres. Any service job can be outsourced that displays four characteristics - if it involves the heavy use of IT; its output is IT transmittable; it comprises tasks that can be codified; and if it needs little or no face-to-face interaction. Blinder believes that somewhere between 30 and 40 million service jobs in the US will be open to offshoring in the future. Since all manufacturing jobs can be offshored too, this would lead to a total of between 42 and 52 million. He doesn't mean that all those jobs will be offshored. However, the workers in those jobs will be exposed to competition from people overseas who will do the same jobs, to the same standards, for much lower wages.

Electronic offshoring is the basis of the new paradigm of globalisation. ... In the next phase of globalisation, global competition is occurring at the level of the individual job, or type of job, rather than at industry or trade level. The same type of job, in other words, can be outsourced across firms and industries of widely different types. It will hence be less useful in the future to see the winners and losers from globalisation in terms of the sector to which they belong or even their skill group. ... The winners and losers will be much more difficult to predict. ...[It] is [not] necessarily the case that the winners will be the highly educated or highly skilled, since the consequences will depend upon the actual task they are carrying out, not the overall competitiveness of the firm or industry in which they work - or their level of education.

The wages of many jobs are set by the fact that ... they are not affected by international competition. A cab-driver in London earns a lot more than a cab-driver in Manila not because he or she does a better job, but because ... cab-driving is non-tradeable. It will remain so, unless someone discovers a way of driving taxis remotely. The same does not apply at all for a host of workers in offices, hospitals or banks who previously believed they were safe from direct competition from workers overseas. ...

Take as an example the work of surgeons. More and more operations almost certainly will be carried out at a distance,... It may be possible for the surgeon to carry out many more operations in the working day than when he or she was confined to a single hospital. Should this happen, the best surgeons will be in much greater demand than the poorer ones, who will find their income dropping and perhaps their livelihood disappearing altogether. Globalisation will be helping one highly qualified worker, but harming the prospects of the other - even though they are both in a sector where overall Western countries have a competitive edge.

Offshoring so far has only affected a small proportion of jobs in the advanced economies, so all this is at a relatively speculative stage. But there are some clear policy implications. Wherever possible, skills training should not be too specialised. What will matter most will be flexibility and adaptability, both at the level of the firm and the overall workforce. It will probably not be the unskilled and semi-skilled who will have to make most adjustments, as has been true in the recent past. ... We need to revise our ideas on these issues, starting now. Mr Brown is right to argue against protectionism, but if we don't get our thinking right the trend might accelerate rather than diminish.

Monday, November 06, 2006

Worker Security, Social Insurance, and Protectionism

More on the decline in worker security:

US faces globalisation without safety net, by Alan Beattie, Commentary, Financial Times: If Americans are feeling ever more insecure about inequality, jobs and globalisation, they are not alone. The concerns of the “anxious middle” income earners are echoed across the Atlantic. But ... Americans have tended to display a much greater tolerance for the type of economic dislocation that can accompany globalisation...

Statistically, the European Union and the US show the same level of enthusiasm for foreign trade and globalisation. Trade also accounts for a similar percentage of both economies. But Europeans demand a larger social safety net ... to shield them from the vagaries of competition, judging by studies of trade, taxes and welfare payments. ...

Meanwhile, differences in inequality between the US and Europe owe as much or more to redistribution as to unequal wages. ...[W]hile wage disparities are similar, in the US government cash benefits reduce the proportion of households in poverty by less than one-quarter, while elsewhere in the OECD welfare systems reduce that proportion by more than half. Among rich countries, the US is thus left with the largest proportion of households living in poverty.

European workers are also much more cushioned if they become unemployed. ... On top of this the European workforce receives a higher “social wage” – public education, healthcare and housing provided free or heavily subsidised by the state – whether employed or not. ...

Who's responsible for the decline in worker security in Europe and the U.S.? According to this, you are:

Consumers Are Killing the Welfare State, by Gabor Steingart, Spiegel: Consumers just want a good deal -- they don't care where a product has been made or whether there is any social safety net in that country. ... We ... expect legally mandated vacations, protection from being fired and sick days. If everything goes wrong in life, we fall back on welfare...

And therein lies the rub: With its surcharges to fund the social safety net, ...[this] significantly increases the labor costs of each employee... [O]ne of the primary reasons for price differences between new and old members of the world labor market is the welfare state. ...

Continue reading "Worker Security, Social Insurance, and Protectionism" »

Tuesday, October 31, 2006

Can "State-Business-Union Collaboration" Save the Middle Class?

In one of the comments in Martin Wolf's forum about Larry Summers commentary on the difficulties globalization is causing for the middle class worldwide, Robert Wade writes:

Robert Wade: Larry Summers says: "The economic logic of free, globalised, technologically sophisticated capitalism may well be to shift more wealth to the very richest and some of the very poorest in the world, while squeezing people in the middle." A new study by Peter Edward presents confirming evidence (... 2006, 'Examining Inequality: Who Really Benefits from Global Growth?', World Development...). Of the increase in world consumption between 1993 and 2001 between 50 and 60 per cent accrued to those in the top 10 per cent of world PPP income in 1993, of whom four-fifths lived in the (old) OECD and most of the rest in Latin America. ...

Most of the rest of the increase accrued to the burgeoning middle class of China. Hardly any accrued to those living on less than $1-a-day, though 'hardly any' in percentage terms may have been sufficient to push enough people up ...[so] that the number under $1-a-day fell while the number between $1 and 2-a-day rose.

So when Larry talks of the "global middle class" being squeezed he is talking about the vast majority of the world's population, and the even bigger majority of the world outside the OECD and China. This should qualify any easy assertion that "globalization works"...

Larry also says: "[W]ithout its [the global middle class'] support it is very doubtful that the existing global economic order can be maintained." ... Elites are likely to sponsor measures that lower inequality only when their legitimacy is seriously threatened. We see fluctuations in after-tax inequality over time in response to the degree of threat to the capitalist order or to the survival of particular states... But despite the ... constancy (not fall) of world income inequality (the fast rise of China and India notwithstanding), inequality has hardly [been] an issue [in] global or even national policy discussion. ...

Finally, Larry says that 'the combination of low wages, diffusible technology and the ability to access global product and financial markets has fuelled an economic explosion' in Asia, especially in China. The problem here is that low wage labour is available all over the place, not just in Asia, and diffusable technology is, from the supply side, diffusable all over the place. Asian economies have certainly benefitted from being able to access global product and financial markets... But they have adopted policy regimes that depart in major ways from the principles that Larry keenly promoted from the US Treasury, whose spirit is caught in his remark in this column, 'protectionism [note the 'ism', as though it is a creed, like communism] is counterproductive'.

The governments of the successful economies (think Japan, Taiwan, South Korea, Singapore for starters) have in practice adopted a variety of policy instruments to accelerate the national integration of the economy, as a complement to Larry's central interest in 'international integration'. In the first three, these policy instruments included managed trade regimes with substantial amounts of protection ... in line with a larger development strategy. Larry refers to 'middle-income countries without natural resources struggl[ing] to define an area of comparative advantage'. I suggest that the struggle to define and exploit areas of comparative advantage in the context of increasing competition in world markets may ... involve a more pro-active directional thrust from the state (the direction established through state-business-union collaboration) than Larry would be happy to endorse. ...

I don't think state-business-union collaboration is the answer to this problem. Do you? Martin Wolf also comments on the article.

Sunday, October 29, 2006

Summers: The Global Middle Cries Out for Reassurance

Because of the problems globalization and technological change have created for middle class workers, Larry Summers believes that the advancement of global integration will depend upon "what can be done for the great global middle" through policies enacted by the "best parts of the progressive tradition." He has in mind progressives who "do not oppose the market system," instead "they improve on the outcomes it naturally produces":

The global middle cries out for reassurance, by Larry Summers, Commentary, Financial Times (free): ...Neither the after-effects of September 11 2001 nor a tripling in oil prices has prevented the world’s economy from growing faster in the past five years than in any five-year period in recorded economic history. Given this recent performance and the ... optimistic outlook, one might have expected this to be a moment of particularly great enthusiasm for the market system and for global integration.

Yet in many corners of the globe there is growing disillusionment. From the failure to complete the Doha trade round to pervasive Wal-Mart-bashing, from massive renationalisation in Russia to the success of populists in Latin America and eastern Europe, we see a [growing] degree of anxiety about the market system...

Why is there such disillusionment? Some anti-globalisation sentiment can be seen as ... arising from the Bush administration’s foreign policy misadventures. But there is a much more troubling source: the growing recognition that the vast global middle is not sharing the benefits... – and that its share of the pie may even be shrinking.

Continue reading "Summers: The Global Middle Cries Out for Reassurance" »

Friday, October 27, 2006

"Twin Deficits, Twenty Years Later"

A new paper from the New York Fed looks at the twin deficits debate. Here's the introduction explaining the debate, part of the conclusion, and a link to the paper:

Twin Deficits, Twenty Years Later, by Leonardo Bartolini and Amartya Lahiri, Current Issues in Economics and Finance, October 2006  Volume 12, Number 7: In recent years, the twin-deficit hypothesis—the argument that fiscal deficits fuel current account deficits—has returned to the forefront of the policy debate. The argument first emerged in the 1980s, when a significant deterioration in the U.S. current account balance accompanied a sharp rise in the federal budget deficit. Now, with the U.S. current account and fiscal balances plunging by 3 and 4 percent of GDP, respectively, from 2001 to 2005, the view that the two deficits might be closely linked has attracted new interest. Changes in U.S. fiscal policy have also been viewed as playing a key role in widening the nation’s current account deficit since the turn of the millennium and thus in determining whether global current accounts will be rebalanced over the next decade.

According to the twin-deficit hypothesis, when a government increases its fiscal deficit—for instance, by cutting taxes—domestic residents use some of the income windfall to boost consumption, causing total national (private and public) saving to decline. The decline in saving requires the country either to borrow from abroad or reduce its foreign lending, unless domestic investment decreases enough to offset the saving shortfall. Thus, a wider fiscal deficit typically should be accompanied by a wider current account deficit.

Casual observation suggests that the twin-deficit hypothesis accurately captures the U.S. experience in the 1980s and the first years of the new century. However, the hypothesis does not explain the U.S. record of the late 1990s, when a substantial current account deficit coexisted with a federal budget surplus. Nor does it accord with Japan’s experience during the 1990s, or the experience of many other countries undergoing sharp swings in fiscal policy over the past two decades. Many empirical studies have also failed to find a strong relationship between fiscal and current account deficits, perhaps because they have used data on a very limited number of countries or have focused on periods that were too short to yield reliable evidence in a variety of environments and over time.

This edition of Current Issues contributes to the debate on the twin-deficit hypothesis by analyzing the link between fiscal and current account deficits across a larger sample of countries and over a longer period than examined in earlier studies. Reviewing the international record over the past thirty years, we revisit both key components of the twin-deficit hypothesis: the relationship between fiscal policy and private saving, and the response of current account balances to fiscal policy changes. Our findings confirm the broad wisdom that private saving indeed tends to decline when fiscal policy loosens. However, this response may have weakened over time. Saving now tends to fall by about 35 cents in response to each extra dollar of fiscal deficit, down from the decline of 40 to 50 cents that researchers have reported for earlier periods. In addition, much of the decrease in national saving is matched by a drop in the current account, whose deficit rises by 30 cents for each extra dollar of fiscal deficit.

These results offer some support for the twin-deficit view. They suggest, however, that the effects of fiscal policy on saving and the current account balance are too weak for deficit reductions in the United States to play a central role in correcting the nation’s current account imbalance with the rest of the world.


Conclusion ...Our estimates suggest that even if the federal fiscal deficit—currently about 2 percent of GDP—were fully erased, the nation’s current account deficit would improve by only a fraction of its current 7 percent of GDP. For example, if the U.S. current account continues to respond to fiscal changes as it has, on average, in our sample of OECD countries—by 30 cents on the dollar—a full elimination of the federal fiscal deficit would improve the U.S. current account by only 0.6 percent of GDP, or less than one-tenth of its current level. While these calculations are based on historical correlations that could break down if circumstances change in unexpected ways, they are nonetheless suggestive of the likely magnitude of the effects at work.

Friday, October 13, 2006

Mishkin: Globalization: A Force for Good?

The newest Fed Governor, Frederic Mishkin, gives his first speech. The topic, the globalization of financial markets, has been covered here recently in an commentary by Mishkin from the Financial Times, and an interview from Crooked Timber about his book on the same topic. Here's one small section of the speech:

Globalization: A Force for Good?, by Frederic S. Mishkin, Board of Governors: ...Can more globalization--in particular, financial globalization--be a force for good?

The globalization of trade and information over the past half century has lifted vast numbers of the world's people out of extreme poverty. Despite the doom and gloom that you often hear, world economic growth since the Second World War has been at the highest pace ever recorded. What we are seeing in countries that are export oriented, and thus able to take advantage of the present age of globalization, is a reduction in poverty and a convergence of income per capita toward industrial-country levels. In India and China, for example, globalization in recent years has lifted the incomes of more than 1 billion people above the levels of extreme poverty. ...

The benefits of globalization of trade in goods and services are not controversial among economists. Polls of economists indicate that one of few things on which they agree is that the globalization of international trade, in which markets are opened to flows of foreign goods and services, is desirable. But financial globalization, the opening up to flows of foreign capital, is highly controversial, even among economists...

For example, in his best-selling book Globalization and its Discontents, Nobel laureate Joseph Stiglitz is very critical of globalization because he sees the opening up of financial markets in emerging-market economies to foreign capital as leading to economic collapse. Even Jagdish Bhagwati, one of the leading economists defending globalization of trade (after all, his book is titled In Defense of Globalization), is highly skeptical of financial globalization, stating that "the claims of enormous benefits from free capital mobility are not persuasive." George Soros, the prominent financier, opens his book On Globalization with a chapter entitled "The Deficiencies of Global Capitalism."

One reason for the controversy is that opening up the financial system to foreign capital flows has led to some disastrous financial crises causing great pain, suffering, and even violence. These crises can arise when bad policies encourage excessive risk taking by financial institutions, policies that rich elites in the developing countries often advance for their own profit. There are those (including Stiglitz and Bhagwati) who put the primary blame for the failures of financial globalization in emerging-market economies on outsiders, specifically on the International Monetary Fund, or what they refer to as the Wall Street-Treasury complex. The evidence has brought me to the conclusion that institutions like the IMF or the U.S. Treasury are not primarily to blame, although neither are they blameless--public and private financial institutions active in the international capital markets have often aided and abetted poorly designed financial globalization, although that was not their intention. ...

We have seen that the repression of the financial system is a great obstacle to economic growth and the reduction of poverty in poorer countries. Yet, if financial development offers such tremendous benefits, why doesn't every country jump on the path to growth and prosperity by imitating the institutions of the advanced economies? Part of the answer is that good institutions need to be home-grown; institutional frameworks that have been developed in the rich countries frequently do not translate well to poorer countries. This is a lesson that many in the advanced economies of the world have yet to learn. The development of good institutions in the advanced countries took hundreds of years; as they grew, they adapted to local conditions. Poor countries must develop their own institutions, and the citizens of these nations must feel they have ownership of the institutions or the institutions will be ineffective and short lived. ...

I will conclude by saying that those who oppose any and all globalization have it completely backward: Protectionism, not globalization, is the enemy. It is true that, by itself, globalization in both finance and trade is not enough to ensure economic development and that economies must position themselves to handle foreign capital flows. But as I said, to be against globalization as such is most assuredly to be against poor people, and this is presumably not the position antiglobalizers want to take. Developing countries cannot get rich unless they globalize in both trade and finance. Making financial flows truly worldwide and creating robust, efficient financial markets in developing countries is not optional: It needs to be the focus of the next great globalization. In sum, I want to challenge those who oppose globalization to rethink their objections. As Kofi Annan, the Secretary General of the United Nations, has put it, "The main losers in today's very unequal world are not those who are too much exposed to globalization. They are those who have been left out." Rather than opposing or limiting globalization, we in the rich countries and those in the developing countries must, as a moral imperative, work together to make globalization work for the general good of people all over the world.

Tuesday, October 10, 2006

Banning Child Labor in India

The problem of poverty induced child labor in India:

India's latest move to stop child labor, by Anuj Chopra, Christian Science Monitor: On a rainy night, ... Raju is busy at work. This timid 10-year-old works 12-hour days serving customers and scrubbing mountains of utensils... After a full day, he often pockets less than a dollar. If there's food left over, he gets a meal. If not, he goes home on an empty stomach.

Concerned about the future of children like Raju, India Tuesday begins implementing a country-wide ban on children below 14 working as domestic help or in the hospitality sector. And punishment for those who choose to defy it is stringent: imprisonment for up to two years and a fine as high as $430.

Children in India are already banned from working in factories, mines, and other perilous jobs. India's Child Labor Act, first passed in 1986, will now carry two more in a list of 57 professions deemed "hazardous" for children.

Child rights activists in India say it's an important step in the battle to stop child labor. But some worry that the government is still not doing enough to provide alternative options for families that depend on income from their children. And many are skeptical about how effective enforcement of the ban will be.

"It is important to remember that the problem won't disappear by just introducing a ban," says Shireen Miller, head of policy at the India branch of the US-based Save the Children organization. "Legislation is a start," she says pointing out that previous legislation hasn't been stringently enforced.

"Now there's a clear signal that [no one] can get away with employing and exploiting children as workers," says Shantha Sinha, an anti-child labor activist who in 2003 won the prestigious Ramon Magsaysay Award. Ms. Sinha recalls how all 34 cases of domestic child labor that she took up last year ... couldn't stand up in court. All of the accused wriggled out of blame, she says, as employing children as domestic help wasn't then prohibited by law. She hopes this ban will reverse such tendencies.

India has the largest number of child laborers on the planet. ... According to the New Delhi-based, National Sample Survey Organisation, nearly 16.4 million Indian children aged 5-14 years are engaged in economic activities and domestic or non-remunerative work. The World Bank puts that figure at 44 million. ...

Ingrid Srinath, the CEO of Child Rights and You (CRY), a New Delhi based NGO, calls the ban notification "insular" and is skeptical that it will do much good in its current form. The ban, he says, does little to address the reasons that compel children to work: backbreaking poverty, family debts, marginalization, and migration of their parents.

A recent study conducted by the International Labour Organization found that "children's work was considered essential to maintaining the economic level of households, either in the form of work for wages, of help in household enterprises, or of household chores in order to free adult household members for economic activity elsewhere."

Raju's father, a daily wage laborer, frets that the ban will only exacerbate his family's financial woes. "At least now, he doesn't steal. He earns his meals with dignity," he says. "If the ban is enforced, he might be forced to beg for alms, or the family might go hungry."

India's Ministry of Labor and Employment hasn't yet spelled out any coherent rehabilitation and education plan for children who they lose their jobs. The Ministry assures that a blueprint to ensure self-sufficiency for the kids will emerge soon.

Activists also say that the ban won't work unless mindsets change. Children are widely employed in the homes of India's affluent and middle classes.

Raju's employer, a coarse, burly man who calls himself Pappu, employs two other kids, 12 and 14. Pappu intends to retain his young employees despite the ban. And if cops pester him, he unabashedly says, he'll do what many Indians often do to give the law a slip - offer a bribe.

He says he doesn't see anything wrong in employing the children. "I give the best I can offer," he says. "I do take care of them. I give them food. The kids won't survive if they don't work."

This notion of benevolence often masks the exploitation and the long-term harm for children, says Ms. Sinha. "Just because children are given food or money doesn't mean that they're benefiting," she says. "They're cheap and work long hours without any question. That's exploitation. The ban now gives weight when we say: 'That's wrong!' "

I believe that, to the extent that there has been a reduction in child labor, international trade has helped to force the changes that brought it about. Of course we shouldn't overlook child labor for the economic benefits it might bring us. But if improvement is fueled by the demand for change as a condition of trade, then closing the doors to trade is not the solution. As much as we'd like to say "stop this before we trade at all," the reality is that economic conditions don't allow the change, at least not easily, and trade coupled with the insistence on steady improvement is a means to overcome this constraint.

Monday, October 09, 2006

Mishkin: Promoting the Next Great Globalization

Our newest Federal Reserve System governor, Frederic Mishkin, on how globalization of the financial system can help to lift poor countries out of poverty. This was written just before his appointment to the Fed:

Promoting the next great globalisation, by Frederic Mishkin, Commentary, Financial times: While much of the talk about globalisation is of either the “for” or “against” variety, this is a false choice. The real question is whether political and business leaders will take the world in the prosperous direction of the next great globalisation, that of the financial systems of emerging market countries, or the perilous path of the next great reversal, a retreat from free flows of goods, services and capital across borders.

The globalisation of trade and information in the past half century has lifted vast numbers of people out of extreme poverty. World economic growth since 1960 has been the highest ever. There has been a convergence of income per capita and a reduction of poverty in countries that have taken advantage of globalisation by becoming export-oriented. In India and China, globalisation has led more than 1bn people out of extreme poverty.

Countries that have not been able to take advantage of globalisation, such as most of sub-Saharan Africa, have not only seen their position relative to globalisers fall, but have experienced absolute drops in per capita income...

Globalisation is not inevitable, nor does it march immutably forward. What we are experiencing is actually the second great globalisation of trade and capital flows in modern times. The first began in 1870 and ended with the start of the first world war in 1914. The war disrupted capital flows and international trade between nations. The world economy never fully recovered from this Great Reversal and the 1930s saw a global depression, the rise of fascism and the start of the second world war.

Could there be another Great Reversal in which globalisation retreats and the world suffers political, social and economic upheaval and destruction? The answer is yes. In recent years there have been notable electoral successes of anti-globalist politicians in developing countries.

What can be done to help poorer countries reach the next stage of economic development so they can eventually get rich? The development of an efficient financial system will enable emerging market economies to allocate capital to its most productive uses. Institutions need to be created that promote strong property rights and a well-functioning legal system. Institutional reform must be put at the top of the agenda in developing countries. This can be difficult because ... rich elites and special interests have much to lose from anything that encourages an efficient financial system and promotes competition.

The solution is to increase demand within developing countries for more robust financial activity. Financial globalisation helps create these incentives because when domestic companies in developing countries can borrow from abroad or from foreign financial interests, domestic financial firms start to lose business. They will need to find new customers to whom they can profitably lend. ... These firms will need to push for institutional reforms... They will be more likely to encourage legal reforms to protect property rights.

Rich countries can help encourage this institutional development by providing the right incentives. As William Easterly has pointed out in his book, The Elusive Quest for Growth, aid has generally not worked well in promoting development because it has not provided the right incentives for governments to act in their citizens’ interest.

What promotes development is encouraging poorer countries to pursue an external orientation and develop a successful export sector. This not only forces the economy to become more efficient, but creates a demand to improve institutions. In addition to offering technical assistance and greater incentives for institutional development, advanced countries can also help to alleviate poverty by opening up their markets to exports from poorer countries. Those who lose their jobs in advanced countries from this opening of markets deserve our sympathy and our support to find new jobs, but displaced workers can be assisted in other ways than trade restrictions.

Free trade, fuelled by effective financial support, raises productivity in developing and advanced countries alike. “Trade not aid” will help make globalisation work to the benefit of poorer countries. Financial reform in developing nations is the first step in promoting this happier state of affairs.

Thursday, October 05, 2006

Fraternal Twin Deficits

Menzie Chinn on the relationship between the current account and budget deficits:

Twin deficits redux, by Menzie Chinn:

On the current account deficit, "We have met the enemy, and he is us".

[T]he issue of global imbalances ... is never far away from policy-makers minds. Of course, there are two major camps in the debate. First, there is the Bernanke "global saving glut" view, and the closely related but intellectually distinct "Bretton Woods Revived" force. The U.S. current account deficit, according to adherents of this view is made abroad, or at least made anywhere but in America. Second, there is the "Twin Deficits View". This perspective has taken a lot of lumps in recent years, partly because the current account deficit kept on rising even as the budget balance moved toward surplus over the latter part of the 1990's. Of course, since budget surplus was achieved in 2000, the Administration's policies have re-established the positive correlation between budget deficits and current account deficits by driving both to new nominal heights (and percent of GDP records, for the current account).

But what of the 1990's experience? Doesn't the divergent trends in the two deficits necessarily invalidate the twin deficits hypothesis? Certainly, this talking point has been taken as a way to absolve fiscal policy of any responsibility in the current account imbalance. Well, my response to this bivariate view of the world is that questions like this led man to create "multiple regression analysis". Taking this perspective, Hiro Ito and I have updated the results [PDF] discussed in this post.

Specifically, we have "rigorously interrogated" the data... We find the following (for the industrial countries, as defined by the IMF), over the 1975-2004 period:

  • The pooled OLS estimate of the response of the current account balance to the budget balance, using 5-year-averaged data and time fixed effects, is 0.15 to 0.16. This means a one percentage point (ppt) change in the budget balance to GDP ratio induces a 0.l5 to 0.15 ppt improvement in the current account to GDP ratio (statistically significantly different from zero, using robust standard errors, and the 10% marginal significance level). ...
  • The two stage least squares estimate (i.e., accounting for endogeneity) of the response is 0.325, statistically significantly different from zero at the 10% level.
  • The estimate using Hodrick-Prescott (HP) trends (to identify the medium term values) is 0.095, statistically significantly different from zero at the 10% level.
  • The OLS estimate using HP trend data and fixed effects is 0.485, statistically significantly different from zero at the 10% level. This result means that a 1 ppt. increase in the budget balance to GDP ratio purged of business cycle frequency effects induces an approximately 0.5 ppt. improvement in the the current account balance purged of business cycle frequency movements, after conditioning for country specific effects.
  • In general, the point estimates range from a minimum of 0.095 (HP trends and OLS) to a maximum of 0.485 (HP trends, fixed effects), with a median of the estimates reported in the paper of 0.325.

In other words, in an exhaustive study that has addressed issues of specification (pooled OLS versus fixed effects), extraction of medium term variation (five year averages versus Hodrick-Prescott filtering), endogeneity (OLS versus 2SLS), the importance of institutions (w/ and w/o institutional variables), we find that fiscal policy has important economic and statistically significant effects on the current account imbalance. (By the way, as pointed out by Calculated Risk in this post, don't hold your breath for actual progress on the "on-budget" budget deficit).

This shouldn't deny the fact that international factors may have an impact on our current account imbalance. But those who hold blameless U.S. fiscal policy should reconsider the empirical evidence.

Wednesday, October 04, 2006

China’s Huge Corporate Savings

Martin Wolf identifies the source of China's high savings rate - "huge corporate savings" - and he explains how both saving and the current account surplus can be reduced through government action:

Beijing should dip into China’s corporate bank, by Martin Wolf, Commentary, Financial Times: China represents something new in the history of the modern world: a developing country that has a vast global impact. This is why Hank Paulson, the US treasury secretary, has ... call[ed] for it to be a “responsible stakeholder”. But China will behave as the US wants only if it perceives that this is in its own interests. ...

At present, the most vexed issue between the two countries is the payments “imbalances”. Many in the US complain that China is manipulating its currency, to preserve excessive competitiveness. Certainly, China has a large current account surplus... No other country has as big a surplus.

The starting point then must be whether it makes sense for a poor country to export so much capital. The answer, I would argue, is “no”. But we must then also ask why China is running such large surpluses. ... Contrary to the conventional wisdom, the frugality of Chinese households is not the chief explanation for China’s surplus savings ..., the principal explanation is China’s huge corporate savings.

Between 2000 and 2005, ... some 70 per cent of the increase in gross savings was generated by the rising profitability of the corporate sector... Certainly, Chinese household savings are high by international standards ... an impressive 32 per cent of household disposable income in 2004. Nevertheless, household savings generate only a third of China’s overall savings. The undistributed profits of corporations are far more important. ...

Now consider the big question: does it make sense for China to save so much or, for that matter, to invest so much? After all, consumption – public and private – is no more than half of GDP, while private consumption is only 40 per cent of GDP. The answer, I suggest, is “no”. China can probably grow as fast with lower investment. It certainly does not need to accumulate more foreign assets. Higher consumption today would surely be desirable, particularly if it were consumption by – or on behalf of – the hundreds of millions of rural poor.

Moreover, as the World Bank has argued, the government has a simple way of achieving this outcome. It can ask the companies it notionally owns to pay dividends instead of keeping all the profits for themselves. Suppose it took 5 per cent of GDP from these companies in this way and spent this money on valuable social programmes: public health, for example. Other things being equal, the gross savings rate and current account surplus would fall. The welfare of the Chinese today would rise...

Now consider, instead, what might happen if gross investment were reduced, as those fearful of overheating and excessive investment suggest, but without cutting savings. Then the current account surplus would explode upwards. This would be globally disruptive and would bring no obvious benefit to China itself.

I would argue that the government needs not a policy to cut investment, but one to cut savings. Moreover, it can easily achieve this aim, because it is itself directly or indirectly responsible for the bulk of these savings. Above all, such a change is in the interest of the Chinese people. All the government needs do is exercise its rights of ownership. This, not a change in exchange-rate policy, is the most important step towards external adjustment...

Tuesday, October 03, 2006

Fixing Global Imbalances

In this post from yesterday, Joseph Stiglitz explains how to solve global warming using WTO trade sanctions. Today he explains how to fix domestic and global imbalances without incurring a recession. He also recommends overhauling the global reserve system to cure the underlying structural problems that allow these imbalances to occur:

How to Fix the Global Economy, by Joseph Stiglitz, Commentary, Ny Times: The International Monetary Fund meeting in Singapore last month came at a time of increasing worry about the sustainability of global financial imbalances: For how long can the global economy endure America’s enormous trade deficits — the United States borrows close to $3 billion a day — or China’s growing trade surplus of almost $500 million a day?

These imbalances simply can’t go on forever. The good news is that there is a growing consensus to this effect. The bad news is that no country believes its policies are to blame. The United States points its finger at China’s undervalued currency, while the rest of the world singles out the huge American fiscal and trade deficits. ...

Treating the symptoms could actually make matters worse, at least in the short run. Take, for instance, the question of China’s undervalued exchange rate... Even if China strengthened its yuan relative to the dollar and eliminated its $114 billion a year trade surplus with the United States, and even if that immediately translated into a reduction in the American multilateral trade deficit, the United States would still be borrowing more than $2 billion a day: an improvement, but hardly a solution.

Of course, it is even more likely that there would be no significant change in America’s multilateral trade deficit at all. The United States would simply buy fewer textiles from China and more from Bangladesh, Cambodia and other developing countries.

Meanwhile, because a stronger yuan would make imported American food cheaper in China, the poorest Chinese — the farmers — would see their incomes fall... China might choose to counter the depressing effect of America’s huge agricultural subsidies by diverting money badly needed for industrial development into subsidies for its farmers. China’s growth might accordingly be slowed...

Nothing significant can be done about these global imbalances unless the United States attacks its own problems. No one seriously proposes that businesses save money instead of investing in expanding production simply to correct the problem of the trade deficit; and while there may be sermons aplenty about why Americans should save more — certainly more than the negative amount households saved last year — no one in either political party has devised a fail-proof way of ensuring that they do so. The Bush tax cuts didn’t do it. Expanded incentives for saving didn’t do it.

Indeed, most calculations show that these actually reduce national savings, since the cost to the government in lost revenue is greater than the increased household savings. The common wisdom is that there is but one alternative: reducing the government’s deficit.

Imagine that the Bush administration suddenly got religion (at least, the religion of fiscal responsibility) and cut expenditures. Assume that raising taxes is unlikely for an administration that has been arguing for further tax cuts. The expenditure cuts by themselves would lead to a weakening of the American and global economy. The Federal Reserve might try to offset this by lowering interest rates, and this might protect the American economy — by encouraging debt-ridden American households to try to take even more money out of their home-equity loans to pay for spending. But that would make America’s future even more precarious.

There is one way out of this seeming impasse: expenditure cuts combined with an increase in taxes on upper-income Americans and a reduction in taxes on lower-income Americans. The expenditure cuts would, of course, by themselves reduce spending, but because poor individuals consume a larger fraction of their income than the rich, the “switch” in taxes would, by itself, increase spending. If appropriately designed, such a combination could simultaneously sustain the American economy and reduce the deficit. ...

Underlying the current imbalances are fundamental structural problems with the global reserve system. John Maynard Keynes called attention to these problems three-quarters of a century ago. His ideas on how to reform the global monetary system, including creating a new reserve system based on a new international currency, can, with a little work, be adapted to today’s economy. Until we attack the structural problems, the world is likely to continue to be plagued by imbalances that threaten the financial stability and economic well-being of us all.

Tax policy won't be used to redistribute money from the rich to the poor anytime soon, even as part of an expenditure reduction package. It also appears it would take very large income transfers to offset government spending reductions since the impact of any dollar that is transferred is only the difference in the marginal propensities to consume. As for the connection between the budget and trade deficits which is assumed but not explained, see Menzie Chinn who estimates that a 10% reduction in the budget deficit would reduce the current account deficit by 4%.

Monday, October 02, 2006

Can WTO Trade Sanctions Save the Planet?

Felix Salmon wonders if Joseph Stiglitz is on to something:

Kyoto intransigence as illegal subsidy, by Felix Salmon, Economonitor: The CGD's Lawrence MacDonald reports on one of Joe Stiglitz's bright ideas:

U.S. trade partners [should] ask the WTO for authority to impose countervailing duties on exports of U.S. steel and other energy-intensive products that benefit unfairly from Washington’s refusal to join the Kyoto Protocol limiting carbon and other greenhouse gasses.

The logic is kinda fabulous:

There is a precedent for such duties, Stiglitz said, because Washington previously obtained a World Trade Organization ruling in support of a U.S. ban on the import of shrimp caught in Thailand using nets that killed endangered species of turtles. "I asked one of the (WTO) appellate judges (involved in the decision) whether he understood what the implications were for global warming, because clearly if you can impose a trade sanction to save a turtle, you can impose a trade sanction to save the planet," Stiglitz told a standing-room only audience. “And the judge said, yes… we were aware of where this was going.”

MacDonald says this is Stiglitz's "most interesting and important" idea – could it really happen?

Lawrence MacDonald has the answer. Referring to Stiglitz' book, he says:

The book contains a detailed explanation of the proposal--and an interesting discussion of the response his idea has received so far from senior officials:

I have discussed this idea with senior officials in many of the advanced industrial countries that are committed to doing something about global warming. And while, almost to a person, they agree with the analysis, almost to a person they also show a certain timidity: the proposal is viewed by some as the equivalent, in the trade arena, of declaring nuclear war. It is not. It would, of course, have large effects on the United States, but global warming will have even larger effects on the entire globe. It is just asking each country to pay for the full social costs of its production activities. Following standard practice, the pressure of trade sanctions could gradually be increased; and almost surely, as America recognizes the consequences, its policies would be altered--as they have been in other instances where the United States has been found in violation of WTO rules.

Until there is a change in leadership in the U.S., little will change.

Sunday, October 01, 2006

Free-Trade is Good

As a follow-up to this post noting some of the problems with the North American Free Trade Agreement (NAFTA) for Mexico, here's an argument strongly supporting free-trade agreements with Bolivia, Colombia, Ecuador, and Peru:

Don't Let the Andes Trade Pact Expire, by Sergio Muñoz, Comentary, LA Times: Salgado Chambi is a 30-year-old single mother who lives with her young children, Carlos and Ana, in a barrio in El Alto, Bolivia's third-largest city. She is one of tens of thousands of Bolivian artisans who owe their livelihoods to the Andean Trade Promotion and Drug Eradication Act, which the U.S. Congress first passed in 1991. The law allows about 5,600 Bolivian products — among them cut flowers, native fruits and vegetables, jewelry and traditional Indian clothing — to be sold duty-free in the United States.

Salgado, who learned the art of weaving from her Aymara Indian mother and grandmother, specializes in making alpaca coats, sweaters, bags and caps. Her clothing used to sell for less than $20 apiece in the local El Alto market. When the Andean trade law kicked in, ... and after a local bank loaned her $10,000 to buy the necessary equipment, she hired three women as weavers. Business has been good, and she now employs 15 women. She gets $50 for every clothing item sold in the U.S. for $90.

But the trade program that has created an economic miracle in El Alto — 80,000 new jobs and roughy $250 million in annual income from sales in the U.S. — may lapse in December.

The original goal of the Andean trade act was to combat drug production and traffic in Bolivia, Colombia, Ecuador and Peru by helping those countries create legitimate jobs, and it has largely worked. In 2001, Congress approved a five-year extension of the program, assuming that by 2006, all four countries would have negotiated free-trade agreements with the United States.

None have, although Peru and Colombia have signed deals that await congressional approval. Ecuador and the U.S. stopped talking free trade a few months ago. And Bolivia is not even on the table. ... Bolivian President Evo Morales' decision to nationalize the country's natural gas resources has only made things worse for Bolivia in the U.S. Congress...

For Bolivia, the expiring trade act is crucial to its economic vitality. ... Even Rep. Charles B. Rangel (D-N.Y.), whose free-trade voting record is mixed at best, has introduced a bill that would extend the trade provisions for Bolivia by two more years. But Sen. Charles E. Grassley (R-Iowa), chairman of the Senate Finance Committee, opposes any extension because of Morales' move toward nationalization, even though no U.S. companies would be affected.

To end Salgado's and other Bolivian artisans' competitive advantage in the U.S. marketplace would be shortsighted and counterproductive, and it would border on the petty. For Latin Americans, it would be hard to understand why the world's richest country turned its back on the second-poorest in the hemisphere by ending a trade program that benefits about 40% of El Alto's largely impoverished population and amounts to 65% of Bolivia's trade with us.

Washington has a broad interest in promoting democracy in the Andean region, where Venezuelan President Hugo Chavez is using his country's vast oil wealth to spread his "Bolivarian Revolution." With indigenous movements in Ecuador and Bolivia gaining strength, fighting in Colombia continuing and dissatisfaction with the market economy festering in Peru, it would be foolish for Washington to give Chavez more ammunition by denying poor Bolivian Indians access to the U.S. market. Extending the trade program not only would help solve Bolivia's enormous problems but would serve to restore regional trust in the U.S. commitment to democracy.

Saturday, September 30, 2006

The Neo-Liberal Road to NAFTA

Brad DeLong reconsiders the neo-liberal foundations of his support for the North American Free Trade Agreement:

Neo-liberalism has a patchy Mexican record, by J. Bradford DeLong, Project Syndicate: Six years ago, I was ready to conclude that the North American Free Trade Agreement (NAFTA) was a major success. The key argument in favor of NAFTA had been that it was the most promising road the US could take to raise the chances for Mexico to become democratic and prosperous, and that the US had both a strong selfish interest and a strong neighborly duty to try to help Mexico develop.

Since NAFTA, Mexican real GDP has grown at 3.6 percent per year, and exports have boomed, going from 10 percent of GDP in 1990 and 17 percent of GDP in 1999 to 28 percent of GDP today. Next year, Mexico's real exports will be five times what they were in 1990.

It is here -- in the rapid development of export industries and the dramatic rise in export volumes -- that NAFTA made the difference. ... Increasing trade between the US and Mexico moves both countries toward a greater degree of specialization and a finer division of labor in important industries like autos, where labor-intensive portions are increasingly accomplished in Mexico, and textiles, where high-tech spinning and weaving is increasingly done in the US, while Mexico carries out lower-tech cutting and sewing.

Such efficiency gains from increasing the extent of the market and promoting specialization should have produced rapid growth in Mexican productivity. Likewise, greater efficiency should have been reinforced by a boom in capital formation...

The key word here is "should." ...[T]he 3.6 percent rate of growth of GDP, coupled with a 2.5 percent per year rate of population and increase, means that Mexicans' mean income is barely 15 percent above that of the pre-NAFTA days, and that the gap between their mean income and that of the US has widened. Because of rising inequality, the overwhelming majority of Mexicans live no better off than they did 15 years ago (indeed, the only part of Mexican development that has been a great success has been the rise in incomes and living standards that comes from increased migration to the US, and increased remittances sent back to Mexico).

Intellectually, this is a great puzzle: we believe in market forces, and in the benefits of trade, specialization and the international division of labor. We see the enormous increase in Mexican exports to the US over the past decade.

We see great strengths in the Mexican economy -- a stable macroeconomic environment, fiscal prudence, low inflation, little country risk, a flexible labor force, a strengthened and solvent banking system, successfully reformed poverty-reduction programs, high earnings from oil, and so on.

Yet successful neo-liberal policies have not delivered the rapid increases in productivity and working-class wages that neo-liberals like me would have confidently predicted had we been told back in 1995 that Mexican exports would multiply five-fold in the next 12 years.

To be sure, economic deficiencies still abound in Mexico. According to the OECD, these include a very low average number of years of schooling, with young workers having almost no more formal education than their older counterparts; little on-the-job training; heavy bureaucratic burdens on firms; corrupt judges and police; high crime rates; and a large, low-productivity informal sector that narrows the tax base and raises tax rates on the rest of the economy. But these deficiencies should not be enough to neutralize Mexico's powerful geographic advantages and the potent benefits of neo-liberal policies, should they?

Apparently they are. The demographic burden of a rapidly growing labor force appears to be greatly increased when that labor force is not very literate, especially when inadequate infrastructure, crime, and official corruption also take their toll.

We neo-liberals point out that NAFTA did not cause poor infrastructure, high crime and official corruption. We thus implicitly suggest that Mexicans would be far worse off today without NAFTA and its effects weighing in on the positive side of the scale.

That neo-liberal story may be true. But it is an excuse. It may not be true. Having witnessed Mexico's slow growth over the past 15 years, we can no longer repeat the old mantra that the neo-liberal road of NAFTA and associated reforms is clearly and obviously the right one.

Friday, September 29, 2006

The Myth of the Coming Labor Shortage

Richard Freeman says not to expect the future labor shortages that many are forecasting:

Is A Great Labor Shortage Coming? Replacement Demand in the Global Economy, by Richard B. Freeman, NBER WP 12541, Sept 2006:

The sky is falling down, the sky is falling down ...
I must go and tell the king ...
A great labor shortage is coming.

In the early 2000s, the business press and media began reporting that the US labor market was on the verge of a major transformation. The retirement of baby boomers and slow projected growth of the labor force were going to create a great labor shortage. Policy-makers should forget about the sluggish real wage growth of the past three decades, the deterioration in pensions and employer provided health care, the “jobless” recovery from the 2001 recession, and fears of job loss from off shoring or low wage imports and focus on helping business find workers in the coming shortage. ...

In this paper, I assess the shortage claims and the labor supply and demand projections on which they are based. I conclude that there is no more reason to believe that the US faces a great future labor shortage than that Chicken Little got it right about the sky falling down. The retirement of baby boomers and slow growth of the US work force, on which the shortage claims are based, will most likely have modest and hard to detect impacts on the job market. I argue that increased supplies of skilled labor in low wage countries will impact US workers more than slower increases in domestic labor supply.


If the analysis of this paper is correct and the economic sky will not fall down in the face of a slower growth in the US work force, why have so many persons concerned with the well being of the US economy warning about the great coming labor shortage?

I suspect that ... fears of a coming shortage fit with the concerns of various groups. Future shortage or not, business will benefit from policies that increase labor supply to drive down labor costs. Advocates of education and training see the shortage analysis as a way to gain national support for increased spending on training that will benefit workers. Politicians can use the shortage analysis to avoid dealing with policies like minimum wages, mandated health care spending, labor law reform, or enforcement of labor laws, and the like, by endorsing “win-win” education and training policies while sidestepping the fact that someone must pay for these investments. ...

I [also] believe the [reason] shortage analysis appeals to some is that it offers a more optimistic framework for analyzing the economic future than the view that the biggest problem facing US workers is competition from low wage labor overseas is. If the doubling of the global work force has weakened the position of workers in the US, the country has to deal with issues regarding the rules of the global economy, ways to increase savings and the supply of capital, ways to retain good jobs and sectors and to distribute the gains from globalization to labor as well as capital while deterring protectionism.

That the coming labor shortage is more myth than reality does not invalidate some of the policies that shortage analysts endorse to help the economy progress. More and better schooling and job training and greater provision of occupational information may be critical to the nation’s preserving comparative advantage in high tech sectors under the global competition vision of the future. There is arguably greater need for those policies if global competition places downward pressure on US workers than if a domestic labor shortage puts them in the catbird seat in the economy and places business under pressure to recruit more workers.

Finally, if my analysis is wrong and the US develops a great labor shortage in the future, I do not see how the country can go wrong allowing market forces to raise the price of labor. There is nothing in economics that predicts “slower growth in the standard of living, change in the balance of payments, inequality, persistent structural unemployment,” or any other economic disasters from the normal functioning of competitive markets in the face of a shift in the supply-demand balance. If there is going to be a great labor shortage that raises wages and benefits for American workers, maybe we ought to cheer the workings of the Invisible Hand rather than seeing this as a disaster that policy should seek to avoid.

The last paragraph is worth emphasizing. David Wessel of the WSJ and Andrew Samwick have a previous discussion of these results.

Thursday, September 28, 2006

The Poverty of Anti-Trade Sentiments

"This is a sweatshop?" asks Bloomberg's Andy Mukherjee as he examines how trade affects poverty in developing nations:

Apple IPod Lifts Generation of China's Workers, by Andy Mukherjee, Bloomberg: Is America's gadget fixation lifting Asians out of poverty or pushing them deeper into it? That has been a question ever since press reports suggested that Apple Computer Inc.'s iPod music players are being assembled in sweatshop conditions in China.

Workers were being forced to toil for as little as $50 a month under Dickensian conditions, one commentator said. Poor Asians, mostly women, were caught in this vicious cycle because Americans are addicted to gizmos, another rued.

Amid the hysteria, Apple began its own audit of the factory... The findings, unveiled last month, are interesting. Air-conditioned hostels, Apple's auditors discovered, are available to workers free of charge; the dorms have TV rooms, free laundry, snooker tables and public telephones; the campus comes with soccer fields, a swimming pool, supermarkets, Internet cafes, banks, 13 restaurants and a hospital.

There's no child labor; no one is paid less than the locally mandated minimum wage; male and female employees are housed in separate dormitories; safety isn't a concern. Everyone has medical coverage.

The biggest complaint of workers: a lack of overtime opportunities during non-peak periods. This is a sweatshop? The assembly-line jobs in export industries may seem dreary, exacting and unrewarding to an analyst in Europe or the U.S., but they are far better than what's available in the domestic sectors of a developing Asian economy. ...

The interdependence of the Asian producer and the American consumer is a mutually beneficial one in a world where labor can't move freely to close the wage arbitrage. Making electronic goods for the U.S. ... has proven to be the shortest route to riches in Asia in the past 50 years. ...

None of this is to contend that Hon Hai workers in Shenzhen are living in a capitalist utopia. Work weeks are often longer than the stipulated 60 hours.

Accommodation is of considerably poorer quality for those workers who are forced to live outside the campus. After Apple published its audit report, Hon Hai said it would hire more workers and build more dormitories. Hon Hai and Apple would surely keep their promises. The Taiwanese company has a market value of $31 billion, almost half that of Apple. That's a lot of corporate reputation at stake.

The biggest winners will be the Chinese workers and their families. Millions of Asians have fed the American craving for consumer goods and crawled out of poverty within one generation, as the Hon Hai workers in China surely will.

Wednesday, September 27, 2006

Worker's Cooperatives

Andrew Leonard at Salon notes the demise of Burley bikes:

Cheap labor vs. a worker's cooperative, by Andrew Leonard: Eleven years ago, ... I bought myself a mountain bike and a Burley Trailer to tow my 1-year-old daughter around Berkeley, Calif. The Burley wasn't cheap, but its striking blue and yellow colors were, and still are, a familiar sight around the Bay Area. And it's held up well -- my ex-wife still uses it to transport groceries and other vital necessities around town.

I did not know until today, however, that for 25 years Burley had been a worker-owned cooperative in Eugene, Ore. I say, "had been," because I also learned today, via a link from Treehugger, that in June, after three years of mounting losses, Burley converted itself to a private corporation. Then, on Sept. 11, a local businessman bought the company. Already, some 40 employees have been laid off and more will probably follow.

It's easy, especially living in Berkeley, where memories of the infighting and squabbling that doomed the legendary Berkeley Co-op 20 years ago still linger, to hear the words "failed worker-owned coop" and start pointing fingers at some inherent flaw in collective management. New owner Michael Coughlin alluded to exactly that, in the most mild of ways, when he told the Eugene Register-Guard that "I think it is a great business. I just think that they really had troubles adapting to competitive issues and keeping their product costs under control. I think managing a business in a very competitive arena is not well suited for a cooperative structure."

What exactly would that competitive arena be?

Continue reading "Worker's Cooperatives" »

Monday, September 25, 2006

"Ricardo's Difficult Idea"

The usefulness of mathematical modeling, a subject brought up by Krugman in this commentary, seems to have struck a bit of a chord. So let me follow up with one or two more commentaries from Krugman on this topic. Let's start with this defense of both economic models and Ricardo's theory of comparative advantage (this is fairly long -- Section 4, "The Two Cultures," deals directly with mathematical modeling):

Ricardo's Difficult Idea, by Paul Krugman: The title of this paper is a play on that of an admirable recent book by the philosopher Daniel Dennett, Darwin's Dangerous Idea: Evolution and the Meanings of Life (1995). Dennett's book is an examination of the reasons why so many intellectuals remain hostile to the idea of evolution through natural selection -- an idea that seems simple and compelling to those who understand it, but about which intelligent people somehow manage to get confused time and time again.

The idea of comparative advantage -- with its implication that trade between two nations normally raises the real incomes of both -- is, like evolution via natural selection, a concept that seems simple and compelling to those who understand it. Yet anyone who becomes involved in discussions of international trade beyond the narrow circle of academic economists quickly realizes that it must be, in some sense, a very difficult concept indeed. I am not talking here about the problem of communicating the case for free trade to crudely anti-intellectual opponents, people who simply dislike the idea of ideas. The persistence of that sort of opposition, like the persistence of creationism, is a different sort of question, and requires a different sort of discussion. What I am concerned with here are the views of intellectuals, people who do value ideas, but somehow find this particular idea impossible to grasp.

My objective in this essay is to try to explain why intellectuals who are interested in economic issues so consistently balk at the concept of comparative advantage. Why do journalists who have a reputation as deep thinkers about world affairs begin squirming in their seats if you try to explain how trade can lead to mutually beneficial specialization? Why is it virtually impossible to get a discussion of comparative advantage, not only onto newspaper op-ed pages, but even into magazines that cheerfully publish long discussions of the work of Jacques Derrida? Why do policy wonks who will happily watch hundreds of hours of talking heads droning on about the global economy refuse to sit still for the ten minutes or so it takes to explain Ricardo?

In this essay, I will try to offer answers to these questions. The first thing I need to do is to make clear how few people really do understand Ricardo's difficult idea -- since the response of many intellectuals, challenged on this point, is to insist that of course they understand the concept, but they regard it as oversimplified or invalid in the modern world. Once this point has been established, I will try to defend the following hypothesis:

Continue reading ""Ricardo's Difficult Idea"" »

Protectionist Threats

The protectionist threats are getting louder. Unless China changes its practices immediately, Senators Schumer and Graham are calling for a vote on their bill to impose a temporary tariff of 27.5% on all imports:

Play by the Rules, by Charles E. Schumer and Lindsey O Graham, Commentary, WSJ: If there's one issue on which we all should agree, it is that increasing global trade is good for American workers and businesses. No serious economist believes that we would be better off if we closed our borders. But for trade to be good for our people, every major economic power needs to abide by the rules of free trade.

One of the fundamental tenets of free trade is that currencies should float -- or at the very least, move along with market forces. The reason for this is that a free-floating currency allows large trade imbalances to self-correct... Unfortunately, the Chinese government intervenes in the market to keep its currency, the yuan, artificially low, which allows China to artificially inflate its exports and reduce its imports. Their continued manipulation is a form of protectionism, and it throws the whole global trading system out of balance...

China bends or breaks the rules far too often. Years of currency manipulation, intellectual property theft, and barriers to entry have cost American jobs and contributed heavily to our trade deficit with China... China's actions ... make it harder for Americans to support free trade...

Three years ago, we grew frustrated with the pace of China's reforms, and we introduced a bill that would impose a temporary tariff of 27.5% on all Chinese imports unless China agreed to play by the rules. Our bill was carefully crafted to not impose tariffs immediately, giving the parties time to negotiate an alternative. In addition, the president would retain the right to delay the tariff for up to two years. Neither of us wants the tariff to become law; our goal all along has been to send a shot across China's bow and prod them to play fair...

Senior administration officials concede that our bill has helped strengthen their hand in negotiations. So we have succeeded in getting China's attention. In fact, we believe the only reason there has been any progress on this issue at all is because of the existence of our bill...

In April 2005, we finally brought our bill to the Senate floor. The Chinese responded that July by allowing the yuan to appreciate by 2.1%, and promising to allow market forces to play a greater role in determining its value. Since the small revaluation, however, the currency has appreciated very little in 14 months... So the rhetoric out of China is not being matched by real results.

We have agreed four times since last April to delay taking a final vote on our bill. Before the most recent delay, in March of this year, we traveled to China to meet with several of its top government officials... We returned from our trip with the strong impression that China would move more quickly in the ensuing months. However, ... there was no real movement.

We appreciate that China's banking system is not yet ready for a fully floating currency, but we also agree with most mainstream trade economists that gradual currency appreciation is possible without disrupting their "harmonious society." We have been patient and reasonable, but the time for patience has run out. The workers and manufacturers in our states rightfully demand a level playing field...

Unfortunately, the Chinese appear to be content with the status quo... They have no reason to change unless we send a very strong message that the status quo is not acceptable.

We look forward to meeting with Treasury Secretary Hank Paulson, who just recently returned from China. We hope he brings back good news. If not, the clock will have run out and it will be time for an up-or-down vote. With Congress's recess imminent, we know our bill will not become law, but it will be our last opportunity before a new Congress convenes to send such a message. We believe more strongly than ever that pressuring the Chinese to allow their currency to float is in the economic interests of both nations.

My guess is that China will say the right things, then do what it was going to do anyway. Hopefully, whatever happens, protectionism can be avoided -- that's a downward spiral for all. But if the yuan is devalued revalued significantly, a previous post (slightly edited) summarizes what might happen. We shouldn't expect any miracles in the short-run:

1. Consumers are worse off due to the rise in the price of consumer goods. If revaluation is bilateral and production moves from China to other countries, this effect may not be as large in the long-run. If the dollar devalues against other currencies generally, the effect on prices paid by U.S. consumers will be larger.
2. Borrowers (households, business, and government) are worse off due to rising interest rates which increases the cost of loans and the cost of financing government debt. Part of this is a transfer from borrower to lender, but there is a net drain as well due to debt held by foreigners.
3. U.S. manufacturers are better off, but this requires the dollar to devalue against other currencies generally, not just against a particular currency such as the yuan.
4. If U.S. manufacturers do better, then employment will increase as well making labor better off, but this takes time to occur.
5. If employment and manufacturing do increase, there are transitional costs to consider. Rising interest rates will cause less activity in sectors such as housing and more activity in other sectors such as (hopefully) computer chips. Thus, during the transition unemployment could increase. Nevertheless, to the extent that such domestic and international rebalancing is healthy for the economy in the long-run, there is a long-run benefit that more than offsets the short-run cost.

Update: I didn't cover this aspect, but Greg Mankiw and KNZN (the latter more completely) evaluate the statement "One of the fundamental tenets of free trade is that currencies should float."

Update: William Polley has the latest, "But it does keep their name in the papers...":

Senators Schumer and Graham may be standing down... for now...

Friday, September 22, 2006

Oil Prices and the U.S. Trade Deficit

This Economic Letter from the San Francisco Fed looks at the relationship between oil prices and the trade deficit:

Oil Prices and the U.S. Trade Deficit, by Michele Cavallo, Economic Letter, FRBSF: With the price of oil ... having nearly quadrupled over the last four years, it is little surprise that U.S. import prices have soared. One concern about these higher import prices relates to their implications for the U.S. trade balance... This Economic Letter explores the relation between the surge in oil prices and the trade deficit...

Continue reading "Oil Prices and the U.S. Trade Deficit" »

Wednesday, September 20, 2006

Cheap Shoes

The Wal-Mart, globalization, and sweatshop labor questions about the benefits of trade summarized in a tennis shoe:

Sneakers for Social Justice?, by Dave Zirin, The Nation: Stephon Marbury, the wildly talented and widely criticized point guard for the New York Knicks, usually carries a Q rating commensurate with Kim Jong Il. Making max dollars and being the face of the NBA's most dysfunctional franchise will do that. But Marbury has been drawing high-profile praise in recent days for promoting a new basketball sneaker described as "revolutionary."

What's "revolutionary" about the new Starbury One--a reference to Marbury's on-court moniker--is that ... Starbury Ones are listed at $14.98.That's $14.98. Not $149.80. As William Rhoden recently wrote in the New York Times, "This is an industry in which star athletes encourage children to buy shoes for anywhere from $75 to $200."

The shoe is not cardboard and canvas but serious and solid enough that Marbury has pledged to wear them in games this season. He says his motivation was rooted in discussions he had with Knicks GM Isaiah Thomas about the civil rights movement and Marbury's eventual legacy. ... In tune with the idea of a sneaker for social justice, Marbury's website urges visitors to "join the movement," and the chic insignia, familiar to those with a fascination for Che Guevara, is a stylized red star. Marbury isn't all talk. He has a history of putting his money where his heart is. He pledged about $500,000 last year to help victims of Hurricane Katrina...

The Starbury One sneaker is ... flying out of the stores as quickly as they are being made. As Howard Schacter from Steve and Barry's told me, "The vision we shared with Stephon was to eliminate the incredible pressure kids and parents feel to pay top dollar for the latest and coolest sneakers and clothes. What we're saying is, You can pay a lot less for these things.... it simply doesn't cost that much to make high-quality sneakers and clothes."

But the Starbury One--because of both its price and the fact that it is being marketed as footwear for social justice--has also invited scrutiny. The athletic shoe industry is notorious for some of the most appalling of sweatshop conditions. Are the Starbury Ones, made in China, produced in such a manner?

Schacter says no. ... " our history and culture is a deep commitment to legal compliance and ethical business practices. This commitment is a fundamental part of the philosophy upon which we were founded."

Schacter says that costs are kept low because their business model "eliminates the middleman" by producing their own product and selling them in Steve and Barry's stores. They also rely on word-of-mouth instead of national advertising campaigns.

But some leading antisweatshop activists doubt this claim... Jim Keady is ... co-director of the antisweatshop organization Educating for Justice. He ... said... "...I would bet my professional reputation that these shoes are produced in sweatshop conditions. That said, Asbury Park has a poverty rate of 30 percent. I see kids buying sneakers I know they can't afford, so it is a good thing an affordable sneaker is available." ...

I was unable to reach Marbury for this piece, but it's difficult to imagine him being unsympathetic to the plight of workers overseas. He has spoken out about selling sodas on the beaches of Coney Island as a young boy, trudging on the sand and trying to scrape a dollar or two from the tourists visiting the famed amusement park. ...

As Jim Keady said, "The real slam-dunk would be if Stephon Marbury came forward and said, 'Not only do I want poor kids to be able to afford my sneakers. I want their moms and dads to have good-paying factory jobs-- in Coney Island, Bed-Stuy or Asbury Park for that matter. Imagine that: a sneaker made for the players in Brooklyn by the people in Brooklyn, he said. "Would they be able to sell them for $14.98? Maybe not, but that would be a tremendous model that other athletes and other entrepreneurs could follow."

Tuesday, September 19, 2006

Avoiding Protectionism

The Economist is running a series this week on what the emergence of China, India and other developing countries means for developed countries. This article in the series examines the problems arising from globalization, the potential causes of those problems, and how to avoid a resurgence of protectionism in response:

More pain than gain, The Economist: Rich countries have democratic governments, so continued support for globalisation will depend on how prosperous the average worker feels. Yet workers' share of the cake in rich countries is now the smallest it has been for at least three decades (see chart 5). In many countries average real wages are flat or even falling.


Meanwhile, capitalists have rarely had it so good. In America, Japan and the euro area, profits as a share of GDP are at or near all-time highs (see chart 6). ...

[T]he redistribution of income from labour to capital can be largely explained by the entry of China, India and other emerging economies into world markets. Globalisation has lifted profits relative to wages in several ways. First, offshoring to low-wage countries has reduced firms' costs. Second, employers' ability to shift production, whether or not they take advantage of it, has curbed the bargaining power of workers in rich countries. ... And third, increased immigration has depressed wages in sectors such as catering, farming and construction. ...

Most of the fears about emerging economies focus on jobs being lost to low-cost foreign competitors. But the real threat is to wages, not jobs. ... So long as labour markets are flexible, job losses in manufacturing should eventually be offset by new jobs elsewhere. But trade with emerging economies can have a big impact on both average and relative wages. ...

Thus the usual argument in favour of globalisation—that it will make most workers better off, with only a few low-skilled ones losing out—has not so far been borne out by the facts. Most workers are being squeezed.

If GDP per person is growing fairly briskly, why are most workers missing out on real pay rises? Partly because a bigger share is going to profits, and partly because high earners have pocketed a huge slice of the gains in income, causing inequality to widen. ...

It's all comparative

Traditional trade theory, based on the ideas of David Ricardo, ... argues that economies gain from trade by specialising in products where they have a comparative advantage. Developed economies have lots of skilled workers, whereas emerging economies have lots of low-skilled ones, so according to the theory advanced countries will specialise in capital-intensive products requiring skilled labour and emerging economies in low-tech products. Competition from cheaper imports will reduce the wages of unskilled workers in developed economies, but workers as a whole will be better off.

Yet, ... the average worker does not seem to be enjoying his fair share of the fruits of economic prosperity. Richard Freeman, an economist at Harvard University, points to several reasons why the traditional theory may need modifying.

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Sunday, September 17, 2006

Jagdish Bhagwati on Globalization

Jagdish Bhagwati answers questions on globalization:

Q & A with Jagdish Bhagwati, by Daniel Altman, IHT Managing Globalization blog: Today we’re very pleased to present ... an expert on globalization from Columbia University... Jagdish Bhagwati, who has advised the World Trade Organization and the United Nations on aspects of international economics...

Bob Kirenga Uganda: We in the developing world (especially sub-Saharan Africa), considered as the poorest of the poor, do not understand this concept of globalization. Do you have a universally accepted definition of that term, and how do you operationalize it in the so-called “global village,” which is still a mystery to some of us?

A. Globalization may be cultural in origin, arising from watching foreign films and sending students abroad, for instance. But much of the debate today is about economic globalization and its economic and social consequences. ... For clarity, we need to remember that economic globalization ... has at least five distinct aspects: trade, direct foreign investment (... sometimes simply called “multinationals”), short-term capital flows (which were at the heart of the Asian financial crisis in the 1990’s), international flows of humanity, and technology transfer (which includes the problem of patents and generics which has central importance for the poor countries). So, when you see polls that say a majority of our respondents think globalization is good or bad, just dismiss the results ... as nonsense: you have no idea which of these components of globalization the respondents have in mind.

For the poor countries, including yours, the major problem generally speaking has not been that globalization ... has been bad for you. It is rather that globalization has passed you by as far as DFI is concerned and ... has been constrained by domestic factors that include governance difficulties. Now that Africa is getting its political act together, ... I am confident that Africa will join the rest of us (I am from India) in being able to use globalization as part of a reform agenda that would advance prosperity, increase skill formation and be a force in reducing poverty and distress among the poor. ...

Jeong Yeon Ryu Republic of Korea: Do you think the World Trade Organization has finally hit the bottom in the process of liberalization, and that instead, countries will turn to a growing trend of contracting aggressive free trade areas? What are the actual effects of these free trade areas in relation to the Doha round?

A. The architects of GATT, looking at the degeneration of the world trading system in the 1930’s into protectionism and discriminatory trade in the form of bilateral preferences, had vowed: Never again. They had made non-discrimination, and its embodiment in the Most Favored Nation clause (which guarantees to every member the lowest tariff by any member), the central principle of GATT. But they had allowed for an exception in the case of free trade areas (FTAs) and customs unions in Article 24. I am sure they thought this Article would be used rarely. But today, there are over 300 such FTAs formed or announced, and they are multiplying by the week... [T]he whole world has practically collapsed into bilateralism...

These Preferential Trade Agreements (PTAs), among other problems, have created a chaotic system of preferences. ... This is bad in itself. But it also has led to the diversion of scarce administrative and negotiating talent from Doha to the bilaterals...

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Saturday, September 16, 2006

The Exchange Rate-Consumer Price Puzzle

Diego Valderrama, an Economist at the San Francisco Fed, discusses a puzzle. Why are consumer prices so unresponsive to exchange rate movements? Is it transportation costs, non-traded goods, or market power?:

The Exchange Rate-Consumer Price Puzzle, by Diego Valderrama, Economic Letter, San Francisco Fed: Since February of 2002, the dollar has lost 27% of its value relative to other major currencies. Over the same period, consumer prices (excluding food and energy goods) have increased by a much smaller amount—8.9%. To economists, and particularly to central bankers and others who think about forecasting inflation, this relative insensitivity of consumer prices to exchange rates is a puzzle; indeed, it is one that has a long history and that is a characteristic not only of the U.S. but of other countries as well.

Why is it a puzzle? Because international trade theory argues that, if all goods and services were traded at a negligible cost and if their prices reflected only their production costs, then retail prices should be very responsive to exchange rate changes.

Of course, one might expect that the solution to the puzzle is in part related to the distances and costs involved in shipping goods, as that would clearly imply that trading costs are not negligible. But recent research suggests that other factors are better at explaining not only why consumer prices are relatively insensitive to exchange rate movements but also why they are even less sensitive than import prices. One explanation rests on the inclusion of non-traded good and service costs as part of the consumer price index (CPI). While import prices may respond to exchange rate changes, consumer prices, which include many non-traded cost components, may not. A second explanation arises from the profit margins that foreign exporters and local distributors have as a result of imperfect competition. Exporters and distributors may choose to adjust their profit margins rather than change price levels in response to exchange rate changes, for example, to maintain market share.

This Economic Letter first reviews the empirical evidence on exchange rates, import prices, and consumer prices. It then discusses recent studies that evaluate alternative theories to explain the puzzle.

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