New Economist

Going for growth?

Economic reforms is, in most places and most of the time, a long hard slog. The anual OECD report Going for Growth 2007, published this week, explains why structural reform is still necessary. Now in its third year, the latest report "highlights the weaknesses that are holding back OECD economies from raising material living standards". Some common priorities emerge:

• For much of continental Europe the main focus is on improving labour market performance to reduce unemployment and lift labour force participation.
• For lower-income countries, as well as in Japan and Switzerland, raising productivity is the main challenge. Priorities focus more on liberalisation of product markets, especially in network industries and in services.
• English-speaking countries generally display good labour market performance but need to raise skill levels, in particular through improvements in secondary education.
• Many EU countries need to strengthen higher-education systems to improve graduation rates and, in some cases, the quality of teaching and research.

The handout for journalists (PDF) provides a good summary. The Chapter 1 Overview (PDF) is available free online, as are the individual recommendations for each OECD country in Chapter 2's Country Notes. For the United Kingdom (PDF), the main priotities are to: (1) further reform disability benefit schemes, (2) improve the education achievement of young people, and (3) improve public infrastructure, especially for transport. One can hardly argue with those.

The report also looks at the political and economic impediments standing in the way of structural reforms. Today's Economist piece, The art of the possible, focusses on this issue - explaining how crises have often provided the impetus for structural reform:

The report's most disheartening conclusion is that reform must often wait for the sting of a crisis. This is borne out, it says, by the experiences of Britain in the late 1970s, the Netherlands and New Zealand in the 1980s and by Italy in the early 1990s. Governments seem more likely to loosen their product and labour markets when GDP is more than 4% below potential.

Policymakers may think this finding is of little use: calling forth catastrophe is an odd way of promoting prosperity. However, it does serve as a useful warning. Desperate times will make reform unavoidable. Better then, to carry it out during less painful interludes. One reason is that a full treasury can help to compensate the losers.

By the same token, it is much harder to carry out structural reforms at the same time as tightening the budget. That said, fiscal consolidation can pave the way for reform by setting aside some money in advance. In the 1980s, for example, Denmark and Ireland put their public finances in order before liberalising product markets and shaving the tax “wedge” between what workers take home and employers pay out.

In the report's introduction OECD Chief Economist Jean-Philippe Cotis welcomes buoyant Eurozone growth - but also warns it may lead to complacency over reform. “Governments should resist the temptation to ease up on reforms aimed at boosting productivity and creating more jobs”. Indeed they should resist - but who really expects that they will?

Do we need better global economic institutions?

Of course we do.  Ngaire Woods from University College, Oxford, tells us how in her new report for UK centre-left think tank the Institute for Public Policy Research: Power Shift Do we need better global economic institutions? She argues that "the WTO, the IMF, and the World Bank each need to be reformed". Woods sees "three innovating forces" that "are pushing towards a reshaping of international institutions":

The first change is the rewriting of rules by new powers claiming a place on the international scene. Individually, countries such as China, Russia, India, Brazil, Argentina and Venezuela have begun to change the rules governing exchange rates, energy, trade, and sovereign debt rescheduling. The ‘G20’ coalition of developing countries has taken a strong stance on trade. Equally powerfully, emerging markets have voted with their feet – walking away from borrowing from the IMF and World Bank. And they have benefited from it, for instance, when China ignored IMF prescriptions, Malaysia refused IMF assistance, and India postponed capital account liberalisation – in each case actions that helped these countries weather the Asian financial crisis. (emphasis added)

Democracy and globalisation

Are democracy and globalisation mutually supportive? A new BIS working paper by Barry Eichengreen and David Leblang, Democracy and globalisation, finds a positive two-way relationship. Here is the abstract:

The relationship between democracy and globalisation has been the focus of substantial policy and academic debate. Some argue that democracy and globalisation go hand in hand suggesting that unrestricted international transactions leads to increased political accountability and transparency. And, politically free societies are likely to have minimal restrictions on the mobility of goods and services across national borders. Others argue that the causal relationship should be reversed: democracies are more likely to have closed markets and vice versa.

We examine these relationships between political democracy and trade and financial globalisation over the period 1870-2000 and treat both democracy and globalisation as both cause and effect. Our empirical strategy uses instrumental variables and estimates relationships using the Generalised Method of Moments framework. Our general findings support the hypothesis of a positive two-way relationship between democracy and globalisation.

This paper is one of several presented at a BIS conference last June on Financial Globalisation. The papers have recently been posted online, including comments on the Eichengree and Leblang paper by Harold James and Marc Flandreau. Worth a look.

Understanding manufacturing decline and its challenges

Why has manufacturing been in decline across Western economies, and what challenges does this pose for governments? A recent OECD paper by Dirk Pilat and colleagues examines this trend, and possible causes: The Changing Nature of Manufacturing in OECD Economies (PDF), STI Working Paper 2006/9.

The study confirms that the share of the manufacturing sector in total economic activity continues to decline in OECD countries, and expects it "is likely to do so in the future". Manufacturing production has become "more and more integrated at the global level". These findings are hardly surprising; more interesting is that the character of manufacturing production is also changing:

The distinction between high-technology and low-technology sectors is becoming less relevant, as certain components of high-technology production can also be carried out in non-OECD countries. Manufacturing activity in OECD countries increasingly incorporates high-value added services. This change seems due to business models that increasingly emphasise intellectual assets and high-value added activities (OECD, 2006), such as research and development, financial and aftersales services, instead of manufacturing production as such. The distinction between manufacturing and services is blurring, complicating empirical analysis with data by economic activity.

The authors also find that: (1) productivity growth in manufacturing remains high in many OECD countries, (2) the manufacturing sector still accounts for the bulk of spending on research and development, and (3) innovation in manufacturing remains dominated by OECD countries. Doomsayers take note! On innovation, the paper finds:

The emphasis on high value added activities translates in a growing importance of innovation. Research and development in non-OECD countries is growing, notably in China. Thus far, growth of R&D in non-OECD countries has not translated into much new innovation, as measured by triadic patents. OECD countries continue to account for the bulk of global patenting activity. That being said, the R&D intensity of OECD countries has not grown significantly in recent years, even if there appears to be a growing emphasis on innovation in national policies.

The paper concludes that these trends in manufacturing pose two challenges for policy makers. First, how to how to retain a viable manufacturing sector in OECD countries. Second, how to handle the impact of the structural shift from manufacturing to services (displaced workers, for example). Comments welcome.

Human Development Report 2006

The UNDA has just published the 2006 Human Development Report. The full report is available online, with this year's issue focussing on 'the global water crisis'.

The latest Human Development Index, which analyses 2004 statistics from 175 UN member countries, is published in the report. It once again ranks the Nordic and Anglo-saxon economies highly, accounting for seven of the top ten: 

1. Norway
2. Iceland
3. Australia
4. Ireland
5. Sweden
6. Canada
7. Japan
8. United States
9. Switzerland
10. Netherlands

Finland, for once, didn't come first - it ranked 11th. The United States moved up from tenth to eighth place. The UK was 18th, down from 15 in 2005 "because of a change in how education statistics are reported". The press release notes:

After a costly setback in human development in the first half of the 1990s, Central and Eastern Europe and the Commonwealth of Independent States (CIS) have recovered strongly, and progress since 1990 in East and South Asia continues to accelerate. But  sub-Saharan Africa shows no sign of improving, principally because of the devastating effect of HIV/AIDS on life expectancy.

Blanchard on current accounts

MIT's Olivier Blanchard presents his views on current account deficits later this week in the annual Mundell-Fleming lecture, at the IMF Seventh Jacques Polak Annual Research Conference in Washington, DC. This year the theme is capital flows, and Blanchard's papers is on Current Account Deficits in Rich Countries (PDF).

In this lecture he takes "a step back from current policy debates" and looks at "the case for policy intervention in the face of large current account deficits in rich countries." While "reducing these distortions ..is clearly desirable", he argues that the focus for policy should be on the distortions and "not the reduction of current account deficits per se." Blanchard concludes on this note:

If such measures were taken, existing simulations by the Fed and by the IMF suggest that imbalances will indeed be reduced, but will still remain large. The question is then whether more should be done. This is where this lecture is most relevant. The answer is maybe not, unless and until we have a good understanding of remaining distortions, and how they justify further policy intervention.

Climate change: wait, there's more...

As if the 600 page Stern Review on the economics of climate change were not enough to digest, Her Majesty's Treasury has also posted 36 commisioned pieces of supporting research online. Quite a few concern temselves with 'the China problem', some with the economics of adaptation, others with mitigation and abatement. Though many are clearly for the specialists, readers might find some of interest. The full list is over the fold...

Climate change: "the greatest market failure the world has seen"

The Stern Review, the most comprehensive review ever on the economics of climate change, was published today (as I previewed yesterday). The report is nothing if not thorough. All 27 chapters are now available on the Treasury website to download - or I guess you can wait until January and pay Cambridge University Press £29.99 for the book (CUP obviously don't believe in print on demand!). Also available is today's Press notice, along with Sir Nicholas Stern´s presentation (PDF), and speaking notes (PDF).

Sir Nicholas said in his presentation that "we have to muster all the economics we can bring to bear" on climate change - a sentiment few readers would disagree with. Here is a short excerpt from his presentation:

The science tells us that GHG emissions are an externality; in other words, our emissions affect the lives of others. When people do not pay for the consequences of their actions we have market failure. This is the greatest market failure the world has seen. It is an externality that goes beyond those of ordinary congestion or pollution, although many of the same economic principles apply for its analysis.

This externality is different in 4 key ways that shape the whole policy story of a rational response. It is: global; long term; involves risks and uncertainties; and potentially involves major and irreversible change.

Although the press have highlighted some of the doomsday warnings in the report, these are based on the 2100 'business as usual' scenarios - not on likely developments anytime soon. As Sir Nicholas said today, the Review's conclusion are "essentially optimistic. There is still time to avoid the worst impacts of climate change, if we act now and act internationally. He spelled out three strands to policy:

First, we must establish a carbon price via tax, trade and regulation – without this price there is no incentive to decarbonise. Second, we must promote technology: through research and development. Further, private sector investors need confidence that there will be markets for their products: that is why deployment policy also makes sense. And third we must deal with market failure; for example problems in property and capital markets inhibit investments for energyefficiency.

The usual suspects have rushed to condemn the report - some even before it was published. Like Sunday Times journalists and blogger David Smith, I won't comment on it in detail until I've had a chance to read it. But I certainly agree with David's comment that:

..the broad thrust of his report, that money spent now will save much bigger costs later, makes sense, as does his emphasis on carbon trading.

Amazon's US textbook ripoff?

Are US students being ripped off by Amazon.com? Jonathan Dingel at Trade Diversion blog points to a forthcoming paper by Yale's Christos Cabolis and colleagues, A Textbook Example of International Price Discrimination (PDF). The paper finds that although books for general audiences are similarly priced internationally, "textbooks are substantially more expensive in the United States" (on amazon.com) than the UK (amazon.co.uk). They argue that "cost factors cannot explain this phenomenon and discuss several demand-side explanations."

Dingel, meanwhile, provides a comparison of prices for economics and statistics textbooks in the US and UK that appears to confirm those findings:

I've found a number of cases where American customers can save money by purchasing their textbooks from amazon.co.uk and paying for international shipping (£6.98) rather than using amazon.com. Check it out:

                                                                                                                                                     

Title	Authors	.com	.co.uk	$ diff	% diff
Mathematics for Economists	Simon & Blume	126.74	84.69	42.05	33
Advanced Macroeconomics	Romer	56.25	83.56	-27.31	-49
Econometric Analysis of Cross Section and   Panel Data	Wooldridge	80	89.98	-9.98	-12
Economics for Business	Sloman	95	73.39	21.61	23
Mathematics for Economics and Business	Jacques	115	75.84	39.16	34
Options, Futures and Other Derivatives	Hull	158.99	88.45	70.54	44
Statistics for Business and Economics	Newbold et al.	153.33	91.84	61.49	40
Introductory Econometrics for Finance	Brooks	35.5	61.17	-25.67	-72
Statistics for Economics, Accounting and   Business Studies	Barrow	100	75.84	24.16	24
Microeconomics: Principles and Analysis	Cowell	78.35	79.32	-0.97	-1

Prices reported in USD with an exchange rate of 1.88 USD per GBP.

Grease and sand: How wages change

One of my first posts on this blog was about the International Wage Flexibility Project. The project uses microdata to study how the complex institutions involved in wage setting affect wage changes, and in particular the three market imperfections that cause the rate of inflation to affect labour market efficiency. These are downward nominal wage rigidity ('grease' effects), downward real wage rigidity, and so-called 'sand' effects of higher inflation creating greater uncertainty about the future path of wages and prices (which can lead to errors and adjustment lags in wage setting). Of these, only downward nominal wage rigidity has been extensively studied before.

The project now encompasses 31 different panel data sets from sixteen European countries and the United States - a considerable achievement. I understand a book is in the works, but in the meantime two papers have recently become available. The first is a National Bank of Belgium working paper, by William T. Dickens, et al: How wages change: micro evidence from the International Wage Flexibility Project

We find a remarkable amount of variation in wage changes across workers. Wage changes have a notably non-normal distribution; they are tightly clustered around the median and also have many extreme values. Furthermore, nearly all countries show asymmetry in their wage distributions below the median. Indeed, we find evidence of both downward nominal and real wage rigidities. We also find that the extent of both these rigidities varies substantially across countries. Our results suggest that variations in the extent of union presence in wage bargaining play a role in explaining differing degrees of rigidities among countries.

The second, longer piece is an article submitted to the Journal of Economic Perspectives, again by William T. Dickens, et al: The Interaction of Labor Markets and Inflation: Analysis of Micro Data from the International Wage Flexibility Project (PDF). The paper finds large differences across countries in the extent of nominal and real wage rigidities:

We find considerable variation in wage changes among workers in the same country and year. The variation increases with inflation, as we would expect if either downward nominal rigidity or sand effects were important.

Applying a new estimator for the prevalence of these three effects, we also find evidence of both types of rigidity in nearly every country. Estimates of the fraction of workers potentially affected by downward nominal wage rigidity range from 9% to 66%, while the comparable range for real rigidity is 3% to 52%. Furthermore, there is some evidence that countries with higher nominal rigidity tend to show less real rigidity.

The authors also find that increasing union density is associated with increasing real wage rigidity:

...Our examination of the causes of downward nominal and real wage rigidity suggests an important role for the extent of unionization and collective bargaining coverage. Both show a consistently positive relationship with the extent of downward real wage rigidity and a negative association with downward nominal wage rigidity. This finding suggests that collective bargaining focuses workers’ attention on real wages and gives them some ability to resist real wage cuts.

...These differences in rigidity across countries may translate into differences in unemployment. Measures of the “wage impact” of downward nominal and real wage rigidity (that is, the extent to which workers’ wages are affected in a particular year) are positively related to unemployment with statistically significant coefficients of about the size predicted by theory.

Impressive work. The job of coordinating thirteen country teams plus a central analysis team, devising a common protocol, and analysing the results jointly cannot have been easy.