Facebook Blogging

Edward Hugh has a lively and enjoyable Facebook community where he publishes frequent breaking news economics links and short updates. If you would like to receive these updates on a regular basis and join the debate please invite Edward as a friend by clicking the Facebook link at the top of the right sidebar.

Friday, June 20, 2003

What Is Holding India Back?

Comparisons between India and China seem to be fashionable these days, and not just at Bonobo Land. This week the economist has a shot at summarising the differences:

SOME comparisons are stark enough to generate a national inferiority complex. In 1980, India had about 687m people, 300m fewer than China. Living standards, as measured by purchasing power per head, were roughly the same. Then, as China embraced modernity with a sometimes ugly but burning passion, it left India behind. In the next 21 years, India outperformed its neighbour in almost nothing but population growth.

By 2001, India had 1,033m people against China’s 1,272m. But China’s national income per head, according to the World Bank, was $890, nearly double India’s $450. Adjusted for purchasing power, the Chinese were still 70% wealthier than Indians were. Some 5% of Chinese now live below the national poverty line, compared with 29% of Indians.Many Indians now often ask why the West is so obsessed with China’s economic success. But the obsession is India’s, too. Comparison with China has become a distorting mirror in which Indians see their country’s shortcomings grotesquely magnified. The same goes for India’s sense of geopolitical inferiority. An accident of history made China one of the five permanent, veto-wielding members of the United Nations Security Council, but that seat now seems to belong to it as of right. India, feeling it should have one too, is just one of a number of big countries with a claim, and laments its comparative geopolitical weakness.

For Indians, the “Chinese threat” comes in at least three forms: the geopolitical panic that rivalry with China may one day lead to another war between them; the economic nightmare of an India of underemployed farm labourers spending their meagre earnings on imported Chinese goods; and the ideological doubt that maybe India’s heroic experiment with democracy has exacted an even higher price than has China’s erratic dictatorship.............

Policy changes could do much to help India catch up: cutting import duties; simplifying and cutting indirect taxes; reducing the list of industries “reserved” for small companies; easing labour laws to make hiring and firing and the use of contract workers easier. Indeed some of these reforms are already, slowly, under way, or at least under consideration.

But almost all of them are politically difficult. The government has been loth to antagonise the many interest groups that have opposed reforms of one kind or another. Many Indians believe that a large part of the blame for their country’s inferior economic performance must be borne by the political system. China, the argument goes, is a dictatorship where the government and the businesses it favours can do what they want—change laws, build infrastructure, secure licences, fiddle their books—all without brooking any opposition. In India, however, not only does every step require dealing with an inept, corrupt and intrusive bureaucracy, but the democratic system itself also imposes extra costs and delays. For every important and helpful reform, there is a powerful lobby that will oppose it.

Such a political comparison, however, contains many misperceptions. First, as those who have done business in China know, decision-making there is far more erratic and far more prone to profiteering by rent-seeking officials than it appears to some envious Indians. Second, much that holds India’s economy and businesses back has little to do with democracy as such: corruption, fiscal mismanagement, a lack of international ambition and a history of over-protection at home. Where India overcomes these obstacles, and has a clear competitive advantage—as in software and other information-technology services—it can be a huge success.
Source: The Economist

US Economy: Where's the Post War Boom?

I'm doing a fair bit of blogging today since I'm off on one of those 'European' long weekends tomorrow, so things will probably be a bit 'light' till Tuesday. As I said earlier I'm doing this in a locutorio because the nice people at Wanadoo (the internet subsidiary of France Telecom) have decided to cut off all Barcelona ADSL subscribers for an unspecified period (as of Thursday of last week) for 'improvements'. Apart from the fact that - as they politely inform us - they 'reserve the right to charge even when there is no service available', they also are unable to give any time scale whatsoever. It's the arrogance of all this that I can't stand. I'm afraid in my book these people could all go quietly bankrupt and I wouldn't shed a tear. Also, being a pragmatic - non-religious - buddhist, my policy is not to get uptight about things which I can do nothing about.

Which is why I am here in the locutorio, learning a few things about how the world works and thinking about the US economy (and also dreaming about my new life, starting tommorrow, and thanks to Margy, doing anthropological fieldwork). Now feeling perky since Andy Xie confirmed my instincts about the Chinese economy this year, I feel emboldened to stick my neck out a bit on the US one.

I think the equity markets have it wrong. In fact I'll correct that. I think the main factor driving the equity markets at the moment is interia. The money has to be placed somewhere, so now we are going to try equities. So I don't think you should be reading this as a charge up the expansion ramp. In fact I would stick my neck out even further and say that the Nasdaq at 1600+ is looking disntinctly overpriced to me (but then I may have to eat my words).

I don't expect a real sustained drive in US growth either, this by the default argument, if there's little or no growth elsewhere, I don't see the US 'going it alone', especially when it's on credit and others are effectively paying. Many of the numbers are glass half empty or glass half full stuff. There's some relief in some quarters that new signings for unemployment are dropping, but they are still woefully over the 400,000 threshold. The current account deficit isn't improving any either. So my feeling is that if the recovery is sustained it's likely to be a fragile one, and that means not enough growth to eat up the productivity, and that means...........deflation, say the middle or back end of next year.

There, I've done it, I've stuck my neck out. Now let's wait and see if I'll have to eat my words. Of course it does help in all this top have some theory to help orient my guesswork, let's see if the theory is any good shall we.

Economic gloom lifted slightly on Thursday with reports showing a fall in U.S. jobless claims, signs of a pickup in mid-Atlantic factories and a strong gain in a broad economic forecasting gauge. The Labor Department said first-time claims for unemployment insurance fell for the second week in a row last week, while the Philadelphia Federal Reserve Bank said its June factory index rose after three months of declines. The private Conference Board said its leading indicators index in May logged its largest rise since December 2001, while a separate Commerce Department report said the U.S. current account deficit widened nearly 6 percent in the first quarter to a record $136.1 billion. "If the economy is stuck in a soft patch, the job market is stuck in the mud," said economist Oscar Gonzalez at John Hancock Financial Services. "The only good news is that the market is not getting dramatically worse. Still, if you're out of work, you're out of luck."

Taken together, Thursday's reports fostered hopes that the long-awaited post-war economic pick-up may be a bit nearer, but most economists were reluctant to celebrate yet. "Two of these indexes (Empire State survey and Philly Fed) does not make a full recovery. But it certainly is, along with other data we have seen recently, pointing in the right direction," said Tim O'Neill, chief economist at BMO Financial Group in Toronto. The Labor Department said first-time claims for state jobless benefits, a rough guide to the pace of U.S. layoffs, dropped by 13,000 to 421,000 in the June 14 week from a revised 434,000 the prior week. The claims number was lower than economists had expected, but some cited the worrying fact that claims have been stuck above 400,000 -- a level regarded as signaling labor market erosion -- for 18 weeks. "While this is an encouraging development, the latest reading is still high by historical standards, and the pace of unemployment insurance applications will need to decline further in order to signal a stabilization in labor market conditions," Jade Zelnik, economist at RBS Greenwich Capital, said in a report. In more upbeat news, the Conference Board said its index of leading indicators rose 1.0 percent in May, well ahead of the expectations of Wall Street economists, who had forecast a 0.6 percent rise. "The leading economic index finally points to a recovery almost a year and a half after the end of the recession," the board's chief economist, Ken Goldstein, said in a statement. "But dangers present in the first five months of the year have not disappeared completely. Chief among them is a lack of business confidence."

Economists polled by Reuters had expected the current account gap, the broadest measure of trade since it includes investment flows as well as goods and services, to come in at $141.2 billion. However, some analysts called the lower number was small consolation. "The current account deficit was smaller than expected but it's still a record," said Anne Parker-Mills, senior economist at Brown Brothers Harriman in New York. The growing deficit has weighed on the dollar in recent months. Many analysts believe the huge gap is unsustainable over the long run and raises the risk of a sharp correction and an even weaker dollar.
Source: Yahoo News

Immigrants from Africa, Where are they?

Another of Joergs' questions relates to the relative absence of African migrants in the current debates:

BTW, I also think it is not accidental that in the context of immigration, Asia gets preferred treatment. Nobody talks about taking in immigrants from Nigeria and the Congo. Germany doesn´t have any specific "identity issues" in this respect - there is a pervasive racism in western society operative here. Believers in the "Bell curve" are strict about which type of immigrant they will accept. As a general rule, you just need to look at the incidence of intermarriage to find out how genuinely free relations between races, peoples and religions are. I would think that with regard to the African-American population there are still very real obstacles to be observed - though I haven´t checked the data

Here is a link to an interesting paper from Harvard economic historian Jeffrey Williamson, explaining why mass migration out of Africa may well lie in the future. Essentially migration processes are fuelled by the demographic transition at home, and then driven by migrant stock abroad and mimimum wealth requirements. Essentially Africa is still too poor, and with relatively few external migrants to send money home to pay for more. But give it a few years......

Here's the abstract:

Two of the main forces driving European emigration in the late nineteenth century were real wage gaps between sending and receiving regions and demographic booms in the low-wage sending regions (directly augmenting the supply of potential movers as well as indirectly making already-measured employment conditions less attractive). These two features are even more prominent in Africa today, but do or can Africans respond to them with the same elasticity as in the days of 'free' migration? Our new estimates of net migration and labor market performance for the countries of sub-Saharan Africa suggest that exactly the same forces are at work driving African across-border migration today. Rapid growth in the cohort of young potential migrants, population pressure on the resource base, and poor economic performance are the main forces driving African migration. A century ago, more modest demographic forces in Europe were accompanied by strong catching-up economic growth in the low-wage emigrant regions, followed by a slowdown in already-modest demographic growth. Yet, migrations were still mass. In Africa today, economic growth has faltered, its economies have fallen further behind the high-wage OECD leaders, and there is a demographic speed up in the making. Our estimates suggest that the pressure on emigration out of Africa will intensify, manifested in part by a growing demand for entrance into high-wage OECD labor markets.

Bulgaria Presses for a Road Map

It's strange, but Bonobo readers seem to get into everything. John from Canada recently sent me this revealing mail:

I've just returned from an extended holiday in the UK with my family. In the middle of it I spent a week visiting my company's software development partners in Hungary and Bulgaria. Both groups of course mentioned the depreciation of their currencies against the dollar. I agree with your comments about the wisdom of Hungary's approach, but was most interested by your comments about Bulgaria. I spent three days there earlier this month and did find it significantly more expensive than last year, while still of course quite cheap compared to the West.

I wrote back explaining that I was pleased with his observation about Hungary, but that he had misunderstood the situation in Bulgaria. The Bulgarian leva is pegged to the euro, and is inevtably rising. Hence the 'expensive' comment. What is even more preoccupying for me is the fact that this peg is being sponsored by the IMF and encouraged by the EU. All this sounds awfully reminiscent of Argentina to me. Why cannot they learn the simple message that it is not appropriate for a relatively small economy to have a fixed peg with a much larger neighbour (and this of course also applies to Spain Greece and Portugal who are inside the euro), especially when that neigbours currency may be subject to relatively violent fluctuations which will reflect no underlying fundamentals in the small neighbour. Now back to John's second mail:

I did not know that the leva/euro peg was an IMF requirement; that certainly explains some things. Bulgaria itself seems to be improving marginally, but the whole place smells, as before, of corruption.

And now let's go south a little, to Thessalonika where the EU is having a big metting to decide on it's constitution, and Bulgaria is looking for an accession timetable, but things don't seem to be too promising. Incidentally, note the growing Spanish connection at the end, as I am trying to suggest, this may be more than mere coincidence. Solomon Passi is Bulgaria's foreign minister.

The three-day summit, where the accession of Balkan countries to the EU is a key item, ends on June 22. Bulgaria and Romania were not invited to join the EU in May 2004 along with 10 other eastern and southern European nations because of their slow economic progress, but hope to join in 2007.

Passi said that it would not be easy for the EU to recognise 2004 as the year to end negotiations, but this would create a positive precedent if it happened, Bulgarian National Radio said. "The other countries which joined the EU did not have any dates fixed in advance. I cannot promise at this time that we would be able to achieve this goal, but if we are not successful now, we will have to try again at the summit meeting in Rome at the end of the year", he told BNR in an interview.

Passi was speaking just a day after he returned from Brussels where he paid a working visit to EU headquarters. Statements by senior officials there were not very encouraging. The EU's Employment and Social Affairs Commissioner, Anna Diamantopoulou, told Passi that it was doubtful that Bulgaria would be given a fixed accession date in Thessaloniki. EU enlargement commissioner Guenther Verheugen was even more straightforward: "Bulgaria cannot expect to receive a set date for finalisation of the accession talks at thesummit in Thessaloniki," he said after meeting Passi in Brussels.

The regular report of the European Commission, which will make an objective assessment of Bulgaria's progress in negotiations and in meeting the criteria, is traditionally announced in October, Verheu-gen said. However, Verheugen assessed Bulgaria's political programme for finalising the talks in 2004 as realistic and attainable. Talks were proceeding smoothly, he said. Passi also met EU Foreign Policy and Common Security Commissioner Javier Solana, who noted Bulgaria's hard work towards joining the European institutions.

"The EU wants to maintain with Bulgaria the most intensive possible political dialogue," Solana told reporters on June 12. However, Bulgaria got a sign of support for its effort to determine 2004 as the year to end negotiations with EU. Spanish foreign minister Ana Palacio, who accompanied King Juan Carlos on a state visit to Bulgaria at the beginning of June, said that Madrid would back Sofia's efforts to conclude its negotiations on joining the EU next year. "We hope that at the Thessaloniki summit we can confirm Bulgaria's timetable for negotiations so that these can be concluded in 2004," Palacio said.
Source: Sofia Echo

Is the Japanese Labour Market The Default Setting?

Joerg isn't satisfied with my reasoning on immigration. He's sent me a whole bunch of material which I'll break down for ease of digestion. His first point I really agree with, we are in danger of getting into a vicious spiral of 'structural reforms' where we continuously run round and round trying to catch our own shadow. We really need to be very clear what we mean when we talk about 'structural reform'. If this is what Joerg is saying, then I agree.

Andy Xie shares a misunderstanding with you:"Japan’s automobile industry is the only one that still brings home the bacon. Structural labor problems in the US and Europe contribute to Japan’s profitability in this business. Japan’s auto industry would follow its electronics industry into low profitability when (1) low-cost Asian countries start to make competitive automobiles, or (2) structural reform of the labor markets in the US or Europe takes place."

So for him, even the U.S. labour market is in need of "structural reform". In fact, in western terms, the most "unreformed" labour market is the Japanese - which at some time in the past even guaranteed lifelong
employment. Remember Brad´s recent post about the idea to consider the Japanese employer-worker relationship the "default" that western societies unfortunately diverge from?

The problem here I think is another one of those tricky 'chestnuts' associated with neo-classsical theory, the absence of a historical dimension. Probably some version of evolutionary economics has more to say about this kind of problem. Specifically I am thinking of the infancy-adolescence-maturity-senility trajectory. This has often been applied to technological processes, but perhaps less so less to the economic and social system itself, or to the associated question of the occupational structure. Now this I take it is what the debate about high-value, knowledge-based activity is all about. Our societies are on some kind of evolutionary branching-process path. We seem to have become locked-into a situation where in order to maintain our competitive advantage we need to invest more and more resources in preparing our working population in terms of acquired human capital values (this I take it was Eddies point a few weeks ago about children getting too much homework). This investment in the young has the associated consequence that we produce less children, hence the demographic connundrum.

The problem of the car factories is related, but not identical. This goes back to my argument about the accelerating pace of technological change, and the difference between intelligence (or flexibility, or adaptability) and experience. The motor industry - whether in Japan, Germany or the US - has priced into its cost structure the accumulated experience of its workforce. With each passing year there is less and less justification for this valuation. Hence the industry is under pressure to 'reform itself'. In a globalised labour market, what excuse is there for defending the relative affluence of the western worker? What is the moral authority for this point of view? Here I think Andy Xie is absolutely right (see post earlier today: This is essentially telling poor people not to work too hard because it produces pressure on rich people. ).

We reasonably want to defend our standard of living, yet, at the same time we lack candidates to do the more unpleasant work. How many of my readers have the ambition for their children to work in construction, or in domestic cleaning? Logically, if our societies need these activities, we need people to do them. At the end of the 19th century, in western Europe, these people came from the land. In the UK, for the first half of the 20th century they came from Ireland. Now they come from across the planet. Normally those of us working in migration theory operate on a three generation model. The first is the sacrificial generation. The second is the 'lost' generation (the generation which is between two cultures, and never really knows which one it belongs to), and the third is the upwardly mobile generation. Ironically, since I am suffering from major server 'outage' (more on this in another post) I am writing this from a 'locutorio'. I live in a neighbourhood of Barcelona which was composed of 'shacks' forty years ago when my wife's parents came here. Now the houses are mainly owner-occupied flats, built before the boom when property was still cheap by that very 'sacrificial' generation. Now the grandchildren have nearly all moved out to more fashionable neighbourhoods (paying terrible prices for flats - with enormous mortgages - that they think will keep rising in value, but may well turn out to be a terrible millstone round their necks). Now there is a new population here, immigrants from all over the planet Peru, Ecuador, Pakistan, China, Rumania, Russia, and they are all around me in the locutorio (all incidentally using the new tecnologies for communication, I see very little 'surfing'). And the immigrants rent the flats as the grandparents die (no one here wants to turn cement into cash: a preference they may well live to regret). With four, five or six to a flat this is economically viable for them. And I guess this pattern is reproduced the world over.

Now what is the point of all this in connection with Joerg? Well my argument is that economic systems need to be understood both historically and ecologically. They are machines for devouring people, our planet's most precious natural resource. But pretty soon we are going to exhaust this one, so big changes are on the way. Imagine, just for one moment where the 'surplus' labour will come from to fuel China's enormous requirements once the domestic population resources are exhausted?

Clearly, Joerg will reply, we need robots, or following Kurzweil, humans with non-invasive implants, or computers with personality? Who at this stage knows? That is why I do not wish to speculate, I am trying to understand the world we have. The one we are about to get, well there will be time enough for that later.

Bleaker By the Day

More and more depressing news from Germany. There now seems to be a distinct possibility that Germany will have negative GDP growth through the whole of 2003.

Economists are expecting Germany's economy to plummet further this year.
Recent forecasts offered some hope that Germany’s ailing economy would grow in 2003, even if only by a fraction. But several leading institutes now say they expect growth of zero percent or, worse, a contracting economy. Signs that Germany’s ailing economy may be falling into a full-fledged recession intensified on Tuesday as a handful of the country’s leading business and economic institutes revised economic forecasts from marginal growth to a possible contraction of gross domestic product. "An economic recovery during summer 2003 isn’t in sight," said Martin Wansleben, president of the German Chambers of Industry and Commerce (DIHK). "Instead, the German economy is in a persistently stagnant phase." Using the dreaded term "red zero," as in red ink, DIHK is forecasting that the German economy will contract to below zero growth this year. This winter, the institute said it expected a marginal growth rate of gross domestic product of less than 1 percent. During the first quarter, Germany’s $2.3 billion economy shrank by 0.2 percent over the previous quarter. And the bad news just keeps on coming.

The news comes as little surprise to the 21,000 firms polled by the institute, who are expecting the worst business conditions in 10 years. Not since 1993’s recession has the confidence of German executives been so shaken. Only 17 percent of the companies polled said they had positive expectations for the economy this year, while 42 percent said they expected business conditions to be worse this year than last. "Fears are increasing that exports, the foundation of economic growth (in Germany), are starting to crumble," said Wansleben. "The disappointing global economy following the end of the Iraq war as well as the speedy rise of the euro is shaking confidence in exports." Businesses are particularly concerned about the United States, Germany’s second-largest trading partner. The weak dollar and skyrocketing euro threatens to make popular, high-quality German products – from automobiles to household appliances – prohibitively expensive and less competitive on the American market. But there are also signs of weakness in the traditionally strong export market for Germany’s neighbors. "France, Italy and the Netherlands purchase nearly a quarter of all German exports, and their economies are also faltering," Wansleben noted.

DIHK’s report was compounded Tuesday by the latest forecast from the Hamburg Institute of International Economics (HWWA), which said it was expecting zero growth for the German economy this year. As recently as March, the institute was predicting 0.7 percent growth. Looking ahead, HWWA offered a slightly more optimistic prognosis of 1.5 percent growth in 2004. HWWA said its adjusted calculations were largely attributable to the euro’s rapid climb. The currency’s value has risen markedly above the baseline used by HWWA in its previous forecast, and the institute warned that its further climb could hinder any turnaround of the German economy. HWWA said its current prediction of zero growth was based on the euro remaining stable at its current value. Tuesday’s developments come on the heals of a similar report from the Kiel Institute for World Economics, which also recently revised its growth estimate downward to zero. Nonetheless, the federal government is maintaining its forecast of 0.75 percent growth in GDP for the year – and it points to the April report released by Germany’s six largest economics institutes as justification. The two-month-old report predicted 0.5 percent growth for 2003 and 1.8 percent growth for the following year.
Source: Deutsche Welle

And Euroland Forecasts Go Downwards

Meantime the European Economics team at Morgan Stanley are busy revising euro wide growth forecasts downwards. 0.4% this year for the whole zone. This is why Chinese exports are starting to boom, increasing pressure on European companies, who need to compress prices following the euro rise, leading to Chinese outsourcing. The problem is not in China, it is in Europe, I think Andy's logic is impeccable here.

We are cutting our Euroland GDP growth forecast for 2003 from 0.9% to 0.4%. As for 2004, we are trimming our forecast from 2.3% to 1.9%. Note that the 2004 forecast is discounting an unusually strong and positive calendar effect -- non calendar adjusted GDP growth would be 2.1%. In addition, we cut our average inflation forecast for 2003 from 2.1% to 1.9%, and from 1.5% to 1.4% in 2004.
Source Morgan Stanley Global Economics Forum

China's Upward Growth Path

Morgan Stanley's China Team have revised their China GDP forecast upwards. I am happy about this for two reasons. Firstly because any good news on growth is always welcome, and secondly because when things looked pretty choppy a couple of months back and forecasts were being re-written downwards here, there, and everywhere, I managed to hang on in and stick by my pretty bullish outlook. It is beginning to look as if I may have been right.

We are raising our GDP growth rate forecast for China to 7.5% for 2003 from 6.5% because of stronger-than-expected exports and the improving US outlook. We are increasing our growth rate forecast for exports to 21% for 2003 from 12%. On April 2, we reduced GDP growth rate forecast to 6.5% from 7% because of SARS-related weakness in domestic demand. We have not changed our view on the impact of SARS. The current upgrade is entirely due to more favorable global economic environment.

China’s exports are surging beyond our expectation. We originally believed that China’s exports grew a rate of 22% last year because of the low base the previous year and that the rate would normalize in 2003 to 12%. Instead, growth for exports has accelerated this year to 34.3% for the first five months of the year. It appears that China is entering another export boom for two reasons:

European companies look to be shifting their production to China through either shifting to an OEM model or relocating their factories. For example, a number of soft goods vendors have been following their US counterparts in shifting to an OEM model. A strong euro has also helped. It appears that Europe explains half of the upside surprise in China’s exports this year. China’s export base is broadening in terms of product range and producers. Private companies, for example, raised their exports 163% in the first four months of 2003, increasing their share of total exports to 8.4% from 6.6% last year. China’s private sector has finally learned how to produce products that western consumers want to buy. This new force should drive China’s exports for many years to come. The range of export products has widened dramatically. Because China has hundreds of millions of surplus workers, it can virtually create economies of scale in every product that exists in the world. This represents a weapon against protectionism. Even though EU imposes quotas on about 3000 Chinese products, China’s exports to Europe rose 45% in the first five months.

However, China’s imports are surging even faster that exports because of rising commodity prices and the takeoff in car sales. The Commodity Research Bureau’s index has averaged 239 so far this year compared with 211 last year. It is likely to average about 240 for the year as a whole. China depends on imports for raw materials. The rise in the CRB index represents deterioration in China’s terms-of-trade. This factor alone contributes about 4 percentage points to China’s import growth rate beyond what we expected at the beginning of the year. Motor vehicle imports rose 123% in the first four months of this year, twice as strong as we had expected. China’s auto sales are up by about 60% so far this year. As China cuts import tariffs because of its obligations after joining the World Trade Organization, auto imports are surging. This factor contributes about 2 percentage points to the increase in our import growth rate forecast. Half of our import upgrade is embedded in our export upgrade. China’s incremental exports are highly dependent on imported components. Domestic value added is about half. Localization does happen over time. The value added component of China’s exports is less volatile than total export revenue.

Strong export growth does not mean that China’s currency should appreciate, in our view. The army of surplus workers is so massive that wages in the export sector are not inflating at all. Until China runs out of its surplus labor, there isn’t a good case for its currency to appreciate. Some argue that China could face protectionism if it doesn’t revalue its currency. This is essentially telling poor people not to work too hard because it produces pressure on rich people. Let protectionism come, I say. It still won’t stop China. Other countries will always be there to buy things at cheaper prices if they don’t produce such products themselves. This angle alone should allow China’s exports to grow steadily.
Source: Morgan Stanley Global Economic Forum

Thursday, June 19, 2003

Germany's Euro Test

Glass half full, or half empty? In this case a question asked only half seriously, or half in jest: should Germany leave the euro? Of course the economist in raising the tabou issue hides behind the mask of humour (a strategy already well explored here at Bonobo Land), but the problem is real enough, and despite the comic veneer for once the economist doesn't fudge things.

THE interminable debate in Britain over whether to join the euro reached a new peak this week, when Gordon Brown, the chancellor of the exchequer, delivered his verdict. Mr Brown based his judgment on five economic tests, of which Britain, he announced, had failed four. Yet perhaps this is the wrong debate about euro membership. Only partly in jest, The Economist suggests that a better question is not whether Britain should join the currency zone, but whether Germany should leave.

Take Mr Brown's five tests and apply them to Germany. The first is convergence: are business cycles and economic structures sufficiently in step that Germany can live comfortably with euro-area interest rates? The clear answer is No. Since the euro was launched in 1999, Germany's GDP growth has been by far the slowest in the euro zone, causing its output gap (the difference between actual and potential GDP) to widen by more than anywhere else. Real domestic demand has barely risen at all in Germany since the start of 1999; in the rest of the euro area it has gone up by 9% (see chart). Germany is technically back in recession: many economists think that it is now in its third consecutive quarter of shrinking GDP.

Indeed, a study by HSBC finds that, although Britain's growth rate and output gap have converged with the euro zone in recent years, Germany's economy has diverged from other members. This suggests that Germany may be worse suited than Britain to live with a one-size-fits-all monetary policy. Since Germany has the biggest output gap within the euro area, it needs lower interest rates than its fellows. Instead, Germany has the highest real interest rates, because it has the lowest inflation rate. This, in turn, further depresses growth. Moreover, Germany's lower inflation rate is not just cyclical. Differences in productivity and price levels within the euro zone mean that inflation is structurally lower in Germany. This implies that real interest rates may be permanently too high.

The second test asks whether the economy is sufficiently flexible to deal with “asymmetric shocks”, changes in the economic environment that affect some countries more than others. Flexibility matters because members of the euro zone cannot adjust national exchange rates or interest rates to cushion their economies, and fiscal policy is also constrained. Again, the answer is No. Look, for example, at Germany's struggle to cope with the effects of reunification. For all the recent talk of reform, the labour market remains sclerotic. Levies on wages to finance social security, health care and pensions are painfully high. There are strict laws controlling the firing of workers, and wages are rigid.

Test three is: will the euro encourage companies, especially foreign ones, to invest, by eliminating exchange-rate risk within the zone? If Germany's economy remains weak, it should surely fail this test too, because firms will be wary of expansion. Mr Brown's fourth test, the impact of the euro on the financial-services industry, may be less important in Germany than in Britain. However, foreign banks have slimmed down in Frankfurt, even though the city is home to the European Central Bank.
The fifth test is whether the euro will boost growth and jobs. Over the past couple of years, unemployment has increased by far more in Germany than in the rest of the euro area. Worse still, a recent study by the IMF warns that the country faces a serious risk of deflation, which could further depress output and jobs. Inflation is running at only 0.7% (well below the euro-area average of 1.9%), and increasing excess capacity and a stronger euro will push it lower still.

Deflation would be dangerous in Germany, given firms' heavy burden of debt and the fragile state of the financial system. Bank credit has already ground to a halt. Yet Germany cannot cut interest rates, because these are set by the ECB according to economic conditions across the whole euro area. Europe's stability and growth pact is forcing the German government to tighten fiscal policy too. Ironically, the rules for both the ECB and the stability pact were designed largely by Germany.

The IMF argues that monetary policy can prevent deflation, if it is pre-emptive and forceful. Those are not words that describe the ECB. At his May press conference, Wim Duisenberg, the bank's president, said: “In the 16 years that I was the governor of the central bank of the Netherlands, there were two years in which we had deflation of ½%. I publicly declared then that I lived in a central bankers' paradise.”

Whatever the economic arguments for Britain's joining the euro, the case for Germany's quitting looks stronger. The idea that Germany will do it is, of course, the stuff of fairy tales. However, the country's present predicament also has a fairy-tale feel, with the ECB in the role of the wicked witch who lured Hansel and Gretel into her gingerbread home with the aim of eating them. In the story by the Brothers Grimm, Gretel pushes the witch into the oven. In the real world, Germany is being roasted, and risks living unhappily ever after.
Source: The Economist

ECB: Revolution in the Boardroom?

Apart from the disquieting legal background to M. Trichet's entry on the international banking scene, one other detail does seem worthy of note. The lack of discussion about what kind of policy impact he might have. This absence is all the more noteworthy in the light of the blaze of publicity and discussion which accompanied the change of watch at the Bank of Japan earlier this year. It is also noticable by its absence in the debate on deflation fighting, now that it appears some of the main European economies may be flirting with the 'Japanese' problem. Paul de Grauwe, academic economist, and Belgian nomination for membership of the ECB managemnet body, reflects on M Trichet's qualities in today's FT. As far as I can see he is expecting a personality clash with Otmar Issing (the ECB Chief Economist) and that Tricet will lean more towards capping inflation than fighting inflation. If this is the case the best that can be said is that we may be in for 'more of the same'.

Now that this uncertainty seems to have been cleared..........it is appropriate to ask what difference Mr Trichet would make at the helm of the ECB. The cynical answer is: very little. The ECB is not the US Federal Reserve, where the chairman is clearly in charge. The institutional structure of the eurozone system of central banks is very different. The national central bank governors exercise considerable influence over eurozone economic decision-making, and will continue to curtail the power of the ECB president. In addition, at present it is the chief economist of the ECB's governing council - not the president - who prepares its meetings and formulates the policy options that are to be discussed. In such an environment, the new president will have limited freedom to impose his views. For the cynics, the difference between Mr Trichet and Mr Duisenberg will amount to very little.

Yet strong individuals can sometimes make a difference. There can be little doubt that Mr Trichet will be a more forceful leader than Mr Duisenberg - which, according to some, will not really be difficult. He is likely to want to be more involved in the preparation of the governing council meetings and in the formulation of the policy options. A power struggle with the chief economist is therefore a strong possibility............

The start of the new presidency is an opportunity to define a strategy that comes closer to best practice and that will create less confusion..................Will this change in strategy also include raising the inflation target to, say, 2.5 per cent or 3 per cent? Many economists would welcome such an increase, especially at a time when some eurozone countries have structurally higher rates of inflation, and are therefore pushing other members dangerously close to the zero inflation limit, creating a deflationary bias in those countries. In addition, as the critics have argued, the maintenance of a target that says inflation should not exceed 2 per cent has led the ECB to react too slowly to growing recessionary pressures.

It is unclear whether Mr Trichet will want to change this part of the ECB's strategy. After all, he made his reputation forcing the rate of inflation in France down to the German level amid howls of protest from French politicians, economists and intellectuals. He stood firm and earned a reputation as a hard-nosed inflation fighter - quite a feat in France. Will he want to endanger this reputation by raising the inflation target? Or will he be the "Nixon who goes to China"? I expect that Mr Trichet will want to preserve his hard-fought reputation. But I may be wrong. Sometimes the quality of great leaders is to do the unexpected.
Source: Financial Times

Justice and the Murky Hand of Politics

As I keep saying, I have no idea at all about the legal niceties of this case, but I do think that we should all find the insinuation that a public prosecutor will not institute an appeal process because of 'gevernment' desire to move ahead at Thessaloniki a profoundly disturbing idea:

A lawyer for Bank of France Governor Jean-Claude Trichet said on Thursday he had no doubt that the prosecutor would not appeal Trichet's acquittal in a bank fraud case. Bernard du Granrut said he had not been informed of any decision by the public prosecutor yet. "However given the government's desire to move ahead at the EU summit in Thessaloniki with the question of Mr Trichet's succession to the head of the European Central Bank, I have not the shadow of a doubt that there will be no appeal," he told Reuters.
Source: Forbes

Our Future At Work

Obviously it's amazing what a difference a generation makes on how you see things. I just got this from my son in England.

Saw a fascinating programme on BBC 4 last night about the American Enterprise Institute and the neo conservatives also featuring my old mate richard pearle (i rate him!). No-body has a high opinion of Bush it seems (other than the un-educated masses who actually vote for him.... and lets face it they're the ones that count!).

So no matter what they say, for me Bush has the potential to be a great leader! don't laugh... Look, they want Reagan on that mountain (its name i forget-- with the other great US presies)! and if Bush keeps going, gets a few lucky breaks and keeps things dumb they might really love him. Especially when the marketing machine gets going for the next election. I am probably wrong but if he wins his battle against 'evil' and all the christian co-alition bunch seem to warm to him and his religious diatribe, he could get REAL popular. I mean Hitler was pretty bloody successful as a leader..... for various reasons, and dubious means i know, but he still managed to convince a nation to go to war and the brink of destruction... scrap that to actually destroy itself! Stalin you could argue the same (iron fist, feather touch and all the rest). Ceasar... queen elisabeth. Look they all ultimately left a mess after them but you have to concede they enjoyed enormous success at some point and so how else do we define leadership? Bush has a certain charm which he can use and if he's lucky could do bloody well for himself. i also don't think he is infact as stupid as everyone makes out either, people positively rip him to shreds over here for his supposed stupidity.

News on the Immigration Front from Sweden

Europundit David Weman has news that things seem to be moving positively on the immigration front in Sweden. Curiously it seems to be being propagated by the Swedish 'right' and the 'greens', with the left parties defending the 'incumbents' reticent but quiescent. Here, any news is good news, but then Sweden always was a European 'outlier'.

This blog is all about underreported news, and here's something that's as far as I can tell haven't been reported at all in anglophone media:

Sweden is only a few years away from opening up the labor market to immigrants. All of the right wing opposition parties are for it, and so is the Green party; one of the two parties the Social Democratic government depend on for parlimentary support (The other is the commies, I'm sorry the Left Party. They're in a formal alliance, (not a coalition!), that covers most policy areas but not everything, since the soc dems wants to keep the commies at arm's length.).........
Source: Europundit

Wednesday, June 18, 2003

Isn't Immigration Inflationary?

Joerg is worried about my immigration thesis. I think the arguments he presents are worth considering, even if I don't agree with them. Proposing something so counter intuitive as more immigration for a society already suffering from heavy unemployment (like Germany), certainly needs to be justified.

I do consider your demography thesis seriously, but still do not buy it. To my taste, it is just not pessimistic enough.

Remember Malthus: all the interminable wretchedness came to be viewed as remediable. That will not do. Don´t waste your talents as an economic Cassandra on a treacherous topic like the demography trap that is going to ultimately disappoint you. When it is revealed as a Hitchcockian MacGuffin, you will wish to have agonized about other issues worthier of perennial alarm.

The WSJ supports immigration as a powerful weapon in the fight against inflation. They are right about the disinflationary effects of immigration. I really have no idea why you want to prescribe immigration as a cure against deflation. I am not opposed to immigration, but I sure do know that supporting immigration with unfounded claims will doom it as a policy issue at some point in the future. The argument in favour of immigration has to be derived from political, cultural and moral principles. An economic case could possibly be constructed on the basis of biology nobelist William Hamilton´s ideas about genetic diversity. Economists would have to cooperate with epidemiologists in order to credibly attribute variations in the probability and severity of diseases to variations along the dimension of genetic diversity and could then try to assign a cost to strategies of preserving homogeneity.

The argument about immigration in a biological diversity context is certainly interesting, but I'm afraid my argument is more pragmatic and essentially economic. Joerg and the WSJ are certainly right, the impact of immigration - or read proxy globalisation (since I think it increasingly doesn't matter where much of the labour is located for this argument to work, and in a world where use of 'undocumented' labour is becoming habitual and sytematic, where they actually are physically seems to be less and less important) - is dis-inflationary. Essentially it drives down costs. What it does is change the slope of the labour supply curve, making proportionally more unskilled labour available at ever cheaper prices, and at the same time it displaces it outwards, meaning more 'potential' labour becomes available at every price. This is, I'm afraid to admit, an essentially supply side argument. But isn't this in part what our labour market, flexibility, reforms are supposed to be all about. Reducing costs to foment economic expansion. This is the good kind of dis-inflation. This is supply stimulus.

But then there is the dependency ratio argument. These are early days, and this theory is far from complete, but I feel that there is increasing evidence that a 'healthy' society in the sense of growth potential needs a certain age structure, and a certain 'potential' dependency ratio. This is where the immigration argument really comes in. Immigration helps maintain a stable trajectory by cushioning the dependency ratio blow.

It also adds to the demand side stimulus, since immigrants are predominantly young and liable to borrow against their futures (normally they borrow even to arrive). This can help prop-up eg flagging housing markets, demand for consumer durables etc etc. One of the reasons I am 'getting out of the office' to study the Bulgarians in Valencia is to try to learn more about the reality of immigration. Then I hope I will be better equipped to answer more of these questions.

One last point. Immigration is not a permanent solution. As more and more societies pass through the demographic transition, then we will run out of human resources. But immigration can buy time, soften the blow, and enable us to look for better, more sustainable ways of living. We may be all hooked on growth, but we need time to come off. If we kick the habit too quickly the consequences may not be pleasant.

Japan Will Become Normal......When Its Wealth Has Depleted Sufficiently

An off-beat view of the Japan crisis from Andy Xie. Even is it isn't exactly the vein I'm trying to tap, it's certainly a revealing insight into life in contemporary Japan from an ever-interesting economist:

Narita Airport was unusually empty when I visited last week. SARS has taken its toll in Japan. Japanese resident departures were down 42% in April from last year. It was probably worse last week. Empty taxicabs still lined sidewalks. The office vacancy rate hit an all-time high. Despite signs of depression, Japan appeared prosperous as usual and sentiment had improved compared to what I felt three months ago. I sensed a collective sigh of relief among Tokyo’s chattering class that the US and Europe are experiencing Japan-like symptoms. One cannot blame them for gloating over others’ misfortunes; Americans were constantly telling the Japanese what to do.Japan observers divide mainly into two camps. One always believes that reform will turn Japan around. They read into the tea leaves of every government action and base their optimism or pessimism on what they see in government actions. The other believes that Japan will collapse one day because it does not want to deal with its bad-debt problem. Genuine reforms could only follow a massive financial crisis. Japan would regain its dynamism afterwards.

Tokyo is turning from a centre for business to a place for fun. This is not necessarily bad. Vienna went through the same process in the 19th century. Austria became very big after a string of successes against a declining Ottoman Empire. It could not sustain its relative position when other strong states competed against it. Tokyo becoming Asia’s Vienna is not a bad idea. While Japan’s adjustment is inevitable, it could do better by destroying less value. There are still too many intermediaries between the fiscal deficit and the sushi table. Too many factories stay open for too long. Of course, the government wants to keep employment up and spreads its money around. However, there is a better way. How about asking everyone to take the summer off?

I believe Japan will become a normal economy again when its wealth has depleted sufficiently and the value of the yen declines sharply from where it is. That day will arrive when Japan begins to run a trade deficit. Automobile prices will determine when that happens. Japan’s automobile industry is the only one that still brings home the bacon. Structural labor problems in the US and Europe contribute to Japan’s profitability in this business. Japan’s auto industry would follow its electronics industry into low profitability when (1) low-cost Asian countries start to make competitive automobiles, or (2) structural reform of the labor markets in the US or Europe takes place. The day of reckoning for Japan is probably five years away. Before then, Japan’s current account surplus preserves its financial stability. A strong currency and weak economy would prevail. The value of the currency determines how quickly Japan runs down its wealth. The Japanese government will always intervene to keep its currency down to a level that strikes a balance between consumption and profit. This level appears to be between ¥115 and ¥125 to the US dollar. Any movement outside this range is likely to be temporary.
Source: Morgan Stanley Global Economic Forum

More for the 'No Dollar Policy' Scrapbook

Those of you who maintain that there is no US Treasury dollar policy, and that this is a 'market driven' correction might like to ponder the latest utterances from Treasury Secretary Snow.

As China inches toward freeing its giant economy from state control, the government in Beijing has tightly held the nation's currency, the yuan, at a relatively weak exchange rate, giving a major advantage to Chinese exporters. But now a long-simmering controversy over that policy is heating up. Treasury Secretary John W. Snow suggested this week that Beijing may allow the yuan to rise, and he made it clear that he wants to see that happen. In doing so, he added his voice to those of American manufacturers, Japanese government officials and others who contend that the exchange rate for the yuan, which has been set at about 8.3 yuan per dollar since 1994, is artificially low.

The lower a country's currency is, the cheaper its products are on global markets -- and China's critics blame the yuan (also known as the renminbi) for fueling an export juggernaut that is driving down prices, squeezing profit margins and threatening jobs worldwide.Up to now Washington has quietly urged the Chinese to let market forces play a greater role in setting the value of the yuan, which, instead of fluctuating in open trading like the dollar and the euro, is carefully controlled by China's central bank, with restrictions on inflows and outflows of capital. Snow's remarks were the most high-profile exhortation to date by a Bush administration official for a change in policy."China has indicated . . . that they intend to create more flexibility on the renminbi, and they're to be encouraged in doing so," Snow told reporters during a trip to Pittsburgh on Monday. "We understand that the Chinese government is interested in moving toward market-based flexible exchange rates, and that's something we support."
Source: Washington Post

And China's official reply. Any bets that this won't be a political, and not a market 'correction' when it comes?

China on Tuesday sought to damp down speculation that it may revalue its currency in the near future by issuing a qualified correction to remarks by John Snow, US treasury secretary, who said this week that he saw more flexibility in the Chinese currency's exchange rate. An official at the People's Bank of China (PBoC), the central bank, said: "There is no change to the policy under which the renminbi exchange rate will be kept basically stable." Another official at the State Administration of Foreign Exchange, a body that reports to the central bank, said: "We will continue to maintain our stable exchange rate regime. This is our basic policy for now." Words such as "basically" and "for now" in Chinese are often used as clear qualifiers to the statement being made. However, there was no sense of whether the use of such words in this instance was intentional or merely a figure of speech.
Source: Financial Times

Sustaining China's Growth Path

T-Salon has a post based on a Merrill Lynch report about business opportunities in China, and she is worried since she is not sure "what that means to the thesis of China - the savior of European companies whose domestic market has saturated, and of course the larger topics of the global economy":

many foreign investors say China is the most competitive market in the world, and it is likely to get tougher. Domestic brands are proving aggressive and savvy...where foreign companies have traditionally dominated. Even when there is profitability, margins are eroding in many sectors. And while foreign companies have seen strong growth in wealthier coastal cities, maintaining that growth will mean tapping China's poorer hinterland, a more costly enterprise.

My impression is that t-Salon should not worry too much. China is not going to be an easy ride for any external company and this should have been clear from the start. China has global ambitions, and this means it is not going to be a 'soft touch'. Anyone familiar with the Japanese experience would also be aware that there is something akin to an Asian growth model at work. Margins may be dropping in China, but I feel this is not the key point. US, and increasingly the EU, companies are outsourcing to China because they have little realistic alternative given their cost structures and the reality of tight margins in the domestic market. That working in China isn't going to be a pushover doesn't mean it isn't going to be extremely attractive. Then there is the point about the hinterland. This is clearly going to be much more of a challenge than the first stage, coastal, development. The key surely lies in the development of an internal consumer market in China, and this is no foregone conclusion. At the same time as the 'transition' provoked deflation eases, and labour costs start to rise in China, this will present new internal pressures. Nothing is guaranteed. This is path dependent. Banking and other crises may occur, just as they happened in their day in the UK and the US. But there is a learning curve, and the world has little alternative, so my feeling is: this will happen.

Hong Kong: Plumming the Bottom of Deflation

Some pretty depressing news from Morgan Stanley's Denise Yam looking into the realities of deflation, Hong Kong Style.

Consumers are heading to shopping malls again as SARS is brought under control. Tourist groups are arriving again. Is it business as usual already? Far from it. Business volumes may be seeing a noticeable rebound, but the top and bottom lines are not, as deflation once again deepens in Hong Kong. Special promotions, which are not fully captured in conventional CPI statistics, suggest that we may be underestimating deflation and are overoptimistic on corporate earnings this year. The aftermath of the SARS crisis is yet to be fully reflected in the labor market. Higher unemployment and reduction in spending power can be expected to continue to haunt business receipts for some time to come.

A price-conscious consumer like myself can hardly recall many retail purchases in the last few months that did not come with special offers, discounts, free parking coupons or loyalty cash rebates. However, not all of these popular customer-luring offers are accounted for in the CPI. The data collection methodology traditionally involves recording the “ticket price” that is available to all customers, although the Census and Statistics Department has, recently, in response to the increasing dominance of discounted sales, tried to incorporate the adjusted prices to the extent possible. The price of an item is normally taken at face value, with a limited adjustment for bulk-buying / credit card discounts depending on the proportion of customers taking advantage of the benefit. Nevertheless, coupons for parking and other gifts still cannot be accounted for. On the other hand, surveys generally cover similar outlets every month, and therefore give limited room for consumers capitalizing on viable and sensible substitutions. It is not possible to estimate the “true” extent of deflation with the limited availability of data on the increasingly innovative consumer choices and complex consumption patterns. In our view, the official CPI, which posted a drop of 1.9% YoY in January-May, likely underestimates the broad improvement in living standards resulting partly from “special promotions” and the availability of lower-priced alternatives relative to household income trends. How representative it is of the cost of living is therefore questionable.

A price-conscious consumer like myself can hardly recall many retail purchases in the last few months that did not come with special offers, discounts, free parking coupons or loyalty cash rebates. However, not all of these popular customer-luring offers are accounted for in the CPI. The data collection methodology traditionally involves recording the “ticket price” that is available to all customers, although the Census and Statistics Department has, recently, in response to the increasing dominance of discounted sales, tried to incorporate the adjusted prices to the extent possible. The price of an item is normally taken at face value, with a limited adjustment for bulk-buying / credit card discounts depending on the proportion of customers taking advantage of the benefit. Nevertheless, coupons for parking and other gifts still cannot be accounted for. On the other hand, surveys generally cover similar outlets every month, and therefore give limited room for consumers capitalizing on viable and sensible substitutions. It is not possible to estimate the “true” extent of deflation with the limited availability of data on the increasingly innovative consumer choices and complex consumption patterns. In our view, the official CPI, which posted a drop of 1.9% YoY in January-May, likely underestimates the broad improvement in living standards resulting partly from “special promotions” and the availability of lower-priced alternatives relative to household income trends. How representative it is of the cost of living is therefore questionable.

Deflation has lasted for four and a half years - so far - in Hong Kong, longer than anyone expected, and does not seem to be coming to an end yet. Consumer prices, based on the composite CPI compilation, have fallen by 13.8% from the peak in May 1998. However, the CPI, though the most common measure of inflation / deflation, only represents a cost-of-living index for households according to the prevailing consumer spending patterns, with the weights updated every five years. The domestic demand and GDP deflators derived from the national income accounts, which gauge economy-wide price trends, on the other hand, have fallen 18.3% and 20.5%, respectively, from the peak in 4Q 97, suggesting how severe deflation had been in Hong Kong over the past five years following the collapse in the asset bubble. On the whole, prices have proved to be rather flexible in Hong Kong’s free market economy, and this flexibility is what is vital under the 20-year-old fixed exchange rate system that is often blamed as the cause of the asset bubble and the subsequent collapse and economic hardship.
Source: Morgan Stanley Global Economic Forum

Tuesday, June 17, 2003

(Not Quite) on the Eve of Destruction

Maynard has sent in a link to an article which as he describes as

a very nice piece laying out the depth of the hole the US has dug for itself vis-a-vis foreign-held debt, and noting various foreign rumblings I was unaware of as to how said foreigners can restructure things to protect themselves and, insofar as possible, abandon the US.

I must say I agree with the spirit of this, and found the Billmon blog enjoyable and highly readable. I am 100% with him in his crusade against this horrendous WMD hypocrisy. I just fail to see how politicans who treat their citizens in this way are going to be able to look then in the eye and explain the pensions situation, ever. I also just love the Bertolt Brecht quote at the top. Keep it up Billmon!

With the conquest of Iraq, the American Empire stands at its zenith. U.S. military supremacy is unchallenged. U.S. technological superiority is now taken as a given -- even by the Japanese. America’s most formidable enemy, the Soviet Union, is more than a decade in its grave. Our most likely future adversary, China, is several decades away from posing a threat to American global hegemony. Even the French have been cowed into a sullen silence. The U.N. Security Council (the last bastion of French hopes for a "multi-polar" world) has placed its good housekeeping seal of approval on a unilateral, open-ended U.S. occupation of Iraq -- a colonial "mandate" in all but name. As the neocons turn their attention to remaining members of the "Axis of Evil," the New American Century never looked so near at hand.

But a proverbial cloud – this one quite a bit bigger than a man’s hand – sits on the horizon. I’m not talking about the terrorists........The threat I’m talking about is economic. Like the British Empire in the years after World War I, the American Empire is marching toward global domination on increasingly shaky financial legs:

The American economy now depends on a rising tide of cheap imported goods to sustain acceptable levels of economic growth and domestic consumption. Because of this dependence, the trade deficit – the gap between what America exports and imports -- has reached truly gargantuan levels. This trend is unsustainable. To pay for its import habit, America has to attract approximately $1.5 billion a day from foreign lenders and investors. This means foreign capital – and capitalists – are becoming increasingly essential to the smooth functioning of the U.S. economy. But foreign investors are becoming increasingly reluctant to invest in U.S. assets. To cover the shortfall between what America needs to borrow and what private investors are willing to lend, foreign central banks (the counterparts to our Federal Reserve) have stepped in to fill the gap. As a result of these trends, foreign governments are accumulating a growing ownership stake in the U.S. national debt. In fact, they now own more Treasury debt than the Federal Reserve itself. But their willingness to continue subsidizing our import habit in this fashion is unclear. The strain of increased defense budgets, combined with the looming demographic burdens of retirement and health-care spending, make the longer-term picture even gloomier. A debt crisis looms. The Republican fiscal train wreck – product of the stubborn supply side fantasy that federal taxes can be cut without reducing federal spending – has only brought the day of reckoning closer. The result, as an economist with the Citigroup Private Bank recently put it, is an "unseen hammer" hanging over the U.S. economy and the U.S. financial markets.....................

Obviously, there is an economic contradiction lurking behind the neocons’ imperial project. Like Britain in the 1920s, America increasingly lacks the structural resources to feed its domestic appetite for both guns and butter. Unlike Britain in the ’20s, however, U.S. military and diplomatic supremacy is unchallenged.

So the question I asked earlier pops back up again: Could military power be used to obtain what normal "market" economic forces no longer provide? Will we soon hear demands from U.S. officials that our Asian allies shoulder their "fair share" of the security burden? And if nagging and diplomatic begging (on the Gulf War I model) aren’t enough to keep the foreign capital flowing in, what are the alternatives? We’re still some years away from learning the answers to those questions. But not too many years, I suspect. The U.S. current account deficit -- and growing foreign debt associated with it -- are both rapidly approaching criticality. It’s impossible to say what could finally trigger a full-blown debt crisis. Perhaps another round of corporate defaults and/or accounting scandals (did I hear someone say Freddie Mac?) Perhaps a major banking failure, or another big, splashy terrorist attack. Or maybe foreign demand for U.S. assets will just gradually continue to dry up, putting more and more pressure on foreign central banks to plug the gap, until they, too, are finally forced to begin liquidating their U.S. portfolios. Sound like a disaster movie? A Tom Clancy thriller? Maybe. But through history, financial crises have been an important part of the imperial experience. The Spanish Empire faced them in the 17th century; the Dutch in the 18th and the English in the early 20th. The Soviet Empire died of them in the late 20th. Now it’s the 21st century, and the United States is staking its own claim to world empire. But how it handles its growing financial problems could go a long way towards determining what kind of empire it will be -- and how long it will last.

Different Ways of Being Religious

Some curious news from Margy. She was trying to have a quiet bus trip into rural Bulgaria, but her professional obsessions just seemed to follow her.

I spent this weekend in the country. My hope was to relax, to escape from immigrants, emigrants etc no way! Sitting at the bus a Roma lady from the same village started to explain me her family story, close connected with Spain She have told me so many interesting things.... Look at this: It will be mass baptization here in the end of summer - at St Mary's Day, because of new mythology - if you are dark skin person you probably look like Muslim and at the borders - no chance to pass So all those documents of baptisation will serve as passports to the West. Can you imagine this? Keep in mind - they are Christians "by origin" but because of agressive atheistic politics of Communist times - a lot of them are not Baptised /that's what exactly I did at 1990 for my family but without any idea of emigration And hush..... never say to Bulgarian Roma people that they are Catholics mostly in Spain - despite we tried to kill the Pope and despite he was here last year - I do not want to carry a project on Catholicizm among Roma people here..................

Meanwhile, on the same intercultural religious theme, Ubaid in Bombay sends the following rather surprising response to my question about why he finds it easier to be a muslim in Bombay than to be one in LA. The questions are cultural and practical, and the seem to me.........to be all to do with networking externalities.

there are two reasons i can give for my claim that it is easier to practice islam in bombay than it is to in los angeles. the first is the accessibility and abundance of mosques. i live in a predominantly muslim area and there are four mosques within walking distance. the one i attend is literally a two minute walk. islam requires you to pray five times everyday, in los angeles i'd normally have to get into a car and drive over to the mosque, doing that five times, or even thrice, everyday, is obviously not all that exciting a prospect.

The second factor is my belief that faith requires reinforcement, being around and with people professing and practicing a particular faith strengthens your own belief system. in america you tend to be either too orthodox in an effort to safegaurd your beliefs from the constant cultural onslaught, or your faith gets unstuck. of course having been brought up in india it must be easier for me to practice in the environment is spent twenty one years in, i'm not sure if this would be true for an american muslim. there are other factors like the halal issue. in america i cannot, in general, eat out since islam requires the meat you touch to be halal, which is, the animal should have been slaughtered in a proscribed manner. here in bombay most of the meat providers are muslims so you can eat pretty much anywhere you like. overall i think the reasons are more cultural than religious.

This comment from Ubaid lead me to a link Annand sent me from Hyderbad last week. He has been trying to interest me in contibuting to an Indian Webzine , so I went to explore, and tucked away in the essays section I found this.

An Indian Muslim lives on two levels. One is when he is on his own turf interacting with his fraternity. He is unguarded and expresses freely his sense of grief about the discrimination he encounters, about the way his loyalty to his country is questioned, about the way his religion is perceived and projected.

The other is when he is all too charming interacting with the members of the other communities. He considers himself to be the ambassador of his faith, trying conscientiously to create the right impression with a sense of guilt lingering somewhere at the back of his mind. Is it the guilt of Partition of the country or of the years of Muslim rule, which has been imposed on him? Or is it the minority syndrome to live on two levels at the same time, trying hard to strike a balance to be accepted by society?

It is a complex situation that he has to grapple with. Indian Muslims have come a long way trying to forget the traumatic division of the country. Yet the feeling of vulnerability has never left them entirely. It is a negative emotion and they do not cherish it. But whenever they have lulled themselves into believing that things are normal, shrill communal voices of a few jolt and alarm them.

Time and again they are blamed for not joining the mainstream. How can they be part of the mainstream, if there is one, when they are in real fear of losing their identity - the only prized possession they have? What is this business of being in the mainstream? Be a partner in the progress? Have a fair share of the cake? Is this possible given the neglect they have suffered? They feel they have never been treated fairly. They should have been helped to overcome their insecurity instead of being subjected to alienation so often. That drove them further into their corner. They needed a messiah. But there was none. They were let down by their own leaders. They were easily exploited, as reason had long given way to the all-powerful emotions.

Muslims feel hurt and disillusioned when they are accused of being "appeased" buy a certain political party. If they were appeased and pampered they would not be in the squalor they are in. The appeasement would show in their lifestyle, in their living conditions and their education. They are trailing on all fronts. Their identity crisis is accentuated whenever there is a talk of a common civil code. Why can't they be left alone to conduct their affairs within the bounds of their faith which, doesn't interfere with the national interest?...........

One Swallow Doesn't Make a Summer

Before everyone gets up on their seats and starts cheering, it would be well to bear in mind that in the same way that one swallow doesn't make a summer, one months good news on the US deflation front doesn-t mean the alert's over. Certainly looking at the US stock market this week you would think the recovery was, by now, a foregone conclusion. The reality is it isn't, by a long way. The markets are reaching the upbeat conclusion because it has to happen sometime, doesn't it. And with bags of stimulus, and historically super-low interest rates, that sometime should be now. But what if things are a bit different this time round. What if in a world where the number two and number three economies are mired in enduring low\negative growth problems and many other economies look extremely lacklustre, what if in this world things proved to be a bit out of the ordinary for the US too. Time, as they say, will tell.

A rise in lodging and housing costs pushed underlying U.S. inflation up in May at the fastest rate in nine months, the government said on Tuesday in a report that soothed deflation fears. At the same time, falling energy costs kept overall consumer prices steady. Separate reports showed heavy industry struggling last month, but the housing sector buoyant. The Consumer Price Index, the most widely used gauge of U.S. inflation, was unchanged last month, the Labor Department said. But the so-called core CPI, which strips out volatile food and energy prices, advanced 0.3 percent. It was the biggest rise in the core index since a matching gain in August last year.

The report showed prices a bit firmer than Wall Street had expected. Economists had looked for the overall CPI to drop 0.1 percent and the core rate to gain 0.1 percent. "The concerns about deflation will be softened after this number," said Rick Egelton, deputy chief economist at BMO Financial Group in Toronto. Stock prices initially rose as deflation fears eased, while Treasury prices fell as investors scaled back bets the Federal Reserve would act boldly to head off the threat of falling prices. The White House weighed in, saying deflation -- a decline in the overall level of consumer prices that can hobble an economy -- was not a serious worry at this time. In a separate report, the Fed said output at factories, mines and utilities edged up 0.1 percent last month after a 0.6 percent plunge in April. But industry continued to be burdened by idle capacity. The so-called capacity use rate held steady at 74.3 percent for a second straight month -- the lowest figure since June 1983. While the U.S. industrial sector struggled, a third report showed housing remained an economic bright spot. The Commerce Department (news - web sites) said housing starts rose 6.1 percent to a seasonally adjusted annual rate of 1.732 million units, slightly above analysts' expectations.

Core inflation had slowed sharply this year, fueling worry the economy could tip into deflation. But May's gain helped pull the 12-month change in the underlying inflation rate up to 1.6 percent, a tick above the 37-year low reached in April. The department pinned most of May's rise in the core index to a 0.6 percent climb in shelter costs, which include lodging away from home and the cost of housing for homeowners. It was the biggest gain in shelter costs in more than 12 years. Lodging costs rose a steep 4.1 percent, the largest gain on records beginning in December 1997. Lodging costs had fallen sharply earlier this year, a drop many economists attributed to a falloff in tourism ahead of the war in Iraq . Homeowners' housing costs, which account for more than one-fifth of the overall CPI, rose 0.2 percent after a flat April reading. Energy costs fell 3.1 percent, the second straight monthly drop, as prices boosted by war worries continued to ease. The cost of gasoline plummeted 6.8 percent and fuel oil prices slid 6.3 percent. Natural gas costs fell 1.6 percent.
Source Yahoo News

European Emmigration on the Rise

Interesting detail this from Germany about how young people are responding to the growing pessimism about the future of the German economy by packing their bags:

Andreas Sammereier never dreamed it could be so easy to get a job. The 34-year-old electrical technician had been laid off, joining the ranks of the more than 10 percent unemployed in Germany. But one hour after showing up - unannounced - at a company that presses CDs and DVDs and having an impromptu interview, he walked out with an offer for a job he'll be starting next month.The catch: The job, working for Dex Audio Pty. Ltd., is in Australia.

Mr. Sammereier is part of what observers in Germany are calling a new wave of emigration. The most recent numbers available, from Germany's central office of statistics, show that close to 110,000 Germans left the country in 2001. Based on the number of people coming to them for advice, however, the Raphaelswerk, an organization associated with the Catholic Church that offers practical advice and counseling to people considering emigration, says that numbers are skyrocketing and estimates that the figures for 2002 will be twice as high. Peter Thul, author of an emigration how-to book that will be published this month, predicts that the numbers will double again in 2003.

These emigrants, says Martina Luedecke, a counselor with Raphaels-werk in the western German city of Essen, are mostly young, well-educated professionals frustrated with the lack of opportunity in their homeland."I meet more and more young people who have lost their belief in Germany," says Ms. Luedecke. "It seems very clear that this new wave of people heading out of Germany is a result of the current economic situation. Not all of them, of course, but a significant number of them just don't see a future here anymore." Luedecke could be describing a number of European countries. France, too, is witnessing a growing rate of emigration, with the percentage of French living overseas rising 30 percent between 1998 and 2002, according to France's Office des Migrations Internationales. The reasons include France's old-guard business culture, high taxation, and youth employment - 21 percent for those under 25. Young professionals are heading to Canada, the United States and other European Union countries. Italy is also seeing an increase in emigration, experts say.
Source: Christian Science Monitor

Monday, June 16, 2003

The Benefits of Exchange Rate Flexibility

The Eastern access countries are quietly avoiding the pitfalls of a high euro, by allowing their currencies to devalue. A sensible policy in my book, what a pity more eurozone economies cannot exercise this option!! Meantime mind the crash to be anticipated (Argentian style) in Bulgaria as the IMF promoted peg sends the Lev soaring skywards at the same time as the able bodied population are abandoning the ship.

The events of last week -- Hungary's decision to devalue its target band against the euro by 2.2% and confirmation by the European Commission that a narrow ERM band is the minimum exchange rate requirement pre-Euro entry -- have reinforced our view that this year will mark a significant depreciation of central European currencies against the euro. In the case of the Polish zloty and, to a lesser extent, of the Hungarian forint, this has already happened. However, we believe that the process is not yet over, and that at a later stage it will also affect the Czech and, to a lesser extent, the Slovak korunas.
Source: Morgan Stanley Global Economic Forum

Is the Very Structure of EMU so Flawed.........?

Morgan Stanley's Eric Chaney examines EMU five years on. As he declares at the end, euro bull I was, and euro bull I remain - even if he does confess to being a disillusioned bull. Nevertheless his reflection involves some very interesting points. He does ask the question: "is the very structure of the monetary union so flawed that participating countries would be better off if they hadn't joined?" As he informs us this question "among others....was debated at the Euro-50 roundtable in Tokyo on June 12." Chaney is still convinced the EMU experiment had been a net plus, I am not so sure. One of the arguments presented, lower real interest rates, seems a lot less valid in a world were rates generally are declining towards zero. He does, however, set out some important objectives.

1. Lock-in exchange rates were not economically founded. The final exchange rates did not reflect economic fundamentals, in particular did not reflect the relative levels of unit labour costs. They resulted from a guessing game between markets and central banks, and were largely pre-determined by the central parities in the exchange-rate mechanism (ERM), themselves resulting from tortuous political negotiations. As a result, Portugal, the Netherlands and to a lesser extent, France, benefited from a competitive advantage. On the other hand, Germany entered into EMU with a large overvaluation of its real exchange rate. Coupled with wage rigidity, this is now creating serious deflationary pressures in the German economy. Initial conditions matter a lot. This is one of the painful lessons of EMU, which the UK seems to have well understood.

2. The mission of the European Central Bank was not enough specified in the Treaty. The EMU Treaty says that the ECB must deliver price stability and, provided that this target is achieved, must support the economic policy as it is decided by the Council of finance ministers. However, neither "price stability" nor “supporting economic policy” were precisely defined in the Treaty, which, by default, let the ECB have its own interpretation. In particular, an explicit inflation target should have been specified and its value open to revisions.

3. Without fiscal federalism, the lack of fiscal co-operation is deflationist. There are no fiscal stabilisers in the euro area and there will be no such thing in the foreseeable future, as long as federal taxes are not levied. Only domestic stabilisers can be used. The sharp rise of deficits in 2002 and 2003 is a good reminder of the importance of fiscal stabilisers. However, the Stability Pact does not allow countries to let stabilisers play neutrally. Hence, fiscal policies are becoming pro-cyclical, which, in current conditions means deflationist. Symmetrically, during the 1998-2000 boom, governments had no incentives to use the opportunity of the good years to cut their deficits more than cyclical factors implied. The Stability Pact should thus be re-negotiated and ideas such as creating market mechanisms to allow governments to trade "rights to run deficits" should be given a chance. A pre-requisite is that the finance ministers of the euro area must have an institution of their own.

4. Creating a single capital market is an urgent necessity. Whereas capital mobility is largely achieved, European companies cannot reap the full benefit of the monetary union as long as capital markets remain fragmented and divided by subtle regulatory differences. As long as currency risks were incentives to keep savings at home, capital markets could not be unified, despite the unification of most product markets. This restriction does not hold anymore and the obstacles to a single capital market should be ironed out as soon as possible. At stake is a lower cost of capital. With hindsight, I believe that monetary union and capital-market unification should have been implemented together.
Source: Morgan Stanley Global Economic Forum

Rising Angst in Euroland

Stephen Roach has been visiting Europe, and is getting extremely pessimistic:

It’s been an extraordinary time to be in Europe these past two weeks. After visiting 12 cities in 9 working days, my European straw poll speaks of nothing but angst over the pitfalls of a dysfunctional global economy. Europeans freely admit that their economic model is in serious trouble -- that their economy has all but abdicated its role as an engine of global growth. Nor do they see any real possibility of an overhaul at any point in the foreseeable future. But Europe also feels it is getting blamed for more than its fair share of the world’s problems. Everywhere I go I hear complaints that two other culprits are being let off the hook -- America, for its worrisome twin deficits, and China, for its “unfair” currency peg and. Resentments are building in Europe that may even make it even harder for the world to pull together and come up with a collective fix.

There is no getting around the sad state of the European economy. The data flow from the big continental economies -- Germany, France, and Italy -- point to the emergence of recession-like conditions this spring. Moreover, this downside tilt predates the impacts of the strengthening euro, which will undoubtedly crimp export growth. For a region lacking in internal demand, that could well be the coup de grace. Germany is clearly the weakest link in the chain, yet Europe’s policies are ill-equipped to deal with this serious asymmetrical shock. Although the ECB has now slashed its policy rate to 2.0%, Germany’s 0.8% core inflation rate implies that real short-term rates in Euroland’s biggest economy are still a positive 1.2%. By contrast, with core inflation an estimated 2.4% elsewhere in Euroland, that means real short rates are a negative 0.4% in the non-German portion of the region. That underscores the ultimate inconsistency of Euroland’s monetary policy: Policy is most restrictive in the country that is most vulnerable (Germany) and most stimulative in nations that are in the best relative shape. Such are the pitfalls of an increasingly dysfunctional United States of Europe.
Source: Morgan Stanley Global Economic Forum

Turning Germany into Japan

Brad has an interesting link to a piece by Adam Posen which draws the comparison between Germany and Japan:

The Institute for International Economics's Adam S. Posen worries that Germany is turning Japanese--that Germany today looks a lot like Japan in 1994...
Source: Semi Daily Journal

What is most noteworthy about this piece, is perhaps, the fact that among a long list of comparison items between the two countries, the demographic element seems to be limited to the four words 'both are ageing societies'. Clearly we are back with Poe's purloined letter, looking everywhere but where the problem is. Obviously everyone has there own private agenda to run here, but this is getting ridiculous!!

Looking on the Bright Side of Life

Well according to some people things are now finally on the up and up. Of course they said the same thing last year, and the year before. Bereft of any kind of theory as a guide to understanding what may be happening, they would say this, wouldn't they. Sorry, what do they call themselves, 'astrologers' or 'economists'. Since the explanations for the problem seem to consider almost every possible explanation bar those which may in fact be operative, it is hard to imagine they will get things any better this year than last year. Where is the learning curve? :

For the past three years, the U.S. economy has taken hits from the bursting stock market bubble, a recession and terrorist attacks. Conditions now, finally, offer the prospect of better growth over the last six months of the year. Of course, forecasters acknowledge, they made similar predictions in 2002 and 2001, and were proved wrong. They now insist that new tax cuts, a weakened dollar, falling interest rates and other positive forces seem to give their latest optimistic forecast a better chance of becoming a reality. "We have been waiting and waiting for the economy to rebound, and then something happens and things fall apart. But this time we have a lot more stars coming into alignment," said Diane Swonk, chief economist at Bank One in Chicago. For one, manufacturing companies that have shed more than 2 million jobs over the past three years are starting to see omens of better days. That is due in part to the weaker dollar, which makes their products more competitive on foreign markets.

"We are seeing a very nice improvement in orders," said Tony Raimondo, president of Behlen Manufacturing Co. of Columbus, Neb. Demand for the company's steel buildings and other metal products has risen 20 percent in recent months. Jerry Jasinowski, president of the National Association of Manufacturers, says other companies are reporting similar increases. The trend raises hopes that the decline in manufacturing employment may end soon as businesses that have slashed inventories start to step up production to meet demands of new orders. Help on the demand side is coming from the $330 billion tax cut just passed by Congress. Consumers will begin seeing their shares in paychecks starting next month.

David Wyss, chief economist at Standard & Poor's in New York, said he believed the tax cuts should add as much as 1.5 percentage points to growth over the next year. As measured by the gross domestic product, the overall economy has averaged growth of less than 2 percent over the past nine months. Wyss is predicting growth will jump to a 3.5 percent rate in the July-September quarter and 5 percent in the final three months of this year. "The government is doing its part to get the economy going again," Wyss said. "We are running big deficits, reflecting higher spending for defense and the tax cuts."

He said growth should average between 4 percent and 4.5 percent for all of 2004. That pace would begin to make a dent in the unemployment rate, which was at a nine-year high of 6.1 percent in May. Improved growth cannot come too soon for incumbent politicians such as President Bush (news - web sites), who face re-election in 2004. Many analysts believe the jobless rate will peak at around 6.4 percent this summer before gradually improving as the economy grows. "To reassure his re-election, Bush needs to see the unemployment rate closer to 5 percent than 6 percent," Swonk said. "That will make voters happier with incumbents."

Most analysts believe the country's first recession in a decade, which began in March 2001, probably ended in December 2001. The rebound has been jagged, however, with one quarter of strong growth followed by a weaker one as the economy has had to deal with different kinds of jolts. A year ago, analysts thought the economy was poised for a sustained takeoff. Then the stock market began to tumble again because of worries about corporate accounting scandals. Also, rising oil prices spurred by war worries before the Iraq invasion sent consumer and business confidence into tailspins. Many of those negative factors seem to be fading, helped by the tax cuts to bolster consumer confidence and a weaker dollar that has lifted manufacturers' fortunes.

The Federal Reserve, which has driven interest rates to a 41-year low, is signaling readiness to reduce rates again. The goal would be to ensure the nation's prolonged period of economic weakness does not lead to a Japanese-style bout of deflation, falling prices that would make it even harder for the economy to gain steam. The central bank's next meeting is June 25. Is it possible that all the expectations of stronger growth could be dashed again? Analysts say the biggest dangers are political crises in the Middle East, North Korea or elsewhere that could undermine the stock market rebound, drive down consumer confidence and lead to higher oil prices. "The things to watch will be energy prices and consumer and business confidence," said Sung Won Sohn, chief economist at Wells Fargo in Minneapolis. "But let's hope we are right this time around."
Source: Yahoo News

US Recovery Worries

Preoccupations that the US recovery may not be as 'robust' as anticipated is sending reverberations around the globe. Classical business cycle theory may not be a good guide here.

Japanese stocks fell, causing the Nikkei 225 Stock Average's biggest drop in seven weeks. Exporters such as Sony Corp. slid as a U.S. report on consumer confidence tempered optimism that growth in the world's largest economy will accelerate. The Nikkei lost 140.81, or 1.6 percent, to 8839.83 at the 3 p.m. close in Tokyo. The average's biggest percentage decline since April 25 snapped a three-day, 2.2 percent gain. The Topix index shed 8.77, or 1 percent, to 872.53. Computer-related stocks and automakers accounted for more than two-fifths of its drop.

The Nikkei had rallied 18 percent in the past six weeks on signs the U.S. economy may pick up in coming months. Last week, economists in a Blue Chip Economic Indicators survey raised their growth forecast for the first time in a year. A U.S. jobs report earlier this month showed the world's largest economy lost fewer jobs than some economists expected. "Stocks have gained in anticipation of a U.S. recovery and so far it's all been on expectations,'' said Wee Ban Yew, who helps manage the equivalent of $2.1 billion as a fund manager at OCBC Asset Management Ltd. in Singapore. Unless we can really see consumer confidence turning around, the rally is just speculation.'' He declined to comment on his holdings. Nikkei futures for September delivery fell 1.7 percent to 8830 in Osaka and shed 1.5 percent to 8840 in Singapore. Some 579 billion yen in shares traded, 9 percent less than the daily average for the past three months.
Source: Bloomberg