Friday, December 22, 2006

The year 2006: Some notes before it goes away

The year 2006 is close to its end and it is appropriate to make some balance for Latin America economies , although not a detailed one, but emphasizing some elements which can be part of new trends. Let take a brief look to some of the most important on the list:

a.- The year 2006,was an election year in Latin America: Brazil, Mexico, Nicaragua, PerĂº, Equator, Colombia . No matter the political environment and its tensions , it looks like each of these economy went through quite well in terms of its overall perspective to continue growth. Venezuela is a different case because of its oil resources endowment , it can take the risk of some luxuries.-
b.- Growth has reduced poverty and Unemployment in Latin America in the year 2004, 2005 and 2006, so Growth should be the first priority for the year 2007 ,to get further gains on both social illness .It seems that a majority of Latin America countries , believes in the power of markets to create wealth .-
c.- Quite on the contrary to some pessimism at the beginning of the year 2006, this year, was very positive in terms of promoting free trade, as one of the key condition for growth .Uruguay, Peru, Equator ,Colombia worked hard to get through a Free Trade agreement with the USA economy .-
d.- It follow that the Latin America economies, are ready to pursue further steps to complement free trade and Growth ,moving forward to a higher stage of economic performance, throughout additional steps like reforming the still heavily centralized colonial State , and open up new opportunities for private sector throughout microeconomics reforms such as those related to the entry barriers to begin new small business ,or greater flexibility to participate on public infrastructure.-
e.- It is also clear the increasing pressure for a greater social balance to distribute the benefit of growth, specially towards those more vulnerable to be left behind. Poverty reduction requires constant policy effort, simultaneously orientated to both: short run and long run . Growth by itself is not enough, the trickle down policy ,is far away from being the right policy in Latin America economies to reduce poverty. Chilean economy experience is quite useful on that issue.-
On the negative side, it is the attempt of moving backward the clock of economic history , when national leaders try to fool their own people with old solutions to new problems. The Traditional welfare State is on its way over to a new Services orientated State, which provide training, information, financial support for productive purposes , good quality of public education and public health, and lower entry barrier for new small business. Price controls, State intervention on the sphere of private sector, weak institutional framework, make a very dangerous policy mix. Two key countries like Brazil and Mexico ,have already settle down the way.
The Spaniard Chamber of Commerce has given its forecast for the year 2007.The expectation is positive, no matter the risk of a slowdown in the USA Economy. This might be explained because Latin America is well integrate to global economy ,and at the same time has an interesting flow of capital resources coming from migrants from the advanced economies, which make the continent less vulnerable.-

Friday, December 01, 2006

Milton Friedman: The Professor and his Global influence (II)

What was the real influence of Professor Friedman in Chilean economic experience?. To begin with ,he was not comfortable with the idea of fixing prices like the exchange rate, or for that matter any other price, which the Chilean economic authorities at that time did to reduce inflationary pressures. At the same time, he was critical of restraining political liberties as a justification for implementing market oriented policies. There was an unquestionable and clear connection between democracy and free market policies, he said; so that there was no way to get success with markets oriented policies without the support of democracy values. It follows that his influence was more on the ideological side, rather than on all of the practical matters related to policy implementation .However, there were some areas where his ideas were the inspiring foundation, such as education throughout the subsidy to demand programs, and privatization of retirement of labour force account and the expectation hypothesis and the Phillip curve (the acceleracionist view). On the other hand, Friedman seemed to be more distant from the argument which connect markets functioning with institutional framework, than Douglas North, so that his beliefs were strongly shaped by distrust of regulators and above all regulations. The empirical experience though, suggested that it existed an important relationship, between institutional framework and market policies results, such that it was possible to implement market policies within the frontier of a set of clear rules and institutional arrangements. If government had to intervene as an unavoidable effect of uncertainty , it had to be following certain rules .
At a global scale Friedman influence was decisive in the eighties helping to shape new macroeconomic policies ,and above all the new concept of the government intervention in the economy ,and its relationship with its citizens. The Keynes proposition that government was part of the solution, turned over to the other way around to become considered as part of the problem . As long as Government was identified as part of the problem, it was important to design the future policy scenario. The fall of the Berlin wall and Soviet Union collapse, was also part of the new paradigm concerning government role in the economy. Ireland , New Zealand followed the British economy experience ,to become later in the nineties the new stars of the Europe unified . They reduced government intervention, in such a way ,that it allowed those economies to get strong gains on economic growth and welfare improvement.
In Latin America ,at the beginning of the nineties ,following the debt crisis, there also was a new consensus about the principle that Government was part of the problem instead of the solution. So ,Latin America economies started out privatizations, deregulations, openness of markets to international trade ,and private firms were supported as the key leaders of wealth creations.-
A couple of final comments about Professor Friedman global influence. It looks like his was more political economist than most of his other colleagues, like E Phelps (Nobel Prize winner in economics, 2006) , or Alan Meltzer. However , the trade mark of Mr Friedman legacy ,is also related to his belief about intellectuals and professors ´role in modern society .While politicians and military shaped the twenty century, intellectuals and business man will shape the twenty one century. On that regard ,Milton Friedman was almost a century ahead of the rest of us.-

Friday, November 24, 2006

Milton Friedman: The Professor and his Global influence (I)

While the relationship between knowledge ,sciences and the current wisdom is fascinating , the most of it comes out when the right man fit with the right time, to make an old paradigm to change. Keynes and Friedman´ s point of views , were quite apart from each other ,however they both fitted well with the economic history clock.
Friedman was critical of Government intervention, because it was not upon its interest to work out policies well founded on economic stability principles. By its own nature, government looks ahead for the next election, which means to satisfy preferences of voters no matter its effect on economic incentives. Therefore , Government is not more efficient than private sectors ,to allocate public resources on behalf of community .It is safer that you have control of your pocket, than to trust it on someone else according to Professor Friedman ´s reasoning .
Markets works well when they perform with the proper institutional framework. They do not need Government to replace that framework, because most of the time it will make it in the wrong way. Traditional Government intervention in the economy, means economic policies associated with inflation, corruption, special interest influence, and lately even the chance of being captured by those who are expected to serve people.. It follows that the lasting effects of Government intervention, beyond eventual some short run gains, is a long run welfare losses .-
Professor Friedman believed ,that markets flexibility and information was the sufficient condition to solve disequilibrium, whereas its Keynesian counterpart believed that it was needed a more active Government role because of rigidities which imposed heavy cost to society in terms of unemployment.
The end of the twentieth century was characterized from the economic point of view, by a clear dominance of markets orientate policies, and Governments facing the challenges of reengineer itself according to global economy requirements. It might look like a triumph to the one who fight on that direction.
A second line of supporting markets functioning, was related to institutional framework and political liberties, as a necessary condition for economic liberties to allow proper markets allocation of resources .In other words, democracy was a substantial ingredient for individual decisions .Whenever the markets orientated polices, worked out well, there was behind a strong democratic values .It was not clear the direction of the causality-effect relationship, whether political freedom preceded to economic freedom, or the other way around. When Mr Friedman visited Chile in 1975 there was an academic discussion about it to explain what it seemed a contradiction between Professor Friedman beliefs and his actions. Chile experience of markets policies implementation under the rule of an authoritarian regime, did not fitted well with conventional wisdom . But Chile was not at that time the first country to pursue so. So it was Taiwan, South Korea ,even China (1978)with its doctrine two systems one country. The interesting thing was that, market functioning had the ability of adapting itself to different conditions as long as the fundamental (Relative Prices as the guiding light for resource allocation decisions), stay in the right track. Government could also act as a facilitator for markets ,and not just as substitute for it. Of course this does not mean that democracy is substitutable ,but what markets needs can also be granted by government if it wants to.-

Friday, November 17, 2006

Institutional variables and Economic Growth (II)

From time to time there has been allegations concerning the role of religious beliefs and cultural values, on economic growth. Religious beliefs are important because represent the moral approach to issues such as wealth accumulation, and a moral guideline to important untouchable assets like tradition, trust, authority, individual initiative and faith. Religious and cultural beliefs could be the energy flow any society needs to sustain the requirements of growth.. However, it could also mean a state of mind which keep individual static throughout time ,unable to decide any action because of lacking of rational instrument beyond God ´s wishes , to solve any of current global challenges .
Let take the global warming issue. What is the answer from the religious point of view?. Economist, scientist, journalist share a common perception about the necessity of giving key attention to its expected impact, such that to make economic growth sustainable. But Is just faith good enough to overcome the threat arising from global warming? . If it is not , because of the cost of waiting is too high, what is going to be the future role of religious values, if they are not inside the whole discussion? Maybe the religious point of view is the missing variable in the effort to reduce the global warming, although I do believe it is more a matter of economic incentives which are at this point already under way ,such that the invisible hand will start soon to show how it works in the global scale.
Clearly, religious beliefs can not be left out from the analysis because of its cultural impact. In the environment issue, If people do not care about God property (the environment)protection,there is a tough road to follow before any action start to take place.-
Cultural variables are also important for economic growth. Thrift, hard work, and willingness to take risks, are the essential fuel for the engine of growth. It allows innovation , creativity ,saving and investment. When people get the fish instead of the tools for fishing, it is the beginning of the state of mental laziness the first condition for leisure and passive behaviour .It follows that People loss its ability to decide on their own what it is the best for improving their living conditions. Therefore They get trapped on the State machinery of selling services, which it charge a fee for(corruption).
Cultural and religious beliefs are interdependent, besides each one influencing to one another. The critical question then is what is the magnitude of the cross effect they have upon each other? .If religion emphasizes the importance of linking faith to what anyone is able to do, rather than to what anyone can expect to happen, there will be a huge difference in terms of the attitude for getting more than just surviving level of living condition.
The second critical question is: what is the relationship between religious beliefs ,cultural values and poverty?. Is it that poverty stay longer in those areas with values which might become like a cultural constraint?. After all it was just at the end of the twentieth century that the Pope John Paul the Second ,settle down the controversy between capital and labour with Laborem Excercens, later reinforced by Sollicitudo Rei Sociallis which recognizes the individual right to pursue his own economic initiative as a condition to improve common welfare.
Previously to the Pope JP II clarification, Latin America witnessed sharp criticism to private firms even from religious point of view with the so called Liberalization Theology. On the other hand, more than forty years of State intervention, undermined the importance of wealth creation. It also prevailed a social mistrust about private firms , because of its maximization purpose supposedly against people welfare. Is it just coincidence that private firms in Latin America(Chileans ,Braziliens,and Mexicans) has been growing and getting more influence to generate wealth since that John Paul II blessed it ?.

Friday, November 10, 2006

Institutional variables and Economic Growth (I)

Economic theory has different explanations for economic growth, in particular economic development models have stressed in their statistical and econometric estimations, the key role that capital accumulation, technology advances and human capital quality (endogeneous variable)have on economic development. But recently there are a growing interest in what it is called the instrumental variables ,and its effect on economic growth, let say for instance quality of institutions, cultural values and religious beliefs.-
The issue becomes more relevant ,when it is important to have explanations for the steady efforts made since the eighties, to improve growth performance in Latin America, and the outcome measured in terms of poverty reduction ,income inequality corrections and social mobility prospect leaves still some questions .
Before going into the roots of the problem, what if we ask ourselves the following :Who benefits most from the current level of poverty and income inequality?. Most of the policy orientated to fulfil economic growth goals ,are based on the importance of the private business, deregulation, property right protection, the rule of law and the like. However , there is not too much attention about the barrier entry an entrepreneur has to overcome to begin a new business. In other words, the whole idea of market economy functioning is based on the abilities of current business man and entrepreneurs to create wealth ,but without taking into account the barriers they might have to face to get into business and out of the state dependence. It looks like it is part of the State business to keep some portion of citizens as captive costumers for its free services(public education ,health, security, and so on) so to justify its bureaucracy and expenses levels.
Entry barriers to start out new small business , seems like the protection the state needs to keep alive its social network The more people go into the chance of trying its own way to do a better living condition, the less they will depend upon such state services. In fact, all of those who succeed ,would be able to pay a better education for their children , a better health services , improving their welfare beyond what it is case while they are depending only on the state. It follows that in this situation ,those who do not succeed will really need state support ,but as long as the amount of such people is less than before ,the quality of public services would be higher because the same amount of financial resources would be shared by fewer people than before.
Therefore, to improve the quality of public services it is not necessary to have higher public expenditure, but to allow more people to try their own way facilitating their access to new business opportunities .
An additional implication of such state services dependency is that the bureaucracy, charge a fee for it, merely corruption .Each step people has to get over for starting new business, means the chance of charging such a fee. In fact ,corruption is higher in those places where the State has a stronger entry barrier for new business opportunities to be available for anyone. The incentive to keep the current level of state dependency, is about the chance of charging such a fee which has not a cost as long as control mechanism are soft . These cost are low or zero, when the mechanism of control are rather light , or they do not exit at all.
So, given that the effects of free market economy policies ,fall on those who are inside its borders of participating of the business opportunities available, the ones who are left out are those who will be kept inside the state own borders.

Friday, November 03, 2006

Latin America ´s economy reforms: Some facts and myths (II)

Once the myths are melted away, it is more obvious that Latin America has gone too far to move backwards again. The New leaderships styles currently on charge in most of Latin America governments, means the people ´s call for further steps in the direction of finishing the job for this continent, to have its chance of taking advantages of new opportunities arising on the horizon. Although it might be debatable, about its contempt and scope, most of these further steps are focused on the manner the New State will be connected with its citizen and the economy and how each Latin America economy fit the best it can this people demand.-
To have a better understanding of the whole issue ,we need to move further to take into account some fact .Following J Zettlemeyer paper ,fact are classified in two groups: the first one are the well known fact settle down by the research already done in the past, and the second one is the result of new research.
Fact 1: In the last 25 years Latin America economic growth, has underperformed relative to other developing country economies ,such as East Asia pacific , and South Asia.
Fact 2: Slow GDP growth in Latin America, has been driven by slow TFP (Total factor productivity) .This means the overall efficiency of allocation of resources is below the desire levels, taking into account institutional capacity.-
Fact 3: Latin Americas economies shows similar growth patterns until the eighties, but more recently there has been large cross country differences in growth performance. External and internal shocks makes their way through with different patterns, according to each country weakness and strength.-
Fact 4: Business cycles in Latin America are both more volatile and more protracted . Volatility has changed over time, decreasing to its historical levels in countries like Mexico, Brazil and Chile in spite of a much higher capital trade and mobility. This is probably the expected result of applying rules for macroeconomic policy decisions.
Fact 5: Latin America and Africa has suffered more frequent output collapses (falling in output for more than two years resulting in a total output loss of at least 5%) than other developing countries. This means a strong vulnerability when it comes to faces external shocks.
Fact 6: Period of high average trend growth, have been shorter lived in Latin America, than in other developing countries. A possible explanation for this is related to the on and off between economics and politics ,so that as long they do not move together in the same orientation the outcome will be more unstable growth.
What do all these facts means ?. It is not easy to have precise answers or even more difficult to have the last answer ,but it seems probably that like others authors have mentioned on their research, there are institutional traits in the lower than average economic performance in Latin America . The nature of the State role in the economy and its relationship with its citizens is at the key for explaining these facts. The quality of political institutions, the protection of property right, the control of corruption, the rule of law , and the quality of bureaucracy are all relevant to explain different economic growth performance . However, the result available indicates an improvement on these issues in Latin America, but there is one key restriction; the nature of the centralized state which can affect the true democratic nature of its performance. In this situation, there are strong incentives to capture the State by political and special interest groups for their own purposes.-

Friday, October 27, 2006

Latin America ´s economies reforms:Some facts and Myths (I)

It has been usual to argue that Latin America economiesa are not getting all the benefits from Globalization , even worst it is behind Asian countries, because of its lack of additional and deeper reforms to make it more competitive, specially important these days to face the challenged posed in global markets, by countries like India and China .-
But , is it necessary to go further on with deeper reforms to get higher benefits from globalization? Or , Is it a necessary condition for competition with Asia to implement deeper reforms?.-
First let take a look at the current record concerning the impact of the past reforms done in the nineties. A recent IMF paper, (WP/06/210.Growth and reforms in Latin America: A survey of Facts and arguments. J Zettlemeyer ),analyses Latin America reforms from a broader than usual perspective ,such that it is possible to separate facts (which is the topics the IMF paper is concerned about) ,from myths about it. From my point of view, which of course is not the key one, some of the myths are:

M1:Latin America still depend on government willingness to engage in deeper reforms., because private sector business in Latin America, is not mature enough yet, to be the key leader for further economic integration.-
M2:The view of the State role in the economy, is not possible to change further, because Latin America still need a strong state for social development., stable economic growth and fair income distribution.-
M3:The reforms done in the nineties, were not properly focused, such that the results it has gotten, has not been as successful as it was expected.-
These myths are still pending on the collective mind and somehow the intellectual elites, because much of the free trade experience ,state reforms, market orientated economic policy and institutional changes , were carried out during a very difficulty period for democracy values, such that these achievements were not the outcome of a clear consensus about the path based on such free trade, markets and a smaller role for the State. However, facts indicates that Latin America people might actually have a different perception of these issues and myths ,as long as the economies have managed to have economic growth, better opportunities for the poor, and higher social mobility expectations than with the former situation. The region as a whole, was a lot of more stable during the 1990´s (average growth 3,5 %)than in the two previous decades.( the seventies and the eighties),which given the fact that the region was more open to capital flow volatility and the terms of trade were far less favourable than the previous years ,this is quite significant. Latin America voters are not necessarily supporting deep changes of policies but improvement in its social effectiveness. (M3)
Private business are doing new investment across Latin America, fostering a new wave of closeness between regional governments to push further the integration agenda. (M1). On the other hands, Chile ´s experience is still a benchmark on how the State can be reformed , without loosing its ground on social issues. The State in its current model (the so called colonial bureaucratic state)is not the best way to induce growth, quite on the contrary it is a constraint for growth .All those countries which have the better performance in terms of growth ,are the ones which have reduced the Stat role in the economy (M2).

Friday, October 20, 2006

Government Bureaucracy : An entry barrier for entrepreneurs?

Doing business in Chile or in others key Latin American economy, can be an interesting experience , although there are some cost to take into account .According the World Economic Forum , in the year 2005 it was needed 27 days and 9 procedures to start up in Chile a new business, whereas in Mexico it was needed 8 procedures and 58 days, and Brazil 17 procedures and 152 days. It is not that bad to be in a better position than key players in Latin America Economy. On the other hand, a World Bank Study for Chilean business opportunities ,found that to start up a new industrial business, it requires roughly U$$ 1320 ,and an average period of time of 130 working days to fulfil the whole bureaucratic procedures . To start a restaurant business it requires U$$1240 ,and a grocery store it might cost U$$1185. Highly business orientated countries , such as New Zealand requires no more than 1 or 2 working days and less than U$$40! To get through the whole procedures. In the United States ,it is needed no more than 5 days,5 procedures and roughly U$$210 .
How can we explain these differences? .Maybe there are a lot of alternatives to begin with, but it is clear that those countries which still do not have a business friendly environment ,are the one where the government has some homework to do. In fact , in the Chilean case there are a lot of discussion concerning the necessity of modernizing the State. Sure, very much of those procedures and cost involved in the process of starting up a new business , are related to States bureaucracy. At every level of new business opportunities, let say small, medium or large scale business operation ,there are these bureaucracy costs . Therefore, any new business opportunities must pass the government filter ,before trying to get over the other more important filter: consumer needs..
What does this all means ? It means that Government , is acting like an entry barrier for entrepreneurs to taking advantage of new business opportunities.-
The real issue is not to improve the access to new business opportunities, but who control the access door to that opportunities. In this sense, the State has been captured by politicians, bureaucrats ,and special interest group who depend upon the State to provide them support. The more people depend upon the State, the more needed it is to have resources to finance its services. It is in their own interest to keep the State alive, imposing additional cost to those who try to move away from the State social programs or protections throughout private business.
Chilean Government experience is not too negative on the issue, although there is still plenty of room to move forward..
A 2004 study ,found that the level of effectiveness of Chilean Government was ranked at 14 place out of 155 countries, which is quite satisfactory. The Economic freedom ranking was in the 13 place. This is because Government has implemented different programs to support entrepreneurs ,besides it has created different programs to improve social assistance to the poor, and it has helped to macroeconomic stability following fiscal policy rules. However, business opportunities do not wait and people enthusiasm for seeking new alternatives can not be exhausted by bureaucratic procedures.
To start a new business, it should be necessary only to check some minimum requirements concerning tax laws ,all of other requirements, can be fulfilled through supervisory rules made by consumers decisions and at the same time improving consumer rights protections.-

Friday, October 13, 2006

Oil prices decreases:Is it permanent or transitory?

Available evidence (De Gregorio ,Landeretche and Nelson 2006,mentioned by Central Bank of Chile in its september monetary policy report))suggests that the link between oil prices increases and inflation has been weaker in recent years than what it supposed to be. While in the period 1967-1980 ,an increase of 1% in oil prices meant a cumulative increase of 0.48% in the long run inflation rates, in the period 1980-2006 that impact was just a barely 0,06%.Considering the years 1990-2005 ,such impact of oil prices increases, has been even lower, 0.03%.Therefore, given the magnitude of this effect, current lower oil prices would not necessarily will mean a significant relief for current inflation rates, although if it is permanent it might induce inflationary expectations further downward. In such a case, the positive effect is upon the chance of not just keeping down inflationary expectation, but also because it would allow Central Banks to take a softer approach on inflation, moderating the slowdown impact on economic growth of increase in interest rates.-
What is the explanation for this oil prices decline?. Given that there are supply and demand explanations, it would be important to know the share each factor (supply or demand, being speculative or geopolitical) has on oil prices behaviour at this time. At first glance, it appears that lower global demand is driving oil prices down. The demand expectations for this year is to have an increase of about 1.2% less than what it was expected a few month ago. Concerning the supply there is still no agreement on oil exporting countries about the reduction levels in oil production to counter balance this downward price trend .
Therefore there is not clear indications whether this decrease in oil prices is going to be permanent or transitory .However for the year 2007,markets expectations (oil options markets transactions), indicates a roughly 50% probability that oil prices will be in the range of U$$65 to U$$85 a barrel,(Central bank of Chile ,Blommberg .September 2006) recovering itself from the current below sixty dollars level. The remaining 50% it is roughly split off between the lower range (25% probability of being below U$$65),and the higher range ( 25% probability of being above USS 85). So ,it looks like at least partially, there is a correction in oil prices. This means that only part of the current reduction in oil prices, would be due a decrease in global demand, probably the more significant one related to the US economy slow down. On the other hand ,it is not unrealistic to assume that speculators are changing theirs portfolios to a more secure assets, moving away at the same time (it is a fact that Us economy is slowing down its growth ) from commodities. Global Information available allows them to make such kind of decisions. In this scenario , current oil prices reduction would be transitory.
What about the chance of such oil prices reduction to be permanent? :it is unlikely that oil exporting countries will no react to prices movement .The oil cartel means a strong incentives to act in a coordinated fashion to restraint production further, such as to keep oil prices stable to its mid term levels (probably around sixty or sixty five dollars).At the same time demand is expected to growth although at a lower pace (1.6% next year ,down from 1,7% growth a few month ago)because of the just mentioned US economy slow down. But ,whether as it is expected ,such slow down turn out to be short lived , global demand for oil resources will move back upward again. Therefore the chances of having a transitory oil prices decreases are higher, than the chances of having permanent oil price decreases.-

Friday, October 06, 2006

Self regulation: is it possible ? (II)

Human behaviour can be explained by different disciplines such as psychology , anthropology ,but also by economics. Economic theory tell us that individuals pursue any activity up to the point when marginal benefits are equal marginal cost. This means nobody will carry out any action, without expecting to get a benefit much higher than its total cost. So, the expected benefits of privilege information must be compared with the cost of taking advantage from it. If these cost are rather low, then it is plausible to have information asymmetry.
It should be a golden rule for financial markets, that the cost of using privilege information of any kind, is higher than its benefits. This means strict laws with specific procedures to enforce the rights of those who depends upon information, which might be available with some delays allowing information asymmetry, coupled with strong institutions to deal with all the issues involves in its enforcement .
But how to deal with the privilege information for financial purposes anyway?. If the cost of using privilege information are defined ,what about the benefits? .After all, it is impossible to assume that information does have only cost for the decisions making process and no benefits. Well, it is a matter of technology.
Actually, firms have web page with different design ,services and strength .The on line communication ,is very useful when it comes to get from top to the bottom quickly, to get corrective action. Internal networks allows people to be in touch with each other, the rest of the firm community and external customers and investors .This is the key, because privilege information should become public information, as soon as it develops to get published on the corporate web page, so any one interested can take advantage from it. Any time a decision with implications for financial markets has been made, it should be publish on the web page as soon as it is possible. This way it would be possible to match the higher cost of using privilege information, with the expected higher benefits arising from it. In other words , the benefits arising from using privilege information by a lot of people simultaneously make it public, reduce the cost of using it to zero, and make the most of its benefits .
Therefore privilege information is inefficient for markets decisions, because concentrates its benefits among few people risking high cost. Alternatively, whether it gets public, information allows benefits to a lot of investors ,with almost zero cost.
But the issue of self regulation is still pending to be solve. Economics tools also allows us to understand the reason why self regulation is not feasible. Individual investors seeks their own interest when it come to make decisions, specially when it come to financial ones. The same for corporate business. Because of this characteristics of individual behaviour ,it is expected that the whole community might also get the aggregate benefits from such decisions(assuming they turn out to be correct) through charity, donations , investment and the like . Self regulation contradict this pattern ,as long as it deny the benefits of a better informed decisions to everybody ,specially while information is labelled as privilege. On the other hand, each one want anything on their own, which make harder to regulates individual behaviour.-
So, do not expect self regulation to be the proper guide for dealing with business information. It is a lot more efficient, a clear framework of rules to follow through, when it comes to such topics. What about Ethics standards?. It is an alternative ,but to be useful it requires the proper enforcement mechanism.

Friday, September 29, 2006

Self regulation;Is it possible ? (I)

Market allocate resources following available information ,for economic agent to make the right decisions to maximize profits. When that information is reliable and opportune, the results are better than when the information is late and unreliable. Efficient market theory argues , that prices reflect all the information needed to make decisions .Therefore ,it is a matter of knowing the prices which include all the proper information, to decide where it is more profitable to invest in one sector or another.-
However, there are some complications with information, when there is a gap between the time it takes data to becomes information at the organizational levels, and the time it becomes public. In that case, prices will not include the whole information, but only a part of it, such that anyone who buy a financial asset because of current positive information available, might turn out to make losses later on when the real information is available and it might be negative. Let me remind that data is one thing and information is another. To have access to data does not mean to have information. Information imply a judgment which is complementary to data. I might watch a lot of numbers about the financial situation of any firms, but that does not necessarily means privilege information. Data without the qualitative judgment is just that: data. Therefore is the qualitative judgment complementing data, which make some information to be privileged. While data are everywhere, qualitative judgment is rather scarce and some times confidential, such that privileged information has a high price. Let take Parmalat case .It was not the numbers itself which indicates that the firm was in trouble, but the impressions (judgment) that there was not way to overcome the shortage of cash following the loss of credibility, following the fraud .For every data there is a judgment, which is transform it in information.-
What about Privileged information?. This is the most common situation in the inner circle of business evaluation opportunities .This is so not just because of the nature of such activities , but because any projects have its own dynamic closer to their original owner ,than to the potential users or beneficiaries of it. The problem is this : How long it take to close the gap between what it is private information relevant to make decisions and the time it becomes public?. For example, If the directory of any firm approves and decides to implement an expansion program which imply heavy investment on equipment and construction, this will have an impact on firm market value, such that any one who knows about it in advance will have the chance of making profitable decisions buying financial assets of that firms. It is the same whether any one who knows in advanced the positive financial result of a firm, and decides to buy financial assets of that firm .Again ,it will have the chance of making profits using privileged information .
In both cases, it is very important to take that step as faster as possible, otherwise there are consequences on prices and the efficiency of markets transaction. Because privilege information is scarce ,there are incentives to trade wit it. Here it is the point when the regulator dilemma arises. They have two options ;To let the system regulate itself ,or to apply corrective regulation on any situation related to overlapping self related interest , and privileged information procedures to make it public and the like. Of course , it is better self regulation. But is it possible?.-

Friday, September 22, 2006

Regional Integration :Which way Latin America should follow?

The United Nations forums ,give us an opportunity to know the current state of world affairs .At the same time ,it allows to know the different focus world leaders are concentrated on to overcome the main challenges arising from such affairs. For Latin America, it is the special occasion to discuss its position and interests, on that global politic scenario.-
Given that the situation and prospect for a wider global trade including agricultural goods, is standing by after the Doha meetings results, some analysts are saying that it is the time for regional integration, starting with the Asia Pacific area next to have its annual meeting this year in Hanoi. The instrument, would a be a Free Trade Agreement for the whole area included in the Asia Pacific Economic Cooperation forum (APEC),fostering a new impulse on global trade talks.
For Latin America economies, such regional integration strategy would also imply to reinforce trade within themselves and others partners, mainly Europe, Asia and the United States.
The question is which direction should follow such effort?. In the United Nations forums, The Latin America Presidents gave different and heterogeneous speeches. Chile concentrated on the necessity of improving trade, Argentina concentrated on the necessity of improving the financial architecture for capital flow and debt renegotiation, Brazil concentrated on the necessity of reducing poverty, Colombia concentrated on the necessity of reducing violence, and Venezuela concentrated on the necessity of confronting the empire (¿?). There was different styles, moods and strategy to capture the audience attention, but it seems clear that there is no connection between these speeches and the regional integration demand. What if the Venezuela approach is followed?. It means to go nowhere .Insulting does not provide leadership . What about Chile proposition ? .The Doha results are evident that there is still a long way through . Argentina initiative? .It emphasizes the financial requirements for global trade. Brazil proposition ? .A desired goal for development, and finally Colombia proposition?. Peace is the United Nation business.
None of the orientation and guidelines mentioned ,kept the attention on what is really needed for regional integration : To foster growth and wealth creation as the precondition to overcome poverty, violence, and underdevelopment so to be able to have a place on the major leagues.
The regional integration effort during the nineties, has been driven mainly by private business which searching for bigger external markets ,to sustain investment levels in some cases above the levels that domestic markets were capable of support. Latin America firms, went to different countries within the continent , such as it allowed them later on , with the expertise and economy of scale advantage of greater volumes, to improve its access to world markets.-
This integration path got Latin America government policies closer to one another, but behind private firms, not leading them. So, the driven factor ,as mentioned, was not Government ,but firms. The implication of this is that the only integration which have a common language is the one leaded by private sector, which imply a complementary role for governments .-

Friday, September 15, 2006

Is Chile weakening its ground ? (II)

When everything looks fine for strong economic performance there are worrisome indicators in Chilean economy. So, where is the real problem?.
a.- Negative expectations both from consumers and business man.(last week blog)
b.-Lack of a comprehensive focus about the real issues currently important for the future prospect of social mobility, quality of public services, better access to opportunities for all well educated person, decentralization , and transparency as a protection against corruption .It seems that it is all about lacking of economic democracy: which means to ensure every one a fair chance to take the proper benefit of the economic growth.
Chile has overcome the macroeconomic reforms quite successfully ,allowing the country a steady rate of economic growth which has reduced poverty (actual levels of 18%),but with a minor impact on unemployment (roughly 9%in the second quarter of this year ).Considering that copper prices has improve public resources availabilities ,it has also induced both better and higher expectations . Therefore ,Chile is living times for leaderships to set the direction to follow through .
The next question is : Is it just a government problem ?.I do not think so. The current Government has concentrated its effort to solve what it is urgent, including some unsolved issues from the past administration. In the mean time, it is still working on what it is important but without a specific plan yet. The resulting gap, push down expectations .Anyway, it is too soon to blame government.-
Some would argue that the government program is quite clear to set the directions which the country should move forward to, however there is still an important challenge to work out some of those ideas with the parliament .My point of view, is that there is no clear priorities at the politicians level(parliament) about what the important issues are for the country. They moves from one topics to another, without a sense of dealing with solutions to real necessities. Some of them are starting to preparing their campaigns for the next presidential election in the year 2009,such that it is harder to work out consensus needed to go deeper on further reforms.-
After 15 years of a renewed democracy and economic growth, Chile has achieved important assets and strength. It is a stable and prosperous environment for doing business, culturally homogenous , well educated middle class, but still with a lot of reminiscence from the past. Close to its 200 hundred year of independence ( 2010),it is still a centralized country with a regional management model , unsuitable and outdated for the present regional needs. This imply that business opportunities are lost , because there is no clear regional autonomy to make tough decisions. The Chilean State has made a strong effort to modernize itself, but there is still a long way to go before giving it a new profile, prone to deal with the solutions rather than to just analyze the problem.-
On foreign affairs, it looks like complex issues such as the energy resources supply and its implications for regional foreign policy, are not articulated within a strategy yet, by the same token , there is not a clear understanding of what the FTA with the US economy, meant for Chilean role in Latin America. Its expected leadership on issues concerning with free market economy and free trade expansion, has been elusive while strong winds supporting a more active role of the state in the economy moves around.-
So, Chile is facing the problems which arises along with growth, whereas other countries are dealing with the problems of lacking of economic growth. Therefore, there are new challenges which should be addressed ,but within the context of a broader view on foreign affairs .-

Friday, September 08, 2006

Is Chile weakening its ground? (I)

The recent data of GDP growth in the month of July (4,2%) has induced a wide spread feeling that some thing goes wrong with the aggregate economic variables. In the second quarter, April-june 2006),GDP grew 4.5%,and in the first six months Chilean economic growth is 4,9%, below the 6.9% at this time of last year. Although core inflation is 3.1% in a twelve month period, it is still within the range of Central Bank inflation target, however there some questions concerning the future pace of current adjustment in monetary policy of increasing interest rates, actually at the 5,25%,shifting the emphasis from controlling inflation to support growth .This is the current cruel dilemma of most of the Central Bank around the world economies .How to make the balance between controlling inflation with oil prices pressuring it up, and at the same time not to disrupt the economic growth pace ? .
The mood is increasingly worrisome even with the actual positive external conditions, beginning with export growth and copper prices, at such a high level of U$$ 3,2lb,as it has not been before. However, consumer confidence index dropped to 46.7 in august.
An healthy macroeconomic environment and saving at a 21.7% of GDP, (down from 22,8% in the same period last year),the expectation is to have a GDP growth of around 5%(it could be a bit less according to some forecast) at the end of the year 2006,also down from previous estimation slightly above 5,5%.So , there is a mix of cautious skepticism coupled with what it could be promising situation.
A month ago, there was a Government ´s package of supply side incentives , to small and medium size companies, lowering some taxes, delaying the time for mandatory payment taxes, all of which is expected to induce a better cash flow conditions for those companies. It is unlikely that these measures will have a strong impact in the short run to counterbalance current monetary restriction on growth , but it is rather more probably it will have so in the medium term. So ,it does not look like there are more difficulties ,other than the necessary tightening on monetary policy .-
A recent report from World Bank , (Doing business 2007),place Chile in the 28(down form 24 last year) preference among 175 nations to do business ,followed by Mexico (43), and Uruguay ( 64).
Where is the real Problem ?.I will develop this answer in two stages:
a.- Negative Expectations about the future course of the microeconomic reform needed to improve competitiveness. While Mexico and PerĂº moved aggressively forward on the microeconomic reforms , increasing facilities for private investment, lowering bureaucracy for doing business, Chile still maintain the 27 days period as a necessary condition to fulfil the legal requirement to open up a business. Therefore it is the proper time to go beyond the current state of affairs, concerning these reforms. But is it possible? .Unfortunately it is not likely in the shorter period of four years of actual Government .Besides the parliamentary forces are not so prone to make deeper support for markets and firms to do its job of creating wealth, because the current majority represent a moderate leftist views concerning the economy ,the state and the market . Social Protection grid issue is the priority right now , before moving on for more market flexibility .-
Business man are expecting to improve market flexibilities, because this way the economy can not only get higher competitiveness but also to take full advantage of new opportunities for growth ,given tough competition everywhere .Past reforms are already exhausted its positive impact,therefore it is necessary to move reforms one step further .

Friday, September 01, 2006

Retirement Fund Reforms : The Chilean Case (II)

In 1989 a step further was taken with the implementation of saving voluntarily account, which allowed to enhanced the saving options. Today there are 814.000 of this accounts with positive balance, accumulating U$$ 827 million. Another account is the Retirement saving account (There are 363.000 of these account)which accumulate U$$1200 million, with an average amount of U$$ 2100.This account has tax incentives .-
An interesting question is what would have happened whether the old system would not have been changed?. It is an interesting but difficult question, because it allows to understand the impact of such reform, but at the same time assuming that nothing else would have done with the former system .
In a recent seminar on the issue (, two qualifies economist analyses and discuss the topic, among theirs conclusions it is important to mention:
a.- Public deficit would have soared to 8% of GDP
b.- Pension retirement amount would have been between 40 up to 50% of average income. The actual system have an average return of 10%,making possible to have as retirement pension, up to 70% of average income.
c.- Only 35 % of potential retired workers would have collect retirement fund
d.- Capital accumulation would have been reduced by 9.7%
e.- GDP per capita would have been 7.6% lower than what it has been. Almost a third of GDP growth between 1980 and 2001, is explained by the effect of private pension reform.-
An additional step was taken in the year 2002,with the implementation of the Multi option investment funds, which divides the portfolio among 5 investment alternatives, ranging from the higher risk and higher expected return(15% since 2002) , to the lower risks and lower return ( 5.9% since 2000). Actually the total fund accumulates resources by U$$ 73.000 million, (roughly 70% of GDP) ,70% of which are invested on domestic asset, and 30% are invested on foreign assets.
Therefore, Chilean economy growth in the last 25 years, is very much related to the retirement pension reform. On the other hand, its contribution to the financial markets developments, and domestic saving availabilities has allowed to make the economy less dependent from foreign aid and external saving to support growth. As a result, the Chilean economy is less dependent form volatile external resources.-
Is it possible to improve the quality of the system.Sure It is.There are some topics to take care of concerning independent and women workers.-

Friday, August 25, 2006

Retirement Funds Reforms : The Chilean Case ( I)

In 1981,it started a revolution in the Chilean retirement fund system. It changed the former system of solidarity, of multiples independent public institutions, based upon the state funding capabilities . Each segment of the labor force, had their own affiliated retirement public firm, for instance the so called white collar had different categories such as politicians, journalist, public administration staff, banks staff and so on. On the other hand, the so called blue collar were all in the same public retirement firm, based on what was know as the “ distributive system”. This meant, the monthly contribution of all workers in the labor force, added up to the total amount to be delivered to the affiliates in some previously defined proportion. The nature of this system created a gap between the contributions of workers in the labor force ,and the monthly payment requirements, because given the larger life expectancy of population , and the decrease in active labor force because of lower fertility rates, the amount of workers making contribution were lower than the amount of workers making payments claims. There was no way to avoid the State running out of cash to finance the system, making the increasing public debt the only option available.
The former public system , implied a discrimination among different groups of workers, which were discriminated by allowing the existence of different conditions to get their retirement funds. Some of them needed 15 years of working life like the politicians , others needed 30 years like public employees, aside the fact that there was not a management criteria whatsoever to deal with the use of those resources other than distribute them to the affiliates. The new system solved those constraint making all workers equals, and giving to all of them a chance of getting a professional management of their individual contributions through what it is known as the Retirement funds management companies.
The Monthly contribution of each worker(10% of gross wages), on his(her) individual retirement account, would give him(her) the needed capitalization to live once he /she was out from active labor force. The key stone of the system is the individual capitalization account of the monthly contribution made by each worker ; so the funds accumulated earnings because of the compound interest rate applied on them.-
Dependent workers are forced by law to chose a Pension Fund Firm, where the monthly individual contribution are accumulated. The Retirement Fund management Firm, cover its administration and operational costs with a fraction of workers ´s contributions ranging from 2% to 2.5% . The legal framework limits the income accountable for monthly payment to the Retirement fund management firms, up to a maximum of U$$ 1400.People with higher incomes may add voluntary and complementary contributions, under different schemes such as: Saving account, Programmed contribution with the employer approval.-
The resources accumulated are for the exclusive use of the owner, when it comes to the retirement decision, expected to be at the 65 years old.-
The interesting thing is that the amount accumulated throughout the years, will finance the monthly incomes after the individual retires from labor force. This total will depend of the amount each individual is contributing, ,the regularity of the contributions, and the efficiency in the management of the total fund .According to some calculations, with an average annuals returns for the whole period of 4%,an average affiliated with 45 years of working life, will retire from work with a monthly pension equivalent to the 60% of the latest 120 monthly average income(ten years).-

Friday, August 18, 2006

Copper Mining sector labour strike : The importance of long run contracts (II)

Is it efficient long run labour contracts? Or Is it fair long run labour contracts? Two key questions to be answered on the basis of strategic consideration for firms´ decisions. To answer the first question, it requires to match marginal benefit with marginal cost. It means, each firm should consider what are the gains and what are the losses for each additional year of labour contract on the negotiation table . Among the gains there are :better information level to make strategic decisions, better stability standard and lower internal uncertainty, to be focused on strategic decisions concerning the chain value ,market segmentation and innovation strategy ,because variable cost are moderated by the rule of flexibility clauses , moreover Human resources can concentrate on getting their goals on productivity, production ,cost reduction and innovation practices. .Among the cost, it is the burden of higher negotiation cost , the administrative costs of enforcing the signalled longer contract and higher fixed labour cost because of health care programs, training programs feasible to schedule in a longer period. In other words, stability and better information for strategic decisions has its price. Each firm should evaluate this price on the basis of their own strategic planning goals . But, as long as firms get solved the labour cost issue for longer period of time, the better the firm can concentrate on other cost threats, such as the operational ones related to the machines functioning, or the organizational procedures related to the management better productivity results, human resources rotation cost and the like. So it is efficient up to the extent that it allows better decisions framework for strategic management.
Whether this mechanism is fair, It all depends upon the chances of allowing the firms with this format negotiation, to have better tools to adjust itself to both competition and uncertainties, than otherwise would be the case. For human resources, it is fair as long as they get better protected against ups and downs on business activities, such they can concentrate on long run firms goals . It follows that having negotiations for two years, is neither efficient nor fair.-
Let takes as applied examples the air lines sector .With the oil prices well above the expected, most air lines are no longer in the position of assuring their workers what is going to happen for sure in the next two years with theirs jobs, unless they all make a joint effort to keeps cost down ,such as to compensate short run cost out of the line increases due to persistent oil prices increases .If that joint effort ,is under the negotiation rule for a longer period of time, the result will be better than what it would be the case without it . Firms needs long run compromise to reduce cost, to increase productivity and to improve innovation practices.-
Another example. Firms under the threats of competition .In this case, each firm must deal with the uncertainty of new firms sharing the markets and the subsequent prices competition reduction. What would it be the firms situation which do not anticipate such scenario? There are two alternatives : Either ;first to repudiate its labour contract, or to ask workers to accept to renegotiate current contract, but none of this option is better than the former one , of having negotiations for longer period of time.-
In the longer period negotiation case, firms can distribute negotiation cost in a wider range of time. A 10% increase in wages , to be applied in four years is better than to applied it in just two years. Besides ,it solve the issue of labour cost ,such as to make possible to concentrate on other cost as long as its strategic plan moves along.-
So, long run negotiations have a lot of advantages over the shorter period of negotiation of two years .Flexibility clauses, allows to negotiate in advance ups and downs , it also improves information level for making decisions, avoiding the risk of overreaction and its cost.In the Escondida Mining situation,I would recommend to increase the period relevant to solve the current negotiation situation from two to four years.-

Friday, August 11, 2006

Chilean copper mining labour strike:The importance of long run contracts (I)

The Labour strike which is taking place on the most important private copper mining firm in Chile , “Escondida” ( roughly 10% of world copper production),is expecting to last weeks. This is so because of the negotiations differences, actually making a deep gap between both sides. While the labour union is asking for a wage increase of 13%, the firm is offering 3%,and while the labour union is asking for a bonus per worker of almost USS 30.000,the firm is offering near USS13000. Actually the average workers in “Escondida” earn a monthly salary of about USS2700 , (including both the fixed and variable part), well above the national average worker wages of USS 500.The whole labour package would cost to the firm in the two year period of expected collective contract ,USS 640 million. However from the labour negotiation team point of view, that cost would be USS 375 million in the same period.-
Although it is usual in each negotiation to have initial gap, in this case it looks like it will take longer time to close it . The differences are too high, to expect a quick solution to this conflict. The so called bargaining zone which each side focus on, allows to have a divergence between both sides, such that while the negotiations is under way that gap is expecting to be narrower than at the beginning. However, this imply each side willingness to make concessions ,which are more feasible when that gap is not that much wide, as it is in the “Escondida “ labour negotiations .-
The effects of this strike over firm ´s production are already clear. Actually “Escondida” is producing 40 % of its 3500 ton of daily copper production. This means, each day of labour strike have a gross cost of around USS 16 million, considering current copper prices USS3,5 /lb. The impact on prices, will be given by the period of time the labour force is on strike .The longer that period and the deeper the reduction in production , the higher the expected impact on copper prices. However, the impact on world copper prices will also be influenced by inventory levels. So, at the beginning, it is probably a moderate increase in world copper price.
Before this strike, the trend on inventory levels was to increase , and prices were near a stable trend. Forward copper prices were declining. However, all of this is under keen scrutiny right now. The state owned firm “Codelco” is also with productions problems, which will also put additional pressures on the short run higher copper prices.So, later on the actual situation ,the probability of substantial copper prices increases is relevant.
Since the year 2002(January) the annual average copper prices has increased from USS 0,70cts/lb to almost USS3,5 lb in the year 2006( July ).The labour expectations with the new contract (2006-2008) were obviously high concerning the copper price trend, and the expected benefit level for everyone ; the firms and the workers.
Was this strike avoidable? .It is hard to say from outside the firm, but it is obvious that given the actual copper price trend, the labour expectation for this negotiation would be high . From the strategic point of view ,firm ´s management should have anticipated this scenario, working a set of options to put forward in a period longer than the two years self restricted scenario.
The key point on this issue is the length of labour contract , which is usually settle down for two years. This means that every two years, the management process is under stress because of the probability of failure on each negotiation.
What would be the case with long run labour contracts?. In this case, negotiations would be for a longer period, let say four years,(assuming that four years make equal the marginal benefit with the marginal cost of such length in labour contracts ) such that the expected ups and downs of business activity during that period are considered as a part of the negotiations throughout flexible clauses which anticipate such eventualities. This means that each firm includes in every negotiations the eventual situation of ups and downs on business activities during the relevant period (four years),to negotiate it in advance the way to deal with each one of them, It is like a forward price contract, except the fact that even the eventuality framework scenario, can be revisited according to how it fit the real situation.
But there is already something on the table to deal with, which is much more than the current expiring contract . This negotiation format is quite useful under uncertainty conditions concerning competitions, prices trends .
In the “Escondida” case, whether it would have applied this long run format in the negotiation of 2004, when copper prices were increasing but there was no clear indication to be around USS3,5 /lb, it would have allowed the firm to have a better conditions to solve the workers expectations .

Friday, August 04, 2006

Global information and personal choices

The actual daily attention of current global economic data, is related not just to natural curiosity , or social necessity, but it is related to the fundamental of human behaviour: To make rational decisions. From the economic point of view ,rational behaviour is defined as the best solutions given stock of data and perfect information, such as to maximize individual welfare. Prices reflect all the information needed to make decisions either from the consumer or producer perspective to allocate resources .When there is no enough information, it arises price dispersion and the individual decisions are no longer the expression of pure rationality.
The problem is that perfect information is not the kind of free available good. It has both transaction and opportunity cost. The benefit of information, is the quality of decisions made with it and the expected impact on individual welfare. Rational expectations imply that nobody will carry on additional effort to get more information , if the cost is higher than the benefit.
These days there is uncertainty everywhere, such that information is an expensive good .The implications of this is that, most decisions are based upon partial available information, which also imply that not always they are good decisions. It is the limited rationality situation. Any consumer before buying any good , do not check out his or her chances of loosing his or her job. He or she decides on the basis of expectations, such that do not need to gather all information available. The result in this case, might be a wrong decisions concerning higher consumption level ,and the subsequent debt increase whether the real probability of loosing the jobs is high. So, uncertainty is inefficient .A politician will decide public affairs based upon the result of opinion polls, but public opinion changes faster than what it is possible to measure ,because of instant global news network. So, like the consumer it might also be in the position of making wrong decisions. The same situation is for business man and global market trends.
Therefore it is crucial to reduce uncertainty throughout better information. Internet allows to get down transaction cost of getting an expensive goods, as it is information in such a situation. However, no all the internet sources all worth to trust, every user must discriminate the good from the bad sites. There is not ISO norms for internets sites. Should it be possible that before enter over internet sites, you could have a signal of quality such as the ISO norms for internet?. It would push down further transaction cost !.-
Let take as an example current global imbalances .It is clear enough that sooner or later there will be an adjustment .The uncertainty is to what extent it will impact global economy. There is no way to solve this doubt hundred percent sure, no matter what econometrics model might predict, but there are very goods internet economic sites , plus global news media, with high quality information , capable of collecting every important on the spot data to allow internet users to make the right decisions as never before. What it is the impact of such information levels on the current quality of decisions ? What is the impact on the economic expectations? .I guess it has been crucial to get the global economy moving forward to its new adjusted stage, in rather smooth way . Without this level of information, it is highly probably that the post adjustment scenario would be very different than what actually is expected to be.-.-

Friday, July 28, 2006

Current global imbalances:A supplied side point of view(I)

Current Global Imbalances: A supply side point of view (I)
There is a lot of attention to the current global economy imbalances, and its expected adjustment effect. It is clear that sooner or later, such adjustment will take place. The question is how; either soft or hard adjustment path, and whether it will impact severely the global economy..
I do believe that too much emphasis on the demand side of the adjustment, makes the analysis biased than otherwise would be, whether supply side variables are also taking into account. Let me explain a bit further this point with some available data.
a.- Recent revisited report from the United States Labor department for the first quarter of 2006, has indicated that productivity is increasing at a very strong pace:3.9% in Business sector,3,7 % in Non farm sector,3,8 in manufacturing sector and 3,5 % in durable goods manufacturing sector. These numbers indicates that productivity growth ,which has been regular since 1995 ,has helped to neutralizing inflationary pressures coming from oil prices increases , such as the Fed response ,while keeping inflation on line, does not risk too much the growth expectations. As long as Productivity continues its increasing pace, very much of the Fed approach (the unlikely economics recession scenario, coupled with middle range interest rate increases ), might be correct , and the probability of a recession turns out to be lower than expected.
(Additional comments on

Friday, April 28, 2006

Can Chile perfomance match foreign expectations?

It has been usual to say that Chile is far away form the rest of Latin America countries, specially because of its economic and institutional progress. But ,what about the chances of getting even better economic results, to consolidate this position?. Answer this question requires to check additional background to what has been known and done so far .Among these ones, it is the presence of a prospective economic strategy capable of anticipating events with negative impact either over society as a whole or the economy, also it is the implementation of a strategy to reform education ,and a strategy to pursue higher innovation levels. The evidence suggest that Chile lack of these three orientation. Let looks to the first one : a prospective strategy.-
The high copper price has meant good news for the Chilean economy , although not so for economic authorities .This paradox arises from the fact that nobody was prepared for such scenario. Real appreciation of the exchange rate not too far its long term trend(1986-2005) , budget surpluses over the 6% of GDP, it has meant a scenario with unexpected effects.Let looks first two questions:
a.-Was it possible to anticipate the high copper price and its effects?. If it was so and nothing was done about it ,that is a worrisome signal. If it was not so, and nobody knows what to do to about it now, that is also a worrisome signal.-
I do believe that is was possible to anticipate a steady increase in copper prices, so to design the proper response to apply it just in time it was needed. Probably ,it was hard to set a U$$3,2 (lb) dollar ,but with China pushing strong the raw material markets it was a fair probability to have important prices increases, even if copper prices is adjusted by dollar depreciation. My own estimation at the end of 2002, was a steady increase in copper prices ,moderating itself near the end of the year 2005 . It seems that it was nobody ´s interest to anticipate this increases, and now it is the problem of what to do about it. Central Bank authorities looks the fundamental and long term real exchange rate ,to rule out intervention into the exchange rate market ,for neutralizing the appreciation of Chilean peso .But exporters are complaining louder because of loosening competitiveness. Government authorities are trying to design the Norwegian fund approach ,to cope with excess of foreign currency which it will require months to implement. In the meant time , exporters insist the need to do something about the appreciation of Chilean peso, forgetting that this is not the only relevant price for theirs business.
It is not the first time that there is failure to anticipate major real shocks .Gas supply reliability from external sources, is another one, Still there is not a clear energy policy. Besides, only afterward the free trade agreement were signed, it was noted that tax revenues coming from foreign trade would be lower. Concerning the new strategy for education, experts has said Chile is ten years late to implement the necessary reforms.-
b.- How deep is the key role the private sector have in the economy, whether government ´s help is requested at any difficulties along the road?. Efficiency firms actually supported by Free trade agreement, should be able to cope with a stronger peso (local currency)as they did in the nineties.. Management model based on long term contracts with flexible clauses, low import cost for inputs and capital equipment, low interest rate to finance financial needs, lower shipment cost, and more productive labor force ,should means efficiency gains sufficient enough to confront this challenge. Not to mention innovation, quality of products ,and market diversification
Then, How far is Chile from its fellows Latin America economies?. Given the long tradition of improvisation ,it seems that after all Chile is still into the realities of Latin America way of life ,except that from the economic point of view, it have made some progress not enough though to qualify in the major leagues. So, Chile is on the most difficult part of the development process, the one which requires additional step hard to implement , because it requires to broke up with the fear to make changes, along with the mental legacy of the past. In this stage ,some chilean economist argue for looking abroad to learn experiences, for instance Ireland and its extraordinary achievements in the last twenty years, but it is easy to forget that Ireland is surrounded by strong economies . Another alternative is Finland and its achievements in innovation ,but this country is also endowed with strong economies around. Chile needs proper models to follow throughout the next stage to achieve development and to meets the foreign expectations; but much of those models are in their own understanding that beyond diagnosis, it is necessary a willing for strategic decisions to be applied soon.-

Friday, April 21, 2006

Oil prices increases:¿Global econoomy risk or specific economy risk?

The oil prices increases again take the lead on the economics news front. Questions arises about its probably impact on global economy. So far, successive oil prices increases have not restricted global economic growth .This leads us to the question, why it has been so ?. If we understand the answer to this question, we will able to anticipate its effects on global economy or to choose correctly the proper forecast.-
The recent economic forecast of the IMF, set the global economic growth for the year 2006 , at the 4,9% level, which is quite optimistic given the scenario of increasing shortage in oil supply . Others prestigious economist expectations, are not so positive and foresee a risk of global slowdown. Both represent alternative scenarios. Which one you prefer ,it will depend of your own risk preferences and information available. If you are risk averse with minimal information ,you will decide on the basis of the second approach, if you are risk taker with a lot of information, you will decide based on the first approach. However, I think the issue is not about how well informed we are, but how do we understand the fundamentals of the new global economy?. Concerning this topics let me mention some key elements:
a.- The industrial economics, was capital intensive , heavily concentrated on given endowment of capital resources, but with oil intensive production technology .Any increases in oil prices were not matched by capital prices decreases, such that relative prices adjustment ,avoided inflationary pressures. Capital prices did not fall, because the demand from it was steadily increasing, to matching the requirements of emerging economies to sustain their own economic growth, or the industrial economy to keep the pace of their own economic growth.. On the other hand, there was not labor cost mobility either, compensating for such price restriction, such as to allow settle down productive process in those places with lower labor cost. Any oil prices increases , meant industrial economic recession, because lack of flexible cost structure. The transmission mechanism between those economies, both productive and financial ones , would ensure that the recession dynamic were spread out all over industrial economies , so the rest of the world.-.
b.- Global economy is less oil dependent, because of higher factor mobility, because it uses production technology based on alternatives energy sources, and heavily concentrated on knowledge endowment, so that relative prices adjustment either avoid or mitigate inflationary pressures .In this scenario ,any oil prices increases , means another ´s input lower relative prices. and inflationary pressures are neutralized. In fact inflation rates in advanced economies in the year 2004 and 2005 was not much higher than usual, and the forecast for the year 2006 and 2007 are 2,3% and 2,1% respectively, even though the expectations are for higher oil prices, at least up to the point it fit itself to its long run trend.
c.- Information technology applied to the management and productive process in every organization , have allowed productivity gains counterbalancing the impact of higher oil prices ,and keeping inflationary pressures in check. The higher supply of both capital (recycling of capital from oil exporting countries),and lower cost labor supply, ( China as the global producer),have reinforced such counterbalancing effect.-
d.- The huge increase in revenues for oil exporting countries should go somewhere. So, It could go to speculative funds, investment funds ,or portfolio diversification purchases. Wherever it goes, allows higher availability of funds for growth. Sure those economies which are not receiving any of these new additional financial resources will have more troubles to adapt themselves to the new scenario, But those ones who get an increasing fraction of it, will have the resources to support growth .-
Under uncertain conditions, These four factors will jointly explain the future developments concerning global economy, in the higher oil prices schema.
So, it seems that global economy has its own economic protections forces to keep on with a healthy economics growth rates despites oil prices increases. The key question then ,is what happen with the economies which add up the global economy and what level of interdependence exist between them?. It will depend on either how close or how far those economies are from the characteristic of global economy, and your perception of interdependence, Which forecast you should follow .It will also all depend on each business scale ,whether it is globally or locally based. .If you have business on a global scale, the first forecast will help you better. But if you have business on a local scale, the second forecast will help you more to understand what it is next.A different matter is the degree of conection between global economes club , and each of its members.-

Friday, April 07, 2006

Stock Exchange markets:Its predictive power (II)

If the Stock exchange market is better at reacting than predicting, what are the implications?. Following the fundamental of CAPM , it will react sharply either upward(speculative bubbles, rational exuberance) or downward (profit tasking) as soon as available data suggest .This is so, because anything different to what it is expected, will imply expected profit corrections either upwards or downwards. So ,it is highly probable that Stock exchange markets does not anticipate properly an economic recessions, but its quick reaction to the first signals, will be key to avoid its consequences on short run returns.-
To check some numbers. During the first quarter of 2006,the stock market rate of return measured in current dollars,( 1/4/2006) was 52,18% in Venezuela,27,49% in Russia,25,67% in China,13,03% in Germany,6,09% in Japan,4,18 in the Dow Jones (USA),8,73 in Chile and -31,54 in Dubai .In this last case(Dubai), this results shows that investors were waiting for the east American ports deal to be done, such as to increase theirs earning because of the higher market value involved in such a situation, for the all tradable goods sector, insurances companies, logistics sectors business and the like. When it happened not to be so, they reacted quickly moving away to other better alternatives.-
A second issue is the type of firms participating at the trade floor, on the stock exchange markets. In the Chilean Stock Exchange case, firms share in the price index which measures the exchange activity ,has been changing from a heavily regulated firms, which accounted for 71 % of such index in the nineties, to the 26% they have today. On the other hand , Retails firms actually have a share of 18,5% in such index , while in 1996 they had barely 3,9% .Financial services firms have increased their share form 6,2% in 1992 to 20,1% in the year 2005.( 11/02/2006).It is obvious that the predicted power of an exchange market composed either by regulated or protected firms is null. As long as stock exchange markets broaden its business level participation , it might better represent the feeling of markets as a whole helping to improve the information available regarding markets expectations.
Keeping in mind that the nature of short run profit maximization, adapt itself to market conditions, whether good or bad, then the question is what economic information the stock market value most, when it comes to anticipate a slow down in the economy ?. For some time oil prices were the key signal to anticipate a recession. The relationship between oil prices and economic activity situation for the American economy in the last 25 years has been broke down. For every increase in oil and gas prices the American economy fall to a recession. However , because productivity has increased counterbalanced the impact of oil prices increases , actually theses increases are in the mid sixties dollars a barrel and the global economy is growing at a pace of 4% . So, oil prices increases are not a good predictor either, and beyond that signal recessions quality ,stock markets have incorporated such increases in theirs profits expectations.-
Finally ,it is hard to say without additional research, where are the data to anticipate a recession,aside from the traditional threee quartes of nefative GDP growth,(the point is how to anticipate that) , but my bet is that in the first place ,they are on the sales levels and the unemployment levels trend on medium size firms, and the bad loans index .When bad economic times are near to arrive ,medium firms size sales levels fall, unemployment rise, consumption decrease, and bad loans risks increase.-

Friday, March 31, 2006

Stock exchange markets : Its predictive power (I)

In 1983 while I was studying in the New York University (USA),I watched on TV Mr Paul Samuelson saying that Stock Exchange markets does no predict economic recessions. Later that decade, in 1987 the New York stock exchange felt down by 20% but it did not mean a recession for the American economy that year. Instead, it came about later in the beginning of the nineties and for different reasons. Does this l necessarily means that stock exchange moves on their own with no connection with the real economy? .Of course not. What about the European experience or the Latin America experience with its own stock exchange markets?.
If we take the Capital asset market pricing model, (William Sharpe, 1964)the portfolio combination maximize its short run returns based on perfect information ,frictionless markets and homogeneous risks assets. Given rational expectations, investors make decisions with all the information available in one year period. So, every unexpected event occurring during any specific year, is considered in the risk evaluation of every portfolio as a “new event” ,to make investment decisions.-
Whether there is a supply side shock (increasing oil prices) , or a demand side shocks (increasing raw materials world demand ),investors include this shocks in its asset price estimation and so on its expected total short run returns and risk evaluations. But , there is no consideration whether either it is a new trend , or a transitory shocks. Perfect information and rational expectation will solve the doubt, as long as time goes by. For instance, it seems that there is no major concerns on stocks markets with oil prices on the level of sixty dollars a barrel it has today , because markets have incorporated that shock as a trend, oil prices will continue to be higher than before , so it has charged every asset price on the proper risk magnitude that such event means for the energy cost on firms financial result. Take a look to the Air lines stock value. Most of them, have been in trouble to keep on track, unless they increase productivity, reduce cost or cut jobs. There is no another way to avoid markets bias to punish its market value . So, at this moment, it should be necessary a very high unexpected increase in oil price ,to shake financial markets .and pull them down. Every price increase within the trend , is already incorporated into the market expectations.-
Back again to the Stock exchange markets predictive power, it is clear that any economic recessions does not appear without any medium term warning signals, but stock exchange markets will consider that warnings as an isolated event , mixed with other signals either positives or negatives. Given that short run portfolios diversify risks, those warning signals induce investors to move away from the riskier sectors. So, the stock exchange markets might moves down in the economy affected by such a risk, but on the global scenario , those resources will move over to anywhere with lower economic recessions risks.-
Following the Asian crisis, foreign resources flew away from Latin America after it became clear its effect on domestic product, pushing downward the local stock exchange markets ,but pushing upwards those more secure foreign stock exchange markets. Neither stock exchange market, nor investment models predicted such a recession .
So, Stock exchange markets seeking to maximize short run portfolio returns, are not good at predicting economics recessions signalled by medium terms events ,because they always maximize short run portfolio returns rather than long run returns . The recent Dubai ´s Firm failure to move forward on the east coast American economy ports deal ,moved down the stock exchange market in Dubai, while another ones move up. Stock exchange markets looks better at reacting than predicting.-

Friday, March 24, 2006

Mergers regulations :Should it means Capital flow restrictions ? (II)

Following last week article, let looks additional issues: Assuming as regulator does, that it prevail the same goal between the agent and the principal, the main objectives mergers are orientated at , would be to take advantage of new opportunities arising in growing markets .Institutional framework will have to take care of markets implications specially the chance of collusive price behaviour. However, there is empirical evidence that in mergers and acquisitions firms, internal factors have a strong influence on the success of any strategy implementation. Half of mergers end up in failure because internal cultural values may not match well to move along the complicated process of working out the new organization and its new strategy. The initial higher stock exchange value, very usual in the first stage of mergers, might decline further into the following stages because of wrong internal strategic decisions.
How to assemble different human resources realities? If there is no internal strategy to follow through to fix it up these differences, the whole process might end up either in a complete failure or important losses of market value. So, regulatory authority should take into consideration the issue of potential failure when it comes to intervene in a merger project, otherwise what it is assumed to be a saving for consumers ,can really be a loss of welfare . This means ,it is better to apply regulation to a merger successfully working when it eventually implies a threat to consumers welfare, than to avoid it and nullifying its potential benefits .
In fact, mergers can also imply gains for welfare consumers. When Citicorp joined with an insurance company to broadening its service spectrum to its clients, there was not too much concern on the impact of such merger on insurance industry, because it was an innovation effort to offer new products to consumers. In Chile mergers in banking industry have allowed a better quality service, lower fixed cost for loans evaluations. and a better access to technology based service for customers. If regulatory authority had intervened stopping this mergers ,because of the ex ante perception of collusive behaviour, none of theses benefits would have come up in the short run.-
What about global scale mergers?. In this case it could also be considered as a capital flow. So, the more it is restricted ,the less efficient is the global allocation of resources, loosing welfare gains for the global society as a whole. How is it ?. Capital resources do seek the best alternatives to maximize profits, both in terms of markets and organizational arrangements, assuming capital holders are not risk averse. .Mergers , (beyond the scope of each firm ´s strategy ),are also a way of allocation of resources to a higher levels of outcomes than what otherwise would be . This has been the case on global banking industry, insurance industry, financial and logistic services industry. If regulations restrict mergers because of ex ante assumptions, capital will not flow to where it has the highest return, but where it get the highest rent. Global welfare will be reduced because this regulations restrictions will be equivalent to protectionism.
Then, Merger Regulations could be applied on the basis of real measured rather than expected behaviour, allowing a period of time to get the benefits for consumers to be in practice, at the same time freeing entry barriers. In other words, merger regulators should allow conditions to protect the benefit of consumers ,rather than punish the benefit of each mergers which on a broader perspective of capital flow ,might also be the benefit of global society.-

Friday, March 17, 2006

Mergers regulations: Should it means capital flow restriction? (I)

Mergers and firm acquisition increased by 12% in the year 2005 in Chile. Telecommunications sector had the higher share with USS 1400 millions, 37% of the total amount involved ( U$$ 4000 millions). In the second place, is commerce with 27%, and in third place forestry sector with 12.5%.(
This amount represent roughly 4% of Chile` s 2006 GDP. This number by itself, does not tell us too much about the underlying issues concerning mergers, because there are a lot of variables involved on them. To mention just a few: capital mobility, firm efficiency levels , rate of return for capital, consumer needs ,market efficiency and level of competition. But high internal capital mobility measured throughout mergers done in a year, is a good signal of the dynamic of economic growth.
Considering the usually defined three type of mergers, (Horizontal, vertical mergers and potential competition mergers),there are some key issues to take into account. The first issue is whether mergers are good or bad for the economy. The answer , will depend of the institutional framework quality(IFQ).Credible organism for markets behaviour supervision, proper legal instrument either to protect the rights of consumers, or to punish privilege use of inside information are key aspect of a proper institutional framework. -
The second issue refers to the regulation of mergers, which apply when it happens that the new firm, increase industry concentration and eventually gets monopoly power and its consequences :Higher prices, lower quality of products, reduced availability of goods or services, and less innovation. By the way, regulatory authority assume that all mergers will function well. But we will see this is not always so.
On the other hand , it is important to keep in mind that concentration ratios by itself , does not necessarily means monopoly power. It also requires entry barriers to markets. So, after a merger in banking industry for instance, the concentration ratio may be higher, but if there is no entry barriers for new banks, there will no be monopoly power, but higher banking industry concentration. That was the case in Chile with the merger of the Spain based “Bank of Santander” and “Bank of Santiago”, which after the merger with the brand of “Bansander” got a 30% of local share markets ,;but because of free entry and the higher profits expectations , three new banks come into the consumer sector increasing competition. Otherwise, with heavy entry barriers, authority intervention throughout regulations and supervision, must protect markets efficiency and above all consumers, stopping mergers suspicious of monopoly intention.
The third issue concerns to the aims underlying the bid for another firm. The movie “Barbarians at the gate” with James Garner, shows that on this regard there is plenty of goal to give attention to. Another matter is whether you like it or not the whole movie. The organizational economy study this phenomenon , within the dilemma of the Agent(Firms executives or CEO) and the Principal (the owners or stakeholders).They either may have the same goal ,let say to maximize the firms profit , or they may have different goals. An example of differing goals? Enron, and Parmalat. When they (agent and the principal) have the same goal, mergers are aimed to firms `s objectives, such as to take advantage of new opportunities in fast grow sectors based on a cost leadership or a differentiation strategy. (A different story is the implementation of such strategy inside the firm). In this case, merger improve firms scale and efficiency, innovation potential because of lower cost , and consumers attention , which will allow the firm to take a greater share of market participation in terms of sales, profit or production. So, these are firms goals all its people agree on.-

Friday, March 10, 2006

Business men and theirs farewell to President Lagos

We all learn in school to read books ,but few of us learn how to read history. That is a desirable skills for anyone to be endowed with. President Lagos ,is one of those very few able to read quite well the history .He followed an economic policy , which aulthough it was not his choice, he make it his own by introducing it social values, like integration , fairness, and protection .
He believes in a society whose key traits are not the one given by the markets preferences, but by its people ¨s right. In other words , in Chile the new society style which was coming out after 1990,very much prone to american style, would based on a strong economy, but supported by social values . After all, Society well functioning is beyond markets behaviour.
This path meant a giant step forward for the prospect of further development in Chile , because following the European model ,it integrated economic growth with social compromises . On the other hand, because of its markets inspiration, open up the way to the so called “Third Road” economic model implementation in Latin America as an alternative to the neoliberal approach..
In Chile , few markets analysts ,believed on this approach to be successful. After all ,it was based on additional labor markets regulations, more fiscal expenditures on education , public health, and tax increases. Following the Asian crisis in 1997- 1998 , this policy mix ,implied barriers for the economy recovery so urgently needed , specially because affected flexibility for business decisions, and markets behaviour . There were doubts, mistrust and pessimism in the business community.. Sure, those changes were expected to affected the productions costs., profitability margins , employment levels, and investment.-
However, if the market size increased, the expected higher demand and the scale effects associated with it, would allow to confront the challenge of growth with heavier social burden, without weakening the firms abilities to sustain the creation of wealth. So, it began the Free Trade accord round all over the world markets. Then Business man realized, that the economic policy was not against them, but rather with them, and most of all , was based on them!. So when it comes to say bye, business men embraced him as the leader of a new deal between government and business.-
Following the Mexican and Canadian free trade agreement of early nineties,, it continued with the USA FTA, The European Union FTA (A plus category Free trade accord),China and recently India a probably in the near future Japan.-
Is it too good to be truth ?.Let looks at the data: The average rate of growth between 2000-2006 it is on the range of 4%, average unemployment is 8.8%, and annual inflation is on the range of 2.5%-3,5%. Could it be better?. Sure it could. Lower taxes for investment and saving, more flexibility in key markets would have done a better result.
From the long run perspective for development and growth though, what it count most is that in Latin America there is a new paradigm which is moving away from the “lost decades policies” of the eighties decades. This new paradigm take the best of market to combine it with social requirements, including modernization of the State and strong private sectors, capable of asuming traditional public investment such as highways, airports,ports . President Lagos was not the first, because he arrived to the Presidency when others already started off this path, mainly Former Brazilian President Fernando Henrique Cardoso.However, he took the most advantage of it.-
The lasting effects on Brazil of this symilar approach, was that the new President Lula decided to support it, quite on the contrary to expectations. So, it is also expected to be in Chile with the new President Ms Bachelet .-