Friday, September 28, 2012

The right policy mix: New evidence

The recent IMF report (September 27th ) ,says that many emerging and developing economies did well over the past decade and the latest financial crisis. This mean that these economies, spent more time in the expansion pattern, than advanced economies. 60% of this outcome, comes from better policy design. The current trend is to continue this upward pattern for emerging and developing economies , while the advanced economies trends go in the opposite direction. The world economy seems to be upside down!. What is the meaning of better policy design?.At first glance, it deals with the purposes of macroeconomics policies to secure sustainable economic growth, which requires the ability to keep fiscal expenditures and inflationary pressures under tight surveillance. However, the financial crisis of 2008 , is a strong evidence that it also includes the ability to react properly with effective policy tools, to deal with any kind of shocks, both external and internal . So, it is a set of characteristics which go beyond the conventional wisdom of self adjustment, based on a strong “knowledge endowment” of economic agents, or market flexibility. This last two might be considered as a desired conditions, but it is hard to find them fully disposable, so policy makers have to figure out the right policy mix based on lack of effective learning, some time weak political leadership, unpredictable economic agent behavior , policy decision lags and the like. By the same token, Government intervention might be useful when it is based on credible rules ( fiscal deficit/surplus limits, and debt limits,) .These days, economies have high rate of resources mobility, and anything which affect transaction cost for it (like discretionary Government intervention),turn out to be negative or less effective. Markets scrutiny and global economy more risk aversion, make what it is left to erase any option of effective impact for such policy. Therefore, better economic policy design take into account, the implementation of rules for both , monetary and fiscal policy as well. This is what emerging economies have done : Inflation targeting, flexible exchange rates and fiscal responsibility ,which allows a stronger policy mix with more space to maneuver to stimulate aggregate demand or supply , when the economy is weak, and to reverse when the economy is overheating . Latin American economies (some of them are within the leading groups of emerging economies), learnt those lessons in the eighties, and worked with them out since the nineties. There was a consensus about it, which was the starting point for a new path to get economic development .The “Washington Consensus” made it right to be the first step. However, it could not be perfect and some of its weakness (lack of social needs explicit priorities),were adjusted along the way. Thus “Socially Inclusive economic growth”, became the new paradigm which has allowed Chilean economy to get poverty down from 40% in the nineties ,to 14% in 2012 , or Brazil which got 16-20 million people out of poverty, increasing the middle class segment, widening market size for small and medium size business, and placing itself on the top five world economies. The same is happening in Mexico, Peru, Colombia ; Uruguay. On the other side, it is also important to keep in mind that better economic policy are not based on ideology but on pragmatism. The institutional framework and its improvement, matter. Getting rid of these criteria lead to the well known social bad : Inflation, poverty, informal employment , underemployment and no effective signal for private investment . PD : Greetings to our boss (Google) in its birthday day (september 27th )