Commodity price increases: A threat to global economy recovery?

While Oil prices have increased by 75% since February 2009, wheat and others agricultural products , have increased by 25% as well .Thus the question about whether it is a trend for higher future prices, signalling a better chance of robust economic recovery , or it is the result of the speculative forces about these goods, as long as they might be used as financial assets, deserves to be considered . Either way, it is a factor which might complicate the prospect for economic recovery. In almost all recent economic downturn, commodities prices have decreased.-
The fact that input prices increases add cost pressures upon the production process, firms have no other alternative than to pass over such cost pressures to prices. But in a scenario of global economic contraction, such option is not feasible to be applied without risking further deterioration on consumer confidence and consumption, because of a deterioration in their purchasing power .
As the economy get closer to its stabilization point, the next step concern not only about the health of banking system , but also about the way Central Banks will get back all the money they have added into the economy to prevent inflation. Just in case those commodity prices , goes along to even higher level ,inflationary pressures might force Central banks to act sooner than expected, risking to abort the economic recovery or at least to make it weaker.
Thus , there is the chance that the expected economic recovery might be either further delayed or deliberately weakened , because of inflationary expectations which Central bank should cope with, implementing the necessary corrective policy action, which means reversing the expansionary mood following September 2008.Markets expectations about it, reflects already in the long term interest rate which are starting to increase.
This situation imply a new challenge for policy makers. The magnitude of fiscal expansion, means that sooner or later it will be important for those countries which have followed that path ,to consider the way to finance it .Thus , tax increases are also on the sight once the recovery is well on its way toward a more stable output path.-
It seems that it will not easy to move the economy forward, while it faces simultaneously supply side pressures, tax increases at sight, and inflationary expectations on the rise. All of these has led to anticipate that even with a recovery in process, unemployment rates will stay high for a longer period than expected .-
How to cope with all of these forces?. Whether the problem so far has been to shape better expectations, once this expectations improves , the key variable will be Central Bank credibility to keep inflationary expectations ,under control. With over capacity still available, supply side pressures would have for the moment a ceiling .Therefore an important proportion of those prices increases, might be due to speculative reasons. Tax increases are well ahead of schedule, as long as economic growth will also improve the tax payment and collection . The proper timing to take the right economic policy decisions, will become crucial in the months ahead.-

Latin America and the current global economic crisis

Latin America economies and its policy makers , are like the rest of the world trying to figuring out the way to minimize the losses arising from the current global financial crisis .Some countries are in a better institutional shape than others. According to a recent “Stress time competitiveness index “, the top of the list about this test, includes Denmanrk (which scores the maximum 100), Singapur (96,4) and Qatar(87,93) . Latin America economies scored heterogeneously on a three segment scale :The first segment includes :Chile,(67,79) Brazil (55,05), and Perú ( 44,39) .The second segment includes :Colombia (35,41)and Mexico(30,75), and the last segment includes Venezuela (0,0)and Argentina(0,04). Besides the competitiveness index 2009 results for Latin America economies , are concentrated in two groups : the one within places 21 and 40 :Brazil (40), Chile(25) and Peru(37) which has just signed a Free trade agreement with China, and the ones within places 41 to 57 which includes Mexico(46); Colombia(51) , Argentina(55) and Venezuela(57).-
There is an obvious relationships between the two measures. The Latin America economies best suited for coping with the effects of the crisis, are the one better qualified in terms of its competitiveness index. It follows that competitiveness as a goal for economic policy, pay off when it comes to confront severe fluctuations in global economies, like the current one underway ,because it means not only better tools and capabilities to overcome its effect, but a lower impact on welfare level than otherwise as well.
The welfare level, decrease during economic crisis because unemployment rise therefore income fall, and at the same time , firms have both human and financial capital losses which decrease investment . As a result, resources must be reallocated to a different and more efficient uses ,which imply a transaction cost because it take time to identify those new uses. The more flexible markets are ,the lower this adjustment (transaction cost ) and the faster the economy gets back its recovery path. Similarly, robust institutions and proper economic policy ,support a better prospect for economic recovery.
However in the current situation financial the weakness of banking system , make the whole process more complex. It is not only to get back on track the real sector , but also the financial sector as well , to make possible the economic recovery.
Thus ,those countries in a better shape, have better chances to adapt themselves quickly to this new environment , reducing the expected welfare losses and moving faster to he starting line for recovery.-
The traditional approach of both expansive fiscal and monetary policy, has been followed by all of this economies. However ,the impact will differ among them because of different scope , different structural conditions(mentioned above),and different amounts involved. Latin America economies even in a better shape than in the past (the eighties ) to solve this crisis ,will hardly avoid an economic contraction for this year. Some estimation (LAEC) expects a GDP contraction of more than .-0,3%, while others international institutions expect -1,5% or so for this year, given the further deterioration of mexican economy.Thus, no matter the implementation of policy prescription and good competitiveness , it is unlikely for Latin America economies to get positive economic growth this year.

The meaning of economic crisis and free market economies

Part of the discussion about the current economic crisis ,is still based on upon who to blame for it. But the important issue goes beyond the one to keep accountable, it deals with the nature of free markets economies. Some Classical economists ,used to blame the capitalist accumulation behavior as a key source for business fluctuations and economic crisis, as long as it was based on credit expansion and its implications for higher interest rates. This has been known as the Austrian economic school of thought .On the other side, Keynes blamed the firm behavior which was production – instead of inventory driven. Thus, as soon as the market demand fell below expectations, firms were afraid to get higher than desired inventories ,therefore they decided to decrease production and unemployment increased.
The differences between both approaches, were in the implications. While in the first approach, crisis meant capitalism collapse and its substitution by a different economic model, in the second approach, government was called to save capitalism throughout active intervention in the economy ,using fiscal policy. It is obvious that in both cases ,the result is far from controversy. In fact ,it has been the controversy of more than a century.
What about the facts?: Private decisions deal with risk, which means uncertainty with a reasonable probability of control. In other words, it is in the roots of private firms and market economy ,the chance of failure .Individuals have within their DNA, even since fecundation , the seed for risky behavior .We learn either to walk, or to speak taking risks. There is no other way to understand human kind progress, without a comprehensive approach about risky decisions made by humans. The problem is that we usually do no count that much the number of success, as we do with the numbers of failures . Just to give a current example, the robot machine actually trapped in Mars ,is part of the risk of getting a better knowledge about that planet , the same way as it was the tragedy of the Challenger. But above all, every step backward ignite a stronger step forward. The free market economy is not different from that pattern.-
Markets seeks risk as the natural path for efficiency. The risk level, is a filter for a better (the best)use of scarce resources. Of course, it should be important to have a limit for those risk which becomes systemic ones , like those connected to the financial sector. However, no matter that limit, and technology progress free market economy, will always stay on the edge of risky options .
Thus, the policy option it is not to avoid risk, throughout heavy regulation ,but to prevent its consequences before it get beyond the maximum tolerance level. Institutions, become relevant to deal with the range of that tolerance as well, and proper policy instrument complement them.
So, who is to blame for the current crisis?. The blame for this crisis is also accountable for the greatest success of human kind. We all should learn there is no way that within a freedom framework, we can avoid the risk of failure. But that risk is worthy ,if we still can count on the second chance to fix it. Thus freedom justify itself , just because it mean an additional opportunity to try what it make the difference between wealth and poverty, between right and wrong.-

Central Bank role and the current global economic crisis (II)

An interesting paper “Financial Stability frameworks and the role of Central Banks: Lesson from the crisis” . Erlend W Nier IMF, april 2009 (Wp/09/70),explores quite accurately the implications for Central Banks about including the financial stability parameter within its policy reaction function.
So far, it is usual for Central Banks to consider within its policy reaction function ,only real parameters, leaving aside those which are connected with the financial side. Thus it might be the case that Central Banks actions ,goes in the opposite direction with financial innovation requirements . For this matter, whether Central Banks are going to be involved as the Lender of last resort(LOLR),it seems appropiate to improve its financial oversight of financial institutions, based on four considerations:
· Assessing solvency: Central Banks will be call to lend when the markets credit´s channels are not working because of long run uncertainty. The only way to get such a knowledge ,is throughout permanent supervision.-
· Gauging systemic impact: Access to supervisory information, allow Central Banks to have the ability for balancing the systemic impact that institutions under financial stress, might have.-
· Moral hazard arising from the safety net: Financial institutions might feel secure enough to go beyond the boundaries of long run systemic risk ,the market take into consideration. Thus ,there are strong incentives for moral hazard ,that the Central Bank is interest to regulate keeping close supervision about prudential liquidity levels.-
· Potential loss of credibility. Central Banks faces potential credibility cost from any mistakes handling the crisis. Thus It is not a “free lunch” path for Central Banks ,to go deeper on the financial root of such crisis. The risk of Failure, would impose high transaction cost for getting its message across to shape future market expectations. Therefore ,it is not only on Central Bank interest but ,on market interest as well, to have a better supervision and regulatory framework on systemically important institutions, for Central Bank to work on a prevention based approach.
It follows ,that Central Bank support for financial innovation goes hand by hand with a better and more active prudential regulation framework to the path such financial innovation might take. More so, when the Central Bank includes in its policy reaction function, the ratio of private debt/ GDP ,to decide to increase or not interest rate. As long as it has a better assessment of financial markets conditions, the better the quality of its judgment to decide the magnitude of interest rate changes, designed not just to get back prices stability , but also to protect financial innovation going on as an essential variable for long run economy growth .
Like any economic policy option, there are benefits and cost associated with this Central Bank closer to financial market .The main benefit ,comes from the lower output variability arising from stable financial conditions , and its lasting impact on welfare and efficiency. What about the cost ?. That is for another article.

Central Banks and current global economic crisis (I)

While the discussion about the current global economy crisis goes on, there are tough evaluations about the implications of Central Bank decisions concerning interest rate, in the previous years (2001-2005). In particular, the effect of a longer than necessary easy monetary policy, applied in the USA economy after 2001, and how it ignited the housing bubble. On this regards some annalist have suggested that Central Bank approach to economy policy, is driven in such way , that regardless of macro economic conditions, this institution seek to support the next bubble, rather than its traditional stand on inflation growth and employment.-
On the other side , the tools available for Central Banks might also be under scrutiny to prevent future crisis. The connection between price stability and financial stability, has not been addressed to the full extent of its significance for economic policy decisions. The normative macroeconomic and rules for policy making (Taylor Rule), is just one side of the problem, as long as it also matters the missing variables from that equation ,specially in the case of financial variables such as the ratio of private debt to GDP. To consider this parameter it would mean that as long as inflation ,and gdp above long run trend justify higher interest rate , so it would when the private debt / GDP ratio, increase above long run trend . An adjustment in interest rate, is necessary to prevent falling into the area of higher systemic risk . In this case ,given all other variables , this deviation from long run trends, might justify an increase in interest rate early that real fundamentals might suggest, preventing the bubble to go out of control.
The question about the responsibility of Central Bank (The Federal Reserve) in the housing bubble will not be easily settle down either. However, it is important to keep in mind that price stability is not disconnected from real variables performances, such as productivity level. Let assume that there is no housing bubbles, because people has the proper information to anticipate rationally the final outcome of such a bubble. Thus, if productivity increase , it means that any demand pressure on prices, is counterbalanced by supply factors, allowing for better price performance within the Central bank target than otherwise. In fact, the productivity level in the USA economy between 2000 and 2008 averaged 2,5 %, such that it was possible to have low interest rate longer than expected .Inflation started to be an higher risk beyond the mid of the year 2000 , not just for demand factor but because of supply shock .(food prices and oil prices increase).-
On this regard , it might be plausible that when Central Bank (USA), started to raise interest rate at a stronger pace(2005- 2006), it was not that much late to do so, as long as inflationary level is concern , because productivity was increasing. Given the way the Taylor rule is defined ,which excludes financial variables, then the key problem might be about the proper specification of the rule.In other word ,it was a misspecification of the tool which mislead Central bank not to raise interest rate stronlgy before when private debt was probably moving above its long run trend. -

Innovation and current economic crisis (II)

Schumpeter said ,behind every economic crisis ,there is also historical forces explaining them , such that a better understanding of its causes, requires models more complex than those based on a partial equilibrium , which do not includes qualitative variables . Thus, in the current situation, of global economic crisis , the historical factor it might be related to the anticipated transition from the post industrial economies, to the global economy. Alvin Toffler ,Lester Thurow Robert Reich ,Guy Sorman,Paul Krugman , explained quite well where the post industrial economy was moving to. However perhaps the missing point (as far as I can recall) ,was the fact that the risk tolerance were different ,as the global economy replaced the post industrial economy order. Therefore a key difference between them ,aside from the market size, and the regulations requirement , is the risk preferences underlying market decisions . While post industrial economies had an higher risk propensity, global economy has a lower risk propensity. Just to mention three areas where these differences stand quite clear, and has moved the global economy away from its initial equlibrium :
a.- Environment protection .The post industrial economy did not give too much attention to the Kyoto protocol, and others call for better environment polices, quite the opposite to the importance that global warming has on the global economy agenda a new arrangement for global environment protection.-
b.- Automobile industry technological profile. The collapse of traditional automobile industry, goes side by side with the old standard for environment protection, as a constraint for technological purposes. As the constraint has changed at the global scale, so it changed the technological profile, which the Big three were not sufficiently prepared for.-
c.- Global Financial flows. The current global economic crisis is the result of a perverse mix of variables, policies and events ,but it has a single element behind : The preference for risky behaviour ,essential to the traditional post industrial economy, which is the path the western industrialized economies, chose to make its way to the era of economic prosperity in the XX century. There was not constraint on energy sources, human capital resources ,raw material resources, and environment resources. The global economy which means the virtuous mix of different economic policies, to support global markets, take unregulated financial flows , as a threat for growth rather than a blessing . The argument that such flows act like a filter for bad domestic polices design, goes against empirical evidence since the late nineties ,which shows that bad economic policies effects, might stay quite a while with unregulated financial flows, without preventing its correction .-
Aside form these historical factors ,there are industrial variables related to business decisions to innovate production process , within the framework of the so called “creative destruction” ,which imply a downward shift in the production fucntion. Economic cycles are related to specific development on the industry , such that when a new technology is applied ,it destroy the old one; and it allow the arising of a new cycle. initiating the next cycle. The implication for policy makers, goes on the side of not interfering these process ,but supporting them with polices aimed at keeping the right incentives working within a flexible framework.-

Innovation and global economic crisis(I)

Schumpeter made a case connecting economic cycles, with the optimizing nature of industry behaviour .Behind every economic crisis , or any period of economic progress, lies the dynamic of industry specially when it has lost its equilibrium path, which it happens with the end of an innovation cycle .How is it possible for an industry to miss the equilibrium path, and as a consequence to get the whole economy into a depression ?.
Within the four stages of economic cycles, economic contraction, depression, recovery and expansion ,there are different forces which should be considered on its own, somehow independent from one another. In other words, what it is relevant to explain an economic contraction, it might not be so to explain the economic recovery due to the cyclical life span of innovation.-
Industrial revolution, railways disposal , availability of steel and electricity, the assembly line , and information age , all represent innovation cycles throughout economic history , associated with an economic contraction . Industry must adapt to the new situation which is costly and time consuming. Thus, to be out of the equilibrium path for an industry ,means to be outdated with the new developments and it represent the adjustment cost to the impact of the innovation.-
The traditional automobile industry collapse, is a good example of these fluctuations due to the innovation cycle .Therefore, a key question which apply to the current global economic crisis is : To what extent , this crisis has the seeds of a new age of global economic expansion?. The answer to this question is not a trivial one, because it deals with the tools used to overcome this crisis . If they are not efficient enough, it will not be an efficient way to get out of this global economic adjustment, as long as it might abort those seeds before they come out to the light of prosperity.-

. Fiscal stimulus package: How effective can it be? (II)

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Every country has different economic cycle pattern, which influences the economic tools to apply .New available macroeconomic models, integrate both fiscal and monetary policy, to evaluate the impact of a joint interaction to get the economy back on the stable growth path once a shock occurs, either from demand or supply side. On this regard, it appears a new element due to the volatility trade off. Thus, Lower output volatility imply higher inflation volatility. It follows that current fiscal policy packages which are mainly aimed at stabilizing output, imply the risk of higher inflationary pressures on the long term.-
Therefore ,Long run considerations , can not be ruled out within the framework of fiscal policy packages design when it comes to get over with such a shock .How significant can fiscal policy be to improve Productivity and competitiveness, is a good measure of those long run considerations included into the process. Short run impact of Fiscal policy, is stronger with infrastructure as long it deals with capital expenditures which has a strong multiplier effect. Building bridges, railroads and high way maintenance ,are positive for employment and growth . However, it is also feasible that within the public administration some conflicts might appears, due to the conflicting interest between managers with political ambitions, and government with political pressures on the rise about increasing unemployment levels affecting the channel of expenditure flows.
On the other side, Economics and politics can go along side by side quite well , when growth is the engine for financing redistribution, but when the economy get into recession , the redistribution demands increase and politics fall apart from economy. This imply a lesser degree of effectiveness of fiscal policy impact on growth ,as long as uncertainty because of political variables, become higher in such a situation . It might the case that the economy recovers despite fiscal policy packages, and not because of them.-
Monetary and fiscal policy coordination is specially relevant, when there is a higher risk of heavy losses on welfare levels, due to the magnitude of the economic contraction. This coordination, means a more efficient policy framework ,and a better controlled impact upon real variables. Strong fiscal policy reaction to an excess of revenue, induces a softer stand for monetary policy , (output and employment can keep stable ,and volatility is low),whereas a weak fiscal policy reaction to an excess of expenditure, imply a stronger monetary policy reaction(output and employment become unstable, and volatility is high). The issue deals with the trade off between output growth and price stability. A different matters arise when it comes to recession, when both instrument must be targeted simultaneously to lift up growth expectations and employment. More so, when monetary policy is trapped in a kind of liquidity trap which requires a strong financial policy to get the most from all the instrument applied .In a recent article, R Barro, (Wall Street Journal),analyzing the current situation of the US economy, suggest that the chance of getting the US economy into a severe depression is 20% .It follows that the combination of these policies in the US economy , have been able the get a 80% probability of avoiding depression, making possible an economic early recovery in the second half of this year, and a stronger one on the year 2010. Probably a better financial policy, would make that probability(to get away from depression) higher, and the prospect for economic recovery already at sight.

Fiscal stimulus package:How effective can it be ? (I)

These days of economic crisis, Governments have become the only source of expenditures. Consumers and firms alike, are evaluating its future prospects based on their markets behavior expectations , concerning employment, production and inventory respectively. Government looks like it is above those concerns, because it does not face such a constraint for its actions , other than politics one .From time to time ,it get the evaluation of voters. Thus ,it becomes more a matter of political judgment , the way Government should behave in time of crisis .Economic theory provide the necessary tools to understand the economic implication of this political judgment ,which by no means solve the issue of effectiveness of government expenditure.
Keynesian macroeconomics worked out these model of political foundation for Government expenditures, with the multiplier concept which refers to the expected effect that an increase in government expenditures would have on aggregate output. Free of transaction cost and inefficiencies , such expenditures would increase product by a certain magnitude depending on the level of saving. At its basic approach ,it refers to consumer saving . The lower the consumer saving ,the higher the impact of government expenditures. Based on this approach ,most of Governments world wide, have implemented fiscal stimulus package to overcome the current global economic recession with different characteristics and magnitudes as a percentages of GDP. Just to have a perspective ,with the parenthesis indicating the magnitude as a percentage of GDP, the list of stimulus package start with China (15% ),USA (5,8%),Italy (4,3%),Germany (3,1%), Chile (2,8%),Canada (2,0%),Japan(2,0%).(Source http://www.emol.com/).
An important issue deals with the effectiveness of Government expenditure ,and the requirements for a strong impact on aggregate demand. Leaving aside for the moment ,the transaction cost (bureaucracy),and the issue which it deals with conflict arising between manager and the public organization owner(government ),concerning the implementation of the program, we focus on the design variables:
1.- While an economic crisis goes along, at the bottom of it, income goes down so it does consumption and , because of precautionary behavior saving goes up, therefore the impact of government expenditure, might be less than expected. It also follows that tax cuts are helpful, while it goes quickly to the markets expenditure flows.
2.- From a short run perspective ,Infrastructure expenditure are on top on the list, because it goes direct to markets expenditures flows. On the long run perspective , education and health care expenditure programs, have a positive effect on productivity ,helping to keep under control future inflationary pressures.
3.- The timing upon which government expenditure is implemented do matter. On this regards, either, It goes ahead of the market or, it goes behind of the markets. The most effective Government expenditure programs, are the ones on the first group ,because it acts before the precautionary behavior takes a stronger stand among consumers and firms. Therefore, It is not just about the magnitude of resources involved.

Beyond Davos 2009:The rescue of Global economy

It has been an usual comment these days, about that Davos gathering, did not provided answers to the current global economy crisis. However, what it started as an academic forum ,can not all of the sudden become a platform for economic policy implementation. Taking a broader view , Davos probably helped to pave the way building consensus, for what it is the next meeting on April this year, which it should be really aimed at provide some responses from finance ministers working on solutions since last December the 20th.
What is it the point?.The current global economy crisis seems close to be out of control, as far as global economy policy respond is concern, Governments and monetary authority becomes frustrated with Banks behavior reluctant to lend when risk aversion is very high, no matter that some positive signals( although weak ones)of economic recovery, can develop toward the end of the fourth quarter, as long as all tools are focused in the right target at the right time. Besides, expectations, confidence and trust from markets and consumers, go hand in hand with economic policy implementation which imposes the need for strong leadership. However ,as others analysts have already emphasized, for this outcome to happen, it is key to have clear what the relevant variables are, and what the nature of this crisis is about .
1.-The scheme of ”do something approach”, does not mean to do randomly anything . Whether the goal is to get this economy recession shorter, before it becomes a more severe depression, policy action must be specifically focus on those target with the higher and faster impact on the economy prospect for recovery. -
2.-This time ,it is a matter of global economy recovery, which means coordination must be a plus, when it comes to implement policy responds. It is not just about the US economy, given the fact that there is stronger interconnection between economies, and there is reluctance from American consumers point of view, to be the ones to lead the recovery.-
3.- Most of the focus seems to be orientated toward the demand side of the equation. Well, policy makers can not leave the supply side on the second place. This means, that the focus should be on solving first the financial weakness of banks(the whole financial system) which still have in its balance sheets bad toxic assets, thus affecting their ability to go out to lend to those who can be ready to respond to new business opportunities , arising from demand variables. The nature and core of this crisis, is still a financial one.
4.- The faster the financial sector become the engine it is used to be, the better the chances to have a positive impact from the demand side stimulus package, therefore the higher the probability to have an economic recovery sooner . Right now the financial side of the equation , is at the least of its power, if not it is still off.

The microeconomics of politics

It has been said by different news media ,how important were new sources of communication and information technology during the 2008 Presidential election in the US. Cell phones, e; mails, black berry, Blogs , You tube ,and web pages all of a sudden, has become discovered by politicians who need to get closer to voters ,but very often they fall short of keeping it just like an unfulfilled promise . A recent opinion research done by the ONG e-leccion.net (http://www.e-lecciones.net/) ,evaluates the increasing importance of these news source of communication and information technology in elections in Latin America. Four presidential elections held in Latin America in the year 2006, were analyzed and compared with the elections held in Spain, concerning the influence of information technology, and the results were obvious indication that these new sources are replacing traditional ways , or at least they complement them.
The following table(source:e-elecciones.net) , shows the higher share these different and new source of communication ,have on the preferences of both voters and politicians to get closer to one another:

Traditional means like TV ,decrease from 66% to 58% of preferences, radio and news paper stay stable instead. When it come to evaluate the real value for Presidential campaigns of these new

sources, E;mail and web pages got the first place, blogs and messages services ,came to a second place.-
Is this a new trend ?. Microeconomics might help us a little to find some answers because it is all about the allocation of time and time is a scarce resource .The indirect cost (time value),and the direct cost (Income value), becomes the unique constraint upon which consumers must get the optimum input combination to maximize utility . Both Time constraint and income constraint, becomes the limitation to take into account, when it comes to understand consumer behaviour . So it happens with politicians behaviour, which are the equivalent of producers , or the supply side of services, who must get in touch with theirs customer (consumers) preferences (Promises demand), throughout a “production process” (basically campaign Promises),which requires inputs and technology production, subject to the time-income constraint consumer use for maximization purposes . It might also be the other way around, such as the supply (both original and smart politicians),creates its own demand. (The Say law applied to politics),but it does not make any difference about the nature of the problem to deal with. Politicians like consumers ,are both short of time . Therefore, they will prefer technological means which save time, and besides it allow them to get closer than otherwise because that is part of the business they are in. Thus, it is also about emotional intelligence ,on a broader scale but simultaneously based on the one on one connection , which politicians can not live without ,either to get elected, and to get good evaluation on opinion polls as well . It follows that the new paradigm goes like this: The closer people feel their leaders , the better they evaluates them.-

Latin America and global warming (II)

A recent report by the United States Geological services, published by The Washington Post (http://www.washingtonpost.com/) on December 25th ,indicate how severe the global warming problem is expected to be, toward the end of this century. It says for instance, that the global sea level, will rise by 4 feet , instead of the previously 1,5 feet estimated .Besides it states that previous research, might underestimated the real consequences of global warming, concerning climate shift. What is the best strategy for less developed countries?.
Poor countries should implement a trading scheme, for dealing with firms which contaminates the environment(asides of other instruments such tax incentives) . This scheme is like the microeconomics side of global warming ,and works as a secondary markets, which trade green bonds , issued by those firms which protect the environment, gaining a credit for it, because it has market value. As long as that bond get traded ,its value goes upward because those which contaminates want to buy it , making a sort of payment for the damage on the environment .
The microeconomics of this scheme, works on the basis that clean environment, has become a scarce good, which therefore has a price that market is willing to pay for. The more severe becomes the consequences of global warming, the more valuable those assets which set a price to such a consequences will be .-
1º C increase in temperatures ,is set to decrease growth rate in poor countries by
-1,09%,and up to -1,58% - 2,01%,considering a broader time span ,because of lagged response in productive sectors due to this temperatures changes .(NBER. June 2008 . WP 14132).-
The speed of adaptation make by itself another problem, because the effect of temperature shocks ,strength over time rather than diminish. There is little evidence, that poor countries adapt and eliminate the negative consequences of global warming, faster than rich countries do .Just to give a deeper insight ,1º C higher temperatures in poor countries is associated with 2,37% lower growth in agricultural product ,close to 50% of GDP in poor countries ,(0,34% in rich countries ,less than 10% in rich countries),and 2,44% in industry and a -3% drop in investment.
On the other side, higher temperatures has a direct effect on political instability, which in turn affect economic growth .This is so, because of expected riots, public demonstration and violence, due to the sharp change on productive conditions and therefore survive chances for populations segments, heavily dependent upon agricultural products. In fact, the real side consequence of 1º C higher, is a 1% falling in per capita income. Thus low speed of adaptation, and greater impact on income level on poor countries than rich countries make obvious what the best strategy is for overcoming the effect of global warming: Poor and Less developed countries , must have their own strategy to cope with global warming impact. .

Latin America and global warming (I)

A recent World Bank report concerning global warming, assumes that Latin America countries have a very good chance to take the lead among the third world , to pursue a strong strategy to reduce its carbon dioxide emissions, actually 24% above world average .Even so, between 2005 and 2030, the expected carbon dioxide emission by Latin American countries, will be up by 33% above world average as well. What are the implications of these results? :
a.- This percentages , are a warning about the importance of working on a coordinated strategy to change the dependence from traditional against environment conservation, sources of energy . With such a huge reserve of natural resources, available for non traditional source of energy (gas, solar and wind energy ), Latin America has the key raw materials ,to move forward regarding those friendly environment, alternatives strategies.-

b.- It is worrisome that with huge world forest reserves (Brazil, Amazon),which consumes and therefore reduces dioxide of carbon emissions ,the pace of emission , is higher than the pace of reduction of those emissions. It follows that deforestation is taking place, at an unsustainable rate. Thus, the first component of such strategy ,might be to take control of the deforestation .-

c.- Solar and wind produced energies, should be massively implemented at local communities at first, to spread it out at larger cities later, wherever it is technically feasible . Tax incentives for producers on agricultural activities to works with these source of energy , and residents on urban areas ,and local development subsided programs ,based on the implementation of these source of energy ,should also be considered promptly .-

d.- A recent paper (Climate change and economic growth: Evidence form the last half a century ,NBER WP 14132,june 2008 by M. Dell ,B Jones and B. Olken),suggest three important conclusions:
Higher temperatures reduce economic growth in poor countries ,but it has little effect on rich ones.-
Higher temperatures appear to reduces growth rates in poor countries, rather than just the level output.
Higher temperatures have wide range effects in poor countries, reducing agricultural output, industrial output, investment and increasing political instability.
e.- Considering the conclusions mentioned above, the right strategy for Latin America countries, is no longer to wait for richer countries to take the lead on solutions about climate change, on the assumption that they have a higher share of problem to blame them about, because they will have less affected by it ,once it becomes critical.-

f.- Every Latin American citizen should also be part of a new friendly environment culture, just like Europeans have done for quite a while. Educational programs concerning the importance of protecting our own environment ,instead of waiting for other to protect theirs , will add up a better outcome in terms of controlling all kind of threats risky enough for the environment conservation .-

Market signals and market failures (II)

Let assume that the value of the stock in a firm depends on observable signal (s),and unobserved random variable (e).Thus ,the value of the stock is given by v= s + e. Therefore the effective (expected) price is p = v .The better the signal the higher, the price. Besides, price itself must include all the information available.
Now consider a market with two types of investors: well informed and uniformed ones. Those uniformed investors , keep attention on prices to get the signal they need. In such a case, the market itself provide all the information about the value of the stock and its equilibrium range.(Varian ,1978).-
The problem arises because it is costly to get those signal, and the rating agencies have the task of reducing that cost .So, informed investor will pay the price (hiring financial advisers, consultants ,lawyers, accountants ), but , uniformed investor, who I assume do not have the same capability to get information on their own, depend upon the rating agency to make the proper decision. This heterogeneity ,will lead to information asymmetry with not market efficient equilibrium, as long rating agency on the other side has a profit seeking strategy which is a quite different goal , respect to the one most important for investors: to provide risk evaluation.-
Whether the rating agencies fool or mislead uninformed investors, the outcome will be inefficient allocation of resources ,because their portfolio will have riskier assets, than the investors consider representative of their preferences for assets risk . As a result, market might get into a risk bubble whose final outcome is not other than downward price adjustment once it burst, and both the investors and banks which support them with finance assistance , end up worse off. The raring agencies, might not be in such a trouble , given the fact that they manage a variety of portfolios none all of them equally risky.-
The insurance industry, is also a good example about the implication of information asymmetry .When a customer get an insurance for theft bikes ,the company has no way to make sure that the customer will behave properly to avoid his /her bike, to be stolen afterward the insurance has been signed up. As a result, the insurance company find itself losing money. In this case, to avoid such a loses ,insurance company offer deductible policies .Consumers pay a share of their insurance, which induce them to have a more cautious behaviour .However, what is it the optimal level of care on personal behaviour? .If consumer get too cautious, it is not worth to waste money with insurance programs , and on the contrary if it get too risky, there is no cost free insurance policy. Thus ,even with an average behaviour consumer end up worse off because they end up paying for higher risk than they effectively engage on.-
What all of this means ?. It is not impossible to prevent bubbles developing and its outcome , as long as there is information asymmetry among market players which is not corrected at the right time .Thus, to avoid such outcome, it is important to have the proper institutional setting to make sure that information asymmetry does not mean a systemic risk threat. This consciousness, will imply regular oversight about the risk level the system is undertaking. It follows, that full information about the quality of assets involved ,is key on this approach as much as it is necessary a review of Basel II accord.-

Market signalling and market failure (I)

There is a discussion about the implications (the day after),for the future of capitalism , of the current financial crisis. There is the notion that whether it was a failure ,it was only a Government one. This way ,seems for some analyst specially in Latin America, the best one to protect the future of capitalism .
No matter the intentions ,the fact of the matter is that both markets and Government fail. Government has failed systematically in Latin America , with some exceptions, to provide better health care , education and environment protection and it does not seems to be a big deal for politicians, who are the main responsible in charge of Government. Markets have a risk propensity which is in the nature of profit maximization. For that purpose ,it is a necessary condition an institutional framework to clear the way for price signals ,basically in terms of the quality of information . Otherwise, those signals do not have the proper information for both the best decisions, and efficient allocation of resources. In such a case, welfare level fall. as a consequence of the wrong ,inefficient decisions. Ackerlof called the market for lemons. In the lemon market model ,economic agents have no way to get the information about the quality of the good ,except by observing the average quality available in the market. In the current financial crisis, that information did not came properly from the risk evaluation agencies .Besides, the market can not correct by itself such a problem, and the result turns out to be to acquire a lemon. The problem in this case, was that such huge amount of lemons exceeded the necessary to heal the cold.
Markets fails to overcome such a distortion ,and like a computer program with a virus into its software, it will a result but it will not be the best one. Fail also means that market are unable to solve, what it is other institution failure, in this case government. This the way capitalism has worked all the way since the eighteen century .The empirical evidence suggest that such a failure probability, can be reduced ,by optimal regulations based on efficient institutions.
Capitalism like democracy ,are not among the best alternatives ,but they both work among the whole available . They are the first best, compared to other combinations such as dictatorship and state controlled economy. So, capitalism does not need distortions about the nature of market behaviour , to get protected from those who do not believe in markets forces to create wealth.. It needs a clear understanding about the way it works and the role of information ,its quality and institutions design with a clear sense of what it is expected from them .
Markets also fails in a variety of situations, standard in the microeconomics books . Let just mention public goods, asymmetry of information(insurance industry), externalities, common property goods and the like. In all those failures ,markets can not solve by themselves ,what it is wrong about price signalling (given an institutional framework) , and that is the reason because they fail to get resources used in the best alternatives to improve welfare levels. Markets works on the assumption of perfect information , homogeneity ,zero transaction costs and values (institutions),on the side of producers and consumers. Most of these conditions are hard to find in real world, therefore on the aggregate, it means that only after trial and error , markets get a higher welfare level for society. Thus, after this mess melt down, it will become clear the relevance of better regulation ,not necessary more, and better global institutions , for global economy to get into the path of growth and prosperity.-

Current financial crisis: A preliminary approach (II)

The current financial unstable situation will last some time , as its effects on the real economy will become evident in the months ahead. However, much of the discussion about its long lasting impact has already begun. On this regards, there are some key important issues which might be important to keep in mind:
a.. This crisis is not the first ,and it will not be the last one ,following the capitalism rules.. In fact, crisis are at the core of trail and error characteristics of markets forces. Since 1970 up to 2007 there has been 124 banking crisis (IMF WP 08/224. Systemic Banking crisis: A new database. Laeven and Valencia 2008),almost 40% of them concentrated between 1991 and 1995..There has been 208 currency crisis, spread out in different periods ,although 58% of them concentrated in the nineties decade (1990-1999). Therefore ,while the economy becomes more globally interconnected, crisis represent a sort of adjustment (trial and error) to the new global economy framework, whose main characteristic seems to be more risk averse.-
b.- Despite the Asian economies crisis of 1997, there has not been a clear understanding about the way global economy works. In the past, domestic economic unbalances in industrial economies , mattered only for internal design of their policy stabilization . Its international effects, were restricted to the ability of the coordination efforts of few countries whether it was needed . From now on ,and specially in the bigger economies, domestic unbalances matter for the global economy more than it was expected , thus each economy must consider its own means as the primary source of expenditures, specially because the stabilization effort framework, must consider global coordinated efforts ,which impose additional transaction costs to the necessary adjustment .
c.- Deregulation works better with oversight policies. There is an optimal level of regulation, beyond which economic growth become slower and at some point it start to decrease. It follows, that there is a decreasing relationships between regulations and economic growth. However, deregulation by itself is not enough to improve growth expectations. In those nations with important economic power , it requires better supervision policies to cope with global systemic risk . This time , the IMF (heavily criticized during the Asian economies crisis), passed the test, so it is properly qualified for a broader role on the global economy. However, a key point is that when the IMF speak, the world economies should listen.
d.- Capitalism as such is far from being responsible for this crisis. Based on its instinct for risk, it depends on the risk filter of those entities aimed at improving the information flow for better price signals and a more efficient decision making . Those entities, should improve their management standard otherwise they will not get back market confidence. On the other side ,it is a fact that market fails, but those fails are related to weak institutional framework. In this case, it is required a better global financial framework .The global economy ,can not depend either on one economist or one institution, to anticipate crisis ,it seems necessary to have a more often and transparent analysis of global economy condition .-
e.- Government has the right to intervene as the lender of last resort. In other words, it must face its failures. It can not run away from them. Socialism instead, is based upon restricting people freedom in exchange for expected fairness, which means that the State is in charge of everything , most of the time without excuses .Thus, the real issue is that Government as well as markets fails. Both failures can not be corrected without Government action.-

Current financial crisis:a preliminary approach (II)

Since mid September, the financial markets has been under severe stress , due to the uncertainty arising about the lasting impact of the mortgage sub prime markets default in the US..
Although expected for some , and unexpected for others (unfortunately the most), this crisis ( the most severe since the last depression (1929), will teach quite a lot of lessons concerning key variables concerning global economy equilibriums.
Economic History is already rolling on , and the analysis about the implications and consequences of this default, crisis has already begun. Thus ,it is important to review the underlying causes of this situation ,as a first step before going into deeper implications. Causing factors, can be traced back to both macroeconomics and microeconomics.
Macroeconomics factors :
a.- Liquidity surplus in the banking system due to lower interest rates starting in 2001, fuelled later into this decade by “oil dollars” ,which Banks (investment and commercial ones), had to recycle into the markets, which allowed a massive allocation of mortgage loans ,to those considered by traditional financial standard , risky customers, the so called NINJA segment (No income, no jobs, no assets).
b.- Twin deficits: current account and fiscal deficit, which implied sooner or later an adjustment either by dollar depreciation , or expenditures reductions throughout interest rates increases. This unbalances ,were considered since the mid of this decade , for many organisms (http://www.imf.org/ ) ,and economists (http://www.rgemonitor.com/ ),to be a source of risk for global economy.
This initial condition(a) , created the first round of effects on the demand side, specially housing markets and other goods as well. As demand for houses went up, so it did its prices, which reinforce the second round effect, because this higher prices (between the year 2000 and 2006, houses prices doubled), backed higher demand for loans and credits, to increase consumption expenditures.
Microeconomics factors:
a.- Deregulations in the Banking industry ,which did not take properly into account the systemic risk , as a prudential restriction.
b.- Financial Management models, based on short run profit, therefore high risk portfolios .
c.- Lack of scrutiny, on the side of those organism aimed and acting as a risk filter for the whole system to be accountable.
d.-Speed of financial innovation which left the existing regulations outdated.-
This microeconomics factors , were the incentives for the creation of new financial instrument backed by those Ninja mortgage assets(collateral), which were rated as a secures ones, such that investment banks trade them all over its world branches and commercial partners. Along the way, financial gains artificially increased, and paper made wealth , looked as a substitute of real wealth, therefore the bubble was on .
As it is well known among economists ,macroeconomics has its microeconomics foundations .In this case, it meant both conditions matched to one another, to amplify the magnitude of the impact on aggregate demand. Thus ,It was a matter of time, for this bubble to burst .

Latin America and the USA economy:Looking ahead of 2009 (II)

The nineties were years of a very active economic compromise between the US economy and Latin America ones. NAFTA, (1991)which included Canada ,Mexico and the US was a breaking point in the long run trend of dependency , as much as for the first time in history , Latin America was considered a trustable official commercial partner, allowing these economies to waking away from the traditional countries - dependent status. This time was up to the Latin America economies ,to take advantage of such trade opportunity, with lower tariffs and better access to a high income markets . Unfortunately, it was not that easy to get the necessary conditions for growth. Mexico in particular, had to overcome its second shock on the road(the previous was in 1982). The “Tequila crisis”, in 1995 proved as strong were the new commercial ties between these partners. Former President Clinton Government, supported Mexico with an economic aid package (U$$ 50.000 millions),to solve the financial crisis in that country.
Thus , back to the nineties, the US was a genuine commercial partner , to go further along with free trade ties in the years 2000 as planned. As a matter of fact, it made its way through with smaller economies like Chile, Uruguay, and Peru .However, for all these cases there was a new framework. The year 2001, set a new parameters for the main concerns in the US .No doubt about it. Commercial ties fell down on the list, to give more attention to security matters.
Latin America also changed after 2001, because of the whole debate about what to do next the year 2001(the Terrorist attack on WT center in New York),it could stand politically on their own. As a result , in some countries there was a return to ideology ,which although it represented a new leadership profile, it was not on the right side of history. Free trade and investment , were no longer the issues .State intervention in the economy , (widely proved by empirical evidence to be insufficient to overcome inequality, poverty and corruption),became a threat , rather than a complement for private investment , undermining the foundations for economic growth. On the other side, there were the pragmatic economies , those which want to look up for a better future of prosperity based on private initiative . Therefore, these days there are two lines of approach to what Latin America economies stand for. However, it stills prevail some common purposes about integration, energy shortage and regional trade. Anyway ,Latin America has become more independent because of:
a: The high prices for its raw material export, supporting investment and growth (average 3% in this decade)
b: New strength due to its new macroeconomic setting,(lower inflation, fiscal responsibility, better institutions (autonomous Central Banks), freer trade with a new partner ( European Union),surplus on its external account(average 1,5% (roughly) of GDP on this decade).-
c.- Remittances from abroad which count as an alternative source of capital, reducing its exposure to external debt.
So, what lies ahead of the year 2009?.It is not just about trade and investment, it is also about education, innovation ,entrepreneurships and technology programs. Social needs go beyond the traditional approach of “give them a fish”. This time, it rather goes as how to get a fish.

Latin America and the USA economy:Looking ahead of 2009 (I)

Like most of the fellows of my generation ,I grew up with the notion that the economic condition of Latin America was strongly influenced by the USA economy outcomes, as the main engine of regional economic growth, but also as the main source of Latin America economic dependence . A big deal about it, (I mean the dependence issue ,not my belief), was the motivation of politicians and economists to pursue a different model of economic growth, the so called “Import substitution strategy”, applied since the fifties aimed at reducing that dependence. In fact, this model was targeted at getting these economies, more independent from the economics fluctuations in advanced economies, focusing strongly about supporting the domestic market and industrialization . The Argentina born economist, Raul Prebisch made the most from it, with his theory of dependence which stated that the “center” (USA economy), and the “periphery”(Latin America) were driven by opposite interaction. According to his theory, the Center benefited from cheap raw materials, such that they had no interest for these raw material exporter countries ,to get a higher stage of economic development based on higher industrialization. Therefore the States on each country, should take that objective on its own throughout industrialization programs. The result of that approach, although not that much bad in terms of economic growth, (average of 5,5% between 1950-1980) , was less decisive to solve social problems such as poverty, illiteracy, lack of good nutrition and above all, to fulfil the expectations it created among the intellectuals, policy makers and regional politicians, eager to cope with the inherent instability of the former approach. Thit growth ,was based on capital intensive industries performance.
On the other side, external debt started to accumulated since the seventies(current account deficit climbed up to 6% of GDP), reaching its peak in the following years when the international financial system , had huge amount of cash at its disposal to be lent to supposedly solvent countries . Later on (1981),because of the high interest rate applied to repay those loans, the whole continent was at the end of the eighty facing the lost decade, if not about the lost century .At that time, I realized I was wrong. The problem was not the dependence from the USA economy, but lack of comprehension about the real nature of growth. Somehow, the whole continent was trapped in its own fears, looking for State “protection” which was the real dependence problem. We really were dependent from the State, unable to cope with market forces challenges.-
At the end of eighties, the main concern was to solve the external debt problem. This meant to get support from the United States but this time ,not for social assistance (1960),or trade (1989); but to repay the debt. The “Initiative for the Americas” , of former President G.H.W Bush ,was a serious historic attempt to solve structural weakness in Latin America economies. Its main objective, was to support investment, trade and debt renegotiation (Plan Brady), such as to improve the fundamentals for economy growth, more so with the implementation of a FTA from north to south of Latin America, which was complemented in the early nineties, by the “Washington Consensus”, which made a case of financial reforms, free markets driven economies, privatizations and free trade ,as a necessary condition for growth Later it was proved not to be a sufficient condition).It is hard to find in the whole twenty century, such a kind of compromise .Some annalists wondered ,what were the gains with this “new” partnerships far beyond its historic path?. Of course there were gains for both sides: export “made in USA “to Latin America increased, investment flows also increased, as further steps were undertaken in the mid nineties with Chile on the list to become a direct commercial partner.

The real price of drinking a glass of water

It is usual for most of us to get fresh water any time we need. A plain glass of water, seems to be most basic action at no monetary cost. We have not realized yet that such a simple need ,is also in danger of become very expensive. Would anyone imagine taking water pills?.
2500 scientist, politicians , and delegates from 140 countries ,are debating about the rational use of water. Rotarians ara also very active about this issue. Despite the fact that society is becoming a knowledge society, it lacks basic understanding about the proper use of water resources. 97,5% of the water available in the whole planet ,is too salty to be suitable for human consumption, and only 0,26% of water for human consumption is accessible for such a purpose ,because the rest of it, either it is on the poles, or deep underneath the earth.250 rivers ,some of them trans frontiers, cover 40 % of world water demand. Thus , It seems feasible and not far away the chance that water might become a source of conflict, just as it has become oil.-
On the other side, 1200 million people, 20% of world population ,lacks sufficient water supply.200 million get diseases close related to shortage of good quality water ,and 3 to 4 million people die because of that. Besides, 6000 children (part of world human capital)die because of the same reason .All of this means a very high social cost for wasteful water consumption, so high in comparison with private cost( almost zero),that a feasible alternative to improve the rationality of our daily water consumption pattern, might turn out to be a proportional tax: the more water people consume the higher the tax, to induce more efficiency in the use of this increasingly scarce resource. It is a paradox, that a tax ,supposedly inefficient, would comes out to solve an inefficiency. Of course ,It all depend about the purpose and the expected outcome.
Although I do not like too much taxes, this one can be unavoidable, because it is the way to solve what otherwise would imply very transaction cost ,given the fact that there is not clearly defined property right ,on the current sources of water. Therefore, as a matter of fact nobody (scientific asides),cares about the over consumption!.
In Latin America, 125 million people live without proper water networks which affects the quality of life couple with health and sanitary conditions. It follows ,that those people who lacks water, get diseases which are a kind of avoidable ones. These diseases, competes with other normal diseases arising among the population, pressing and increasing the demand for public health, to such extent that it fails to cope with the expectations in terms of quality and scope. Some people do not get public health attention. There is some research available, whose results are very clear: for every (1)euro spent on better water facilities, it is possible to save cost up to 34 euro, because of lower demand for public health .-
On average , consumers use up to 125 lts daily of water , but we are not paying the real cost of such consumption, which become higher for those who get higher levels of water consumption . So , what is it the real cost of a glass of water?. Guessing hardly less, than 35 euro!.

Doha Trade negotiations talks

The evaluation of the recent Doha Free Trade talks outcomes , the winners are: Governments, farmers, Protectionism policies support. Among the losers are: agricultural exporting countries, less developed countries, industry, services, and cotton producers. Thus, at first glance it seemed that the chances for account that the cost of failure(more losers) was higher than its benefits(less winners). Maybe a lot of the expectation about the Doha talk, has been driven by such cost- benefit failure analysis, measured by those directly involved in the issue. In other words, key sector of global economies, and key emerging economies trying to get over their differences about trade, with good chances for getting an agreement.
However, the real measure for evaluating this 2008 Doha Round incentives, should be the impact on global economy as a whole. On that regard, a positive result of this last round ,implied annual windfall of U$$50 billion to the global economy, plus U$$ 100 billion(over a ten year period),because of tariff reduction. What is the meaning of these numbers? .Actually, World economy GDP is about U$$ 50 trillion. Therefore, the global economic benefits of any accord,(roughly around 1% of global GDP in a span of ten years),was not higher enough over its cost, which it was to keep things the way they are, with global trade (tariffs for poor country exports are 3%),and resources mobility, giving opportunities to all, although to a less extent agricultural product . Thus, there was not strong economic incentives to go further on with negotiations , based on deeper mutual concessions.
On the other side, it is the relevant issue stated by public choice theorist, which emphasizes the lower transaction cost of small homogeneous groups to join themselves around common goals(the previously defined as the winners), related with the higher transaction cost facing the larger heterogeneous groups (previously defined as the losers),which it made a lot more complex the process of negotiations ,because of the election time in USA ,and opinion polls tracking Government performance both in Europe and USA, in time of economic slowdown. Thus, the timing was not free of political pressure, for critical points. The implications are both: a.-Future negotiations would be better based on small groups, sharing common interest dealing with problem of high impact on their own economies. b.- The political background with more big players on the negotiation table, suggest a tougher path ahead ,for agreements at a global scale.

The economics approach of new European immigration policy (II)

Why do people emigrate ?. There are some key non economics factors which explain migration flows. Let take a look at them:
v Social factors. It refers to the desire of migrants to break away from domestic constraint whatever they might be.
v Cultural factors, It includes the safety net provide in most advanced countries, which give a better sense of protection and better living standard than the one they have at home countries.
v Physical factors .Recent migration from south China because of flooding, is an example of migrations flows due to natural disasters .
v Transportation facilities. It is easier to travel now than what it was before.
Following the Todaro ´s model (Economic Development in the third world .Second edition 1981),there is also an economic explanation for migration flows. People do migrate because of expected earnings, between sectors in domestic economy. This expected earnings, are measured by the difference in real incomes among different sectors, and the probability of a new migrant of obtaining an urban job at his destination point .Thus ,the model explains rural urban- migration, regional migration ,and it can also be applied to international migration.
International migration above a certain level of natural flows due to transitory causes(relatives who goes back to their own countries ,and the like),could be hypothesized as the outcome of wrong designed domestic policies , as long as the income gap is wide enough against domestic work places. In such a case People will look foreign work places, even with imperfect information or without information at all, about the probability of finding a job. The perception of that income gap to be permanent, will induce people to take riskier actions, because the expected benefit, is perceived to be higher than the current permanent cost .
In short ,migration can be explained by rational considerations related to benefits and cost, mostly financial, but also psychological. It follows that better domestic policies, would decreases the benesfit of migration .But what are the incentives for such a better policies?.Moral hazard and free ride for policy makers, applied fully when the destination countries do not take actions aimed to decreased such a benefit of migration which includes the legal framework and immigration policies.
To make the argument clear, in a global economy migration flows are a necessary condition to complement capital flow specially the services arising from those high skilled worker, which is the kind of migration with positive externalities for the host countries , and the one they prefer most. The problem is with the migration flows of both low skilled and illegal migrants, which becomes a competitors with domestic citizens for social benefits.In this case ,low skilled immigration flows are linked to negative externalities,which market forces can not solve because it fails to define the property right of domestic jobs.Therefore ,it is necessary for governments to step in,like in any other case of such externalities.It follows that the real issue should not be the new European immigration policy,but the new seeting which it imply ,for those countries which depended on former facilites to migrants, such that they should start to improve the design of domestic policy, heavely focused on redistribution and less on economic growth.

The economic approach of New Immigration policy in Europe (I)

Although Latin America Immigrants are not a key variable of the problem,(8 million of illegal immigrant in Europe),it has been quite a shock for policy makers in Latin America, the new immigration policy framework, set by European authorities mostly concerned to both North African, and eastern Europeans illegal flows. However, Latin America immigrants in Europe represent a good source of foreign income through remittances, which in some Andean countries might be meaningful .
History teach us, the value added by immigrants to the land they arrive. Latin America itself is a continent made of immigrants(Germans, Japanese, Italians, French, Portuguese, Koreans ,Jews and others ethnical groups, were a constant flow from Europe to Latin America since the eighteen (in some cases even before) up to the twenty century). The economics to justify for such immigrants flow was clear, the expected economic benefit on their new land, were much higher than the cost involved to settle them down . Much of them, helped to create and consolidate new countries. Somehow, Latin America benefited from European nations ,as much as those immigrants improved its fragile initial human capital endowment .
However, even with those additional better qualified human resources ,and quite on the opposite to others successful immigration experiences, wrong domestic policy design in the twenty century, lead to higher poverty (40% of Population) and inequality (the worst income distribution in the world),in Latin America, such that migration to different places out of the continent,could be considered a natural consequence of such failures.
Thus, the first issue to be addressed, is that such a migration represent the failure of domestic policies. It is not efficient to design domestic policies, with such an “implicit guarantee” that if something goes wrong, there are plenty of “volunteers countries ” to cope with the failure, instead of the domestic policy designers, who would get a free ride. Both, Moral hazard and free ride , would lead to endless flows of immigrants to host countries.
A second implication would be that Latin America would become a poverty exporter continent . In such a case, the real cost of immigrants for host countries , is much higher than the expected benefit.
It is not the best qualified resource who seek new opportunities, which creates the problem ,but those who heavily depend on social policies, which turns out to be competitors with local citizens needs ,which feel they are left behind in time of trouble. A different matter, is the implementation of the reform, which no matter the timing, should also take into account humanitarian criteria when it applied.

Environment protection and private incentives

It is usual to read comments concerning the environment conservation ,concerning the way people should behave or feel ,in such a way that the positive externality of either behavior or feelings , turns out to be an higher self consciousness when it comes to deal with the challenge of improving our understanding about environment.
Most of the key players on the issue, agree that it is crucial to keeping the pace on environment conservation ,with no further delay, specially at the level of government level policy design. However, individual efforts are also important, in fact it matter a lot to have a global community well aware of the magnitude of the threats which is upon us. Thus, world celebrities on different fields (fashion, sport, global media, movies),make a strong contribution on this regards. So, they are very welcome.
The key question though is: What are the incentives for ordinary citizens to follow such impulse?.The first and obvious one, is admiration of what those celebrities are capable of. Unfortunately, it is not enough , and it is necessary to consider more direct incentives for ordinary citizens .
Economics teach precisely that: Incentives moves people decisions, to get their highest welfare level. It is well known that there are already alternatives both for firms and individuals to use better and more friendly environment source of energy. Green bonus, is a market mechanism to induce firms a more active role to protect environment, in this case based on profit they can get for not contaminate. But is it enough?.These days, tax deductions should be applied taking into account, the kind of policy firms have toward environment protection. On the other side, Individual also needs those kind of incentives .Let consider the case of a family who want to have their house with solar energy panels. What do they get in return?.Sure lower energy bills, but do they get a tax deduction on other expenses ,because the energy they are saving means supporting environment protection?.Therefore, taxes as an incentive for growth ,should be planned to do so, considering environment as a key variable, as a fist step to get sustainable growth .-

Fiscal Policy Efficiency in Latin America (II)

Is it the State some how the enemy of well being of society?, or is it the case that the State ,has been capture by special interest groups ?.Who are these groups? Politicians?, public management staff who serve their own interest, rather than those of the one they should be serving? .These questions, are at the core of the issue of efficiency of fiscal policy.
Let give more attention to it. Fiscal policy is political by nature, it deals with Government ability to pursue the improving of welfare at society level, which is evaluated depending upon the type of preferences voters have, about checking out what the Government is doing. Some countries, evaluate that performance every four years, while others do every six years. However, it looks like such a period of time is too long to have the sense of control fiscal policy need. Therefore, the first issue to improve the efficiency of fiscal policy, deals with better and more often participation of voters, (decentralization),or better control mechanisms ,to avoid both the fiscal resources to be captured (for instance too many organism doing the same and trying to get the same objective), or the worst of the inefficiency about fiscal policy: Corruption.
A recent Corruption index 2008 survey ,done in Chile by the Freedom and Development Institute, shows that the highest level of corruption is found at the government organisms level. On top of the list are Municipalities (5,7)and public firms(6,0).Next are the Justice system, and different Ministry (5,1),closing the list are regional governments (5,0).Besides 50% of those executives included on the poll (411),thinks that corruption is higher now than last year. It follows, that fiscal policy inefficiency seems to be explained by the purpose deviation about its nature,done by those groups who capture teh State for their own interest .
A second issue to improve fiscal policy efficiency, is related to up grade the academic credential of those in charge of public management, along with a modernization of the public management practices. This means to change the political profile of public management, for a professional one. Additional progress on this matter in Chile, has not been fast enough,although the number of executives selected by political preferences has been decreasing, in favor of those based upon professional credentials.-

Fiscal policy efficiency in Latin America (I)

According to Latin America economic outlook 2008,tax and transfers reduce inequality by 15 Gini points in OECD countries while in Latin America, it reduces the equivalent of just 2 gini points. On the other side, fiscal induced reduction in inequality is eight time smaller in Latin America than in Europe. These are some of the key ideas mentioned recently in an article signed by Javier Santiso and Pablo Zoido, in the magazine The Globalist.(April 2008)-
To give a better insight of the issue let considers some additional statistics, (www.emol.com ,Pablo Oregon 2008) Buenos Aires with 14 millions of inhabitants has 365000 public employees , whereas New York wit almost 20 million of inhabitants has 270000 public employees .Argentina as a whole has 1,5 million of public employees, Chile has 185000 public employees . Google (our boss in this blog),does not need more than 11000 to run such a giant internet services provider.
The efficiency of fiscal policy ,is undermined because of the level of rent it needs to collect ,just to support those who have captured the state for their own purposes. Thus, Brazil with a tax burden of 37% as a share of GDP, has currently a public sector which is increasing at a faster speed than ever ( more than a thousand a month) . Therefore very much of those taxes, are not designed to solve social problems, but to finance the new bureaucracy which has nothing to do with the effectiveness of any policy design. In fact Mexico with a tax burden of 15% as a share o GDP, has the same low level as Brazil in some key social indicators. It follows that perhaps half of tax collection in Brazil, is just to finance bureaucracy.
Tax collection is not the only variable on the equation to solve poverty and inequality. It is also important the efficiency of social programs which requires to be better focused ,but also better complement by a staff capable of doing their jobs with low transaction cost (it means low bureaucracy level).The state has become so relevant to provide public employment, that it has distorted its real meaning , which is to support those who are in danger of being left behind, not to providing them exclusively with assistance, but with the proper tools to overcome their constraints with creativity, imagination, self assurance.

Labor day: Time for a reflection (II)

Between the years 1990 -2000, wages increased faster in high skilled occupations, than low skilled occupations. Therefore there is a widening gap between those two labour skill segment with further implications, such as increasing inequality, higher pressure on educational system to improve its ability to respond to labour market requirements, and social tensions between the winners and losers of globalization .-
On the other hand, free trade agreements make capital good, relatively cheaper than labour services, inducing both capital-labour substitution, and deepening the higher skilled labour demand. New technologies are knowledge intensive.
Thus, a side effect of these free trade agreement should a higher productivity level, but higher risk of greater inequality if the proper policies to improve labour skills are not implemented . More so, if we take into account the fact that low wage economies do not necessarily mean a threat to high wage economy ,precisely because the productivity gap associated to skill differential, therefore it is not easy to correct the wage imbalance throughout global market forces.-
A complementary approach ,could be to focus the attention upon the services sector ,and its job creation prospect, assuming that its skill requirement are not too high, compared to the capital intensive sector. In both western Europe and North America, the services sector has experienced the most robust growth ,both in terms of value added and employment. Between 1991 and 2003,for every 1% percentage point of growth in the services sector, employment increased by 0,57% in North America and 0,67% (Global Policy forum, KILM report 2005),in Europe ,which reinforce the labour intensive technology used in services activities, or at least the complementary nature of labour and services activities.-
Women are improving its share of labour participation, getting close to that one of men, although this does not mean women can get to the same jobs - equal wage, mechanism .There is still a wage gap between men and women, which might not be solve in the short run. However, new technologies available will make its way to reduce that gap, as it allows women to compensate time spend at home, using her own firms internal networks support ,to keep the paced with her jobs.-

Labour day : Time for a reflection (I)

What is the meaning of labour day , in the XXI century?: Well, perhaps May the 1st, means much more today than it has been usual to think about . Globalization has been mainly driven by capital accumulation, which seek lower cost to get higher capital return. The economic foundation of the globalization process is quite clear ,as it is the fact that the necessary complementary labour skills have also changed. More and better qualified skill, are necessary to get a better share of global income growth. The problem is that these skills do not increase at the same pace, to improve labour share, as it does capital productivity in production process. On the other side, lower skills, imply lower labour productivity and lower wage.
The overall picture looks worrisome. The Global Policy Forum and its key indicators of the labour market (KILM- 2005) says that :“half the world´s workers still do not earn enough to lift themselves and their families above the U$$ 2 a day poverty line”. Besides the report says for million of workers, new jobs often provide barely enough income to lift them above poverty line, or are far below any adequate measure of satisfying and productive work. In fact ,almost 50% of global employment (1,38 billion people),down from 57% in 1994 ,live on less than U$$2 a day. This means that although employment might increase, the quality of those new jobs is far below the acceptable. Low productivity Women and men, are working long and hard, for very little because their only alternative is to have no income at all (KILM report 2005).-
Employment and economic growth relationship, has also changed to reflect what it looks like to be, the capital intensive nature of globalization. For every percentage point of additional GDP growth, total global employment has grown by only 0,30 percentage point between 1999 and 2003,a drop from 0,38 percentage points between 1995 -1999. Moreover between 1990-2000,wages increased globally faster in high skilled occupations, than in low-skilled occupations . Therefore the challenge of our time, is to solve the productivity gap, which arise among others reasons, because lack of good education, centralized state which creates a culture based on social assistance, rather than individual effort, which deteriorates the key potential for growth, creativity, innovation, and entrepreneurship.-

Supply side economics : An overview (II)

It is true that lower taxes reduces the incentives(benefit) of not paying them, which imply that tax payers have to pay higher cost for not paying lower taxes. As a result tax revenues increases because of better tax compliance. However, the question whether lower taxes really means increases in tax revenue , also becomes a practical matter concerning the management technology , the IRS or for this matter any tax authority, apply to the process of tax revenue collection. The better the technology support on management, applied to collect taxes, the higher should be tax revenues. Neither Laffer, nor Paap and Takats paper (IMF WP 8/07), give too much importance to such issue(technology and tax collection). In fact Paap´ s paper, works on the assumption that there is limited enforcement capacity , and auditing for tax payers randomly determined .-
The conclusion of that paper though, make clear the point about the ability of tax authorities to get tax payers on line, such that those cases with weak tax collection system, might benefit more from tax cuts than those with strong tax collection system. But there is no mention about technology applied on tax collection, let say throughout a transaction networks, which automatically get the proper tax with each transaction.-
The question about the real impact of lower taxes on economic growth, and the expected higher productivity level arising from private uses of resources , will also depend on the institutional framework ,which means that tax cut , requires complementary policies to get the best of its effect on welfare.-
Tax cuts might have a stronger impact on economic growth, when they are complemented with better incentives to tax exemption , better service for tax payers (customer profit approach ), and better allocation decisions for fewer resources , which should be focused on those areas with the stronger impact on growth.Tax cuts on its own, is just the minimum of the economic growth- incentives , equation.-

Supply side economics : An overview (I)

Supply side economics although controversial , it was supposedly to be a key development on macroeconomic policy design .Was it so ?. Most of the policies analysis and applications in the second half of the twenty century, has been a kind of solving aggregate demand problems. Keynes, Friedman, Tobin, among others XX th century economist, were all aggregate demand economist. The first two, focusing on the fiscal policy and monetary policy side respectively, of the problem. Tobin with his income policy approach, making supply side engineering.-
In the early eighties, following rational expectations macroeconomic revolution, came out Supply side economics as an alternative explanation for economic growth and market behaviour . The book “Wealth and Poverty” , (1983) by George Wilder, made popular the notion of markets driven by supply forces , as much as demand ones.
One of Its key arguments ,was about the importance of tax policies to modify incentives in the decision making process, specially labor supply and investment decision. Although there is evidence about the positive impact that lower taxes have upon economic growth in the long run (World Bank papers) ,there is not too much consensus about its short run implications .A recent paper (IMF, WP 08/7 Thomas Paap and Elòd Takâts :Tax rate cuts and tax compliance :The Laffer curve revisited, January 2008),analyzes how tax rate cuts can increase revenues. It apply the argument to Russia tax policy which cut income tax to a flat 13%, replacing a tier tax model of 12,20 and 30% previous rate. Tax exemption increases, reduced further down the tax burden. So, Personal income tax revenues grew by 46% in nominal terms , and 26% in real terms during the following year. Besides, Personal income tax(PIT) share to the GDP, increased from 2,4% up to 3,3%.Maybe it is not enough and conclusive empirical evidence, but it suggest some guidelines about microeconomic side of tax policies effects.- However, Supply side economics foundations; goes deeper than tax cuts. It says that private allocations of financial resources, get higher productivity than public allocation (Government) of the same resources, because the opportunity cost are different: Higher for the private than the public sector. Having said that, tax cuts might or might not increase revenues, because families and firms have different views about what the highest productivity of their financial resources are .Families and individuals, might save the additional resource into their pockets, such that the final impact on tax revenues, will depend upon the tax applying on saving .Business might decide to invest more, but the effect of additional investment on tax revenues ,will depend on where that investment goes to.