Marginal Notes

noreply@blogger.com (Jamus) — Mon, 11 Jan 2010 22:31:00 +0000

The most recent salvos in the Fed's culpability for the global financial crisis are centered on a reasonably esoteric debate over the Taylor rule. Ben Bernanke recently defended Fed policy choices by pointing to how monetary policy was in fact not massively inconsistent with a Taylor rule, when inflation forecasts (as opposed to observed inflation levels) are used to determine the inflation gap. John Taylor continues his skewering of the Fed by making clear that measurement issues are insufficient to absolve the Fed from its substantial errors in deviating from the rule, and that in any case using the Fed's inflation forecasts were faulty to begin with.

To better understand the contours of the debate, it is helpful to recall a (very simplified) version of the Taylor rule:

i = A + b*(inflation gap) + c*(output gap),

where i is the policy interest rate, A is a constant term, and b and c are positive parameters. The inflation gap is the difference between the central bank's target inflation and the actual inflation rate, and the output gap is the difference between the economy's current and potential levels of output.

Laid out in this way, the different dimensions of possible disagreement immediately become clear:

Disagreement over gap measures: Although it is abundantly clear what the inflation and output gaps are in theory, in practice, there is a need to operationalize the gaps with appropriate measures of inflation and output. This is the crux of Bernanke's most recent defense; more precisely, he claimed that inflation forecasts, as opposed to contemporaneous CPI, were a superior measure. However, as David Papell so accurately points out, this is a red herring. The source of Bernanke's different implied Taylor rule rates stem from the use of core PCE inflation, as opposed to headline CPI inflation. Indeed, using the GDP deflator yields yet different Taylor rule recommendations.
Disagreement over parameter values: This is an empirical question, although it can be seen as a specification issue as well. Glenn Rudebusch has previously argued that using a slightly different specification of the Taylor rule---mainly by allowing some difference to the original Taylor parameters, but also accompanied by tweaks to the functional specification---it is possible to show that the Fed's errors of commission over the pre-crisis period were not that great after all (technical version here).
Disagreement over specification: This is, implicitly, the second part of Bernanke's defense, where he claims that controlling capital inflows may have been more important for addressing housing bubbles (and since interest rates influence capital inflows into the economy, this implies that the simple version of the Taylor rule may be suffering from an omitted variable).

noreply@blogger.com (Jamus) — Mon, 11 Jan 2010 18:00:00 +0000

Two recent articles about fixed rates---one by Martin Wolf on the deflationary consequences of the Eurozone (free registration required), and the other by Jim Hamilton on the inflationary consequences of the renminbi peg---appear, at first glance, to be marginally related about the implications of choosing rigid exchange rate regimes. But it is important to recognize that choosing a is, to begin with, policy decision that is premised on economic and political-economic factors.

As Wolf discusses, the decision to form the Eurozone is premised as much, if not more, on Europe's historical experience with conflict as it is with economic factors (if anything, Europe's recent experience vindicates Marty Feldstein's concern---which dates as far back as 1992---that Europe simply does not fulfill the standard criteria for an optimum currency area). Likewise, China's peg to the dollar is based on a notion of core-periphery interactions as a driver for development: such a strategy is concerned as much with the political consequences of nonabsorption of excess labor, as it is with exports and growth and per se.

The common thread, then, is that since the decision to adopt a fixed rate regime is as much political as it is economic, the regime is likely to be durable even if the economic rationale for the regime has changed. This could explain why, in spite of routine violation of the Stability and Growth Pact, no country has exited the euro; likewise, China has maintained its peg to the dollar in the face of inflationary consequences and constant haranguing by the the United States.

What would change the policy calculus, however, is a change in the political-economic constraints faced by the relevant actors. In this regard, the risks for the continued integrity of the Euro area would be the extent to which economic conditions in the deflationary countries become unbearable for the citizenry, or when widespread inflationary pressures in China threaten to derail growth altogether. In those cases, the economic and political stars would be aligned, and policy realignment can naturally be expected to follow.

noreply@blogger.com (Jamus) — Tue, 15 Dec 2009 14:38:00 +0000

Fixing bankers� compensation is all the rage these days. The latest salvo in the ongoing tussle is the recent joint proposal by France and Britain to impose a windfall tax on the bonuses of bankers has raised eyebrows across the financial and political spectrum, mainly because it is viewed as a populist measure aimed at placating taxpayers upset over governmental support for a financial system many regard as the primary villians of the global economic crisis. At the very least, it is argued, such a tax is justified since the unprecedented profits of banks would not have been possible in the absence of government largesse.

There are, at least, three economic arguments behind imposing a contingent windfall tax on firms in the financial sector.

First, such a tax would serve to (partially) offset the part of fiscal deficits that were incurred for the purposes of government-financed bailout packages. This goes beyond the government getting its fair share of the upside�presumably, such an upside had been priced into the interest on bailout loans as well as any options or warrants received as part of an original rescue package. This is effectively a premium payment for future government assistance, which may be much more difficult to collect (both economically and politically) once supernormal profits erode and the memories of the crisis fade.

Second, the tax would act as a mechanism that could dampen the moral hazard that is a direct result of these bailouts. If firms expect that their future profits from risk-taking activity will be accompanied by a commiserate tax should such risky activity lead to the need for a bailout, then they are more likely to factor such a cost into their investment decisions, which in turn reduces the chances of moral hazard.

Third, to the extent that tax revenues are ultimately rebated to taxpayers (either directly or indirectly by paying down on the fiscal deficit), the tax would serve to reduce the deadweight losses that have arisen in the financial sector as a consequence of (one would hope temporarily) greater market concentration.

Of course, financial sector firms will resist such a move. The most likely concern, from the perspective of a given financial center, is that such a move would lead to an exodus of staff from, say, London to New York. Even if governments were to fail to coordinate on the imposition of a windfall tax, such a threat is, ultimately, not credible. The tax will be levied on profits from the previous financial year, and would need to be paid regardless of whether the firm relocates in the following year or not. But since it is also meant to be an extraordinary tax, the cost will have been sunk, and so any relocation decision would be based on weighing the future likelihood of another extraordinary tax versus the costs of relocating today; this calculus is far different from weighing the paying the tax versus moving.

In practical terms, the windfall tax should be levied on banks, and not on individuals directly. While this does open up the possibility of accounting mischief to sidestep the tax, it allows financial firms the maximum flexibility to distribute the costs of the tax in a manner most consistent with internal firm goals. Besides, with the spotlight shining so brightly on banker bonuses, it seems unlikely that the financial glitterati would be able to nonetheless richly reward themselves at the expense of their shareholders. The tax should also be contingent on profitability; the objective of such a tax is, after all, to reduce the monopoly rents accruing to the net beneficiaries of an implicitly government-supported financial sector, not to punish firms that are continuing to struggle simply because they happen to be in the financial sector. Finally, if the tax revenue is in fact not directly rebated (perhaps as part of a stimulus package), the proceeds should be placed in a special fund designed for funding future bailouts, as and when needed.

noreply@blogger.com (Jamus) — Thu, 19 Nov 2009 21:21:00 +0000

The movement of emerging market currencies relative to the USD can be divided into two distinct phases. During the first phase, capital flight into the dollar led to a significant depreciation of EM currencies vis-�-vis the USD. This was led by Latin American economies, especially Brazil and Chile (whose floating rates are generally less subject to intervention by their respective central banks), but also to a lesser extent East Asian economies (the SGD, for example, appreciated 7 percent between Sep 08 (the collapse of Lehman) and Mar 09, and the KRW rose by a massive 28 percent). In the second phase, however, EM currencies gave up much of the earlier gains as the risk trade returned and capital flowed into emerging markets in search of yield. This has led to an appreciation of most EM currencies---an ironic "reward," if you will, for their pursuit of prudent macroeconomic policies both before and after the crisis. The two distinct phases can be seen across a broad range of EM currencies, as detailed in the figures below.

There are two things to note here. First, the movement of these currencies against the USD is essentially equivalent to the cross-rate movement of these currencies versus the RMB, since the latter currency has remained more or less stable at about 6.8 yuan to the dollar. Second, the longer view makes it clear that recent appreciation since Mar 09 against the Chinese currency remains less than the levels that existed prior to the collapse of Lehman. The figure below clearly illustrates this point. Of course, the internal and external environments faced by these EM economies are much more fragile than they were at the start of 2008, which may explain their greater reluctance to allow further erosion of currency competitiveness. It is notable that Brazil's capital controls were instituted in spite of an almost 9 percent depreciation of the BRL relative to the RMB (for the period between Jan 08 and Sep 09).

What does this mean from a policy perspective? I think it calls for a more nuanced understanding of the merits (and demerits) of currency intervention and the selective use of capital controls. The traditional defense for a floating exchange rate and unfettered capital flows is that intervention to support a given rate is too blunt to be of use, and the eroded reserves resulting from any stabilization attempt could have been better used for other purposes, such as providing targeted fiscal support during a crisis. Even if this were true, the cost of such exchange rate volatility on export-dependent nations is enormous. What's worse, if wild swings in terms of trade is detrimental to growth volatility, and growth volatility has a negative impact on growth, then perhaps targeting a blunt instrument like the exchange rate may not be such a bad idea after all.

noreply@blogger.com (Jamus) — Thu, 08 Oct 2009 23:40:00 +0000

The post-WW2 Gold Standard collapsed in 1971 due to the inability of the U.S. to maintain the $35-an-ounce peg. This, in turn, was---in large part---due to the inflating costs of (paying for) the Vietnam War. Nonetheless, due to the position of the U.S. in global affairs, the world simply moved to a Dollar Standard. We appear to be in a moment in time when, analogously, the wars in Afghanistan and Iraq has left no fiscal space for the U.S. government to deal with the 2007/08 subprime crisis, and if history is any guide, we may be headed toward away from the Dollar Standard and toward an alternative standard without the dollar at the center. The rumblings thus far from the big players are starting to sound increasingly ominous.

noreply@blogger.com (Jamus) — Thu, 03 Sep 2009 22:08:00 +0000

Proliferating bilaterals are back on the agenda, especially given the moribund state of the Doha Round. The Economist rehashes three standard arguments about why the spaghetti bowl may not be all that saucy, after all: Welfare gains from trade diversion may dominate trade creation; increased transactions costs due to the complexity of administering multiple rules of origin, and the fact that bilaterals do not appear to be exercised by traders in practice (an argument less commonly made but certainly not novel).

This raises an interesting issue about what to do about the ever-expanding mess. After all, it appears that bilateral and regional trade agreements are here to stay, so the question confronting global policymakers would be how best to control the cancer. One strategy would be to fold in PTA elimination into global multilateral trade negotiations.

This already happens in an organic fashion. Prior agreements with terms that are superseded by multilateral agreements---such as when MFN tariff ceilings adopted in a new round end up becoming lower than the binding commitments in a bilateral---die a natural death. Still, there is a case to be made for explicitly placing the dismantling of sets of prior agreements in concrete terms. Practically, this would mean starting negotiations on the basis of establishing the binding MFN tariff at a level that is at or below those that apply to a group of PTAs.

Of course, such a proposal would mean that there is yet another potential bottleneck to deal with in WTO negotiations (as if they didn't have enough issues to come to deadlock already; recall that the breakdown of the July 2008 ministerial was largely due to the seemingly esoteric issue of agricultural safeguards). Nonetheless, there needs to be greater attention paid to the idea of systematically removing PTAs via the multilateral system, before we all down in the bolognese.

noreply@blogger.com (Jamus) — Mon, 31 Aug 2009 22:27:00 +0000

The Fund has a new working paper out on practical issues associated with establishing a sovereign wealth fund (SWF). Beyond the many interesting (and largely academic) issues that have been explored about SWFs in recent times---see especially the important paper by Aizenman & Glick on the determinants and effectiveness of such funds, and the monograph by Setser on the implications of reliance on SWF financing, along with the more recent (theoretical) take by Carroll & Jeanne that models the precautionary motive for SWF establishment---the operational questions have been only tangentially addressed. The IMF paper thus provides a firm basis for thinking about SWFs from the perspective of the developing country seeking to establishing such a fund.

The paper distinguishes five main classes of SWFs, consistent with their purported objectives: (1) reserve investment corporations; (2) pension-reverve funds; (3) fiscal stabilization funds; (4) fiscal savings funds; and (5) development funds. The authors do an excellent job of summarizing how a given SWF established along one of these lines can be designed to fulfill these objectives. What is missing from the discussion, however, is a discussion of how the institution can be designed to better attain these goals. The distinction is akin to classifying central banks according to their mandates---meet a specific inflation target, maintain price stability, or appropriately manage the inflation-unemployment tradeoff---versus proposing principles that would better allow it to achieve these goals (such as via the appointment of a conservative central banker or one whose contract is tied to inflation).

One important design consideration is whether SWFs can be designed to avoid the resource curse so common in developing country institutions. After all, what is to prevent an SWF from being raided by politicians in order to ensure re-election by passing out goodies? Alternatively, even a benevolent dictator may have an incentive to engage in time-inconsistent SWF management policies if such actions could somehow lead to ex post optimal outcomes.

The traditional manner by which developed countries have attempted to resolve time inconsistencies is to ensure institutional independence. However, this is largely a red herring, since the institutional framework in developing countries is often insufficiently developed to support such a first-best policy (think of how successful developing country central banks have been in preventing the monetization of their fiscal debt).

It's not clear that there is a straightforward solution. However, one (admittedly risky) strategy is to provide such institutional independence by privatizing the SWF. There is a fundamental difference between a public institution that has been granted independence, versus a private institution. For one, the privatization option is far more irreversible. Raids on a privatized SWF would essentially entail the seizure of private assets followed by their nationalization; in contrast, thefts from a nominally independent SWF is mainly a matter of accounting changes made to the books of two relevant government entities.

noreply@blogger.com (Jamus) — Thu, 05 Jun 2008 14:27:00 +0000

I just came from a talk by Bill Easterly that rehashes many of the arguments he first made in The Elusive Quest for Growth. Easterly essentially took the argument he first made there a step further: That the recent gains in poverty reduction and growth worldwide occurred in spite of, rather than because of, development experts. His view, espoused in this recent FT column, was that individual freedom, guided by the spirit of entrepreneurship, is the true secret of development.

My beef with this claim comes from the implicit assumption that the solution to development is to simply allow individual liberty. Now, I have no problems with individual freedom, of course, given my libertarian leanings. My problem is the belief that this liberalization can occur spontaneously once we recognize that this is what is required. In some ways, this seems almost tautological: Does not economic freedom simply imply getting the hell out of the interventionist policy? Perhaps it does, but we have too many examples of how letting things rip does not bring freedom to pass. Thus, even if we accept Easterly's premise that liberty is the solution, we are far from understanding the mechanisms that can bring about such liberty.

Consider Russia. What we have there today---normal country notwithstanding---is a form of wild-west capitalism where economic freedom mingles with multiple failures in the rule of law. There is a whole literature on transition economics that argues over whether big-bang or small-step (economic) liberalization is the better strategy. The literature on democratic transitions is similarly mixed in its understanding of key drivers of the process, noncredible transfers notwithstanding. Moreover, political freedom appears to be neither necessary nor sufficient for economic growth. While democracy may be a laudable goal in and of itself, the linkages between democracy and development are tenuous at best, and is much more likely to be a second rather than first-order effect.

Likewise, more than two decades of experience with Latin America and elsewhere has taught us that financial repression is widespread among developing countries. Trade restrictions are similarly common, and despite substantial progress over the past century, remain bones of contention in international economic relations. Hyperinflationary economies encourage speculation and profiteering, rather than legitimate economic activity. All over the world, we see macroeconomic policy failures that result from a poor understanding of what not to do when it comes to macroeconomic management.

Finally, the many state failures in Africa point to how social and civil conflict can drive out any semblance of economic activity and lead to breakdowns in the society and economy. These failures are potentially preventable, but require that we build institutions that can help mitigate the multiplicity of interests arising from heterogeneous actors in society. While institution-building is often a painfully slow and laborious process---with tremendous uncertainty---we do know that easing pre-conflict tensions and bringing about post-conflict stability is possible, and attainable in a remarkably short time span.

The point is that government policymakers and political-economic actors do not stand still just because individual liberty is a laudable objective, whether philosophically or pragmatically speaking. If we want to relax the constraints faced by agents in the economy in order to unlease the forces of bottom-up growth, we need to understand the institutional constraints faced by these agents operating in that economy, and in so doing, engage in governance reforms that would facilitate their private actions. After all, it is not difficult to imagine how a talented, enterprising young individual can choose to be a paramilitary leader, a robber baron, or exploitative dictator, rather than a business magnate or financial manager, if the institutional environment rewarded the former professions more richly than the latter. In order to make progress in development, we still need to understand how political economies work, and help real-world economies achieve the best institutional environment possible.

noreply@blogger.com (Jamus) — Fri, 30 May 2008 12:32:00 +0000

I've been thinking about the linkages between leverage, speculation, and regulation. It struck me this morning that leverage could be a major driver of speculative activity. Of course, I'm sure that this insight is not novel, but I think it would be fascinating to theoretically and empirically explore the extent to which small amounts of leverage could contribute to significant real disconnect between fundamentals and current prices, giving rise to a rational bubble. Perhaps a sort of menu cost argument, in reverse. Moreover, to the extent that this bubble will eventually deflate, I wonder how much unwinding leveraged positions would contribute to a more rapid mean reversion than otherwise.

What implications might all this have for financial market regulation? One obvious implication is that leverage should either be removed altogether, or it should bear a disproportionate cost. I'm not entirely sure what economic purposes leverage serves. Perhaps it would allow any one individual with superior market information to engage in positive equilibrium-reverting speculation. But the possibility that either uninformed and/or short-horizon traders exploit it for
destabilizing speculation seems, to me, to outweigh the likelihood of the former.

noreply@blogger.com (Jamus) — Thu, 22 May 2008 18:26:00 +0000

The recent furor about high food prices has gotten me thinking about the possibility that good things can potentially come out of this awful mess. Two things that should be stated at the outset: First, the reality of high food prices is a terrible event, and looking at the flip side in no way mitigates the human and social cost of the riots and starvation that have occurred. Second, the arguments that follow are ultimately political economy arguments, and these arguments take as given both the causal chain as well as the beneficial effects that are discussed. What this means it that it glosses over real debates concerning true causal impact (for example, that U.S. ethanol policy has influenced food prices), as well as whether these beneficial effects are sufficiently large (or, for the truly skeptical, if they even exist).

High food prices means an end to a relatively misguided ethanol policy in the United States. While substitutes for fossil fuels are ultimately needed in a world threatened by climate change, the subsidy program that diverts corn toward ethanol production is ultimately more distortionary than not. There is insufficient evidence that subsidizing ethanol generates sufficient positive externalities to justify this market intervention. Ethanol production is notoriously inefficient, and the little net gain from using ethanol instead of gasoline may be wiped out in general equilibrium by welfare losses from high food prices.
High food prices may also usher forward the Doha Round. While concerns remain over the distributional effects of trade liberalization, most economists do agree that undistorted free trade does raise national welfare. To the extent that the Doha Round needs a kick in the pants, high food prices may just be it. High food prices may lead developed countries to reconsider the flawed agricultural policies, and developing countries to reconsider their resistance to tariff reductions on protected agricultural sectors. Taken together, these may be sufficient to bring about a conclusion of the Round.
High food prices may focus policymakers' minds on the reality of global warming. Part of the cause of rising food prices has been supply shocks due to droughts in major food exporting nations, such as Australia. While other factors may be at play, this must surely have entered into the political calculus that got Australia to finally ratify the Kyoto Protocol. It may yet be enough to get the U.S. to finally ratify the treaty as well.

noreply@blogger.com (Jamus) — Sat, 29 Dec 2007 18:35:00 +0000

Paul Krugman has finally returned to talking about international economics in a recent NYT column. While most of what he's saying is straightforward, he makes a puzzling (to me) claim in the second to last paragraph of his commentary:

It�s often claimed that limits on trade benefit only a small number of Americans, while hurting the vast majority. That�s still true of things like the import quota on sugar. But when it comes to manufactured goods, it�s at least arguable that the reverse is true. The highly educated workers who clearly benefit from growing trade with third-world economies are a minority, greatly outnumbered by those who probably lose.

What puzzles me about this statement is the notion that gainers from trade---highly-educated workers in the U.S.---are greatly outnumbered by those who probably lose (presumably low-skilled American workers). I do not know of any conventional trade model from which such an empirical assertion can flow, given the theoretical assumptions. More specifically, if Krugman is using a variant of the standard Heckscher-Ohlin model (and the associated Stolper-Samuelson theorem), the trade losers in the U.S. (a high-skill country) will be the low-skilled workers. But the model also assumes that high-skill workers are the abundant factor in the high-skill country.

In order for Krugman to subsequently conclude that the highly-educated beneficiaries of trade "are a minority" requires either that the U.S. be considered a low-skill-abundant economy (which is neither empirically likely nor consistent with the other statements Krugman makes in the article), or a model of trade for which factor intensity is not the source of comparative advantage (returns to scale was ruled out by Krugman in the earlier part of the article as a description of the North-South trade that he is concerned about).

noreply@blogger.com (Jamus) — Thu, 29 Nov 2007 20:24:00 +0000

The lead article from this week's Economist suggests that

...economic fundamentals are not all that is hurting the dollar. The currency is also suffering because the credit mess is concentrated in dollar assets. Investors' conviction that transparent markets and vigilant regulators make America a safe place to store money has taken a battering from the revelations of recent weeks. Net private capital inflows into America seem to have evaporated since the credit turmoil began. The subprime crisis has tarred the dollar as a subprime currency.

This is interesting not because the dollar's decline was unanticipated---after all, I had suggested (prematurely) that this would occur as far back as 5 years ago---but that if you are a believer that capital flows actually drive the current account (perhaps because you believe in Bretton Woods II), then it behooves you to think about how the reversal in capital flows might lead to a sudden-stop twin crisis in America.

Now, most reasonable folk would like to rule out this possibility: After all, banking and currency crises in emerging markets occur for a host of reasons that don't really work for the United States. For example, the exorbitant privilege that the dollar holds as global reserve and transaction currency means that it does not suffer from at least one leg of a double mismatch, which was what took so many economies in East Asia down. Similarly, the U.S. economy is not a part of a larger currency area, and so expectations of excessive deviations from fundamentals---a la the EMS crisis of 1992---are unlikely to lead to a crisis. However, thinking back to Krugman-style first-generation models, we start to wonder if a massive sell-off is not such a ludicrous thought.

True, the dollar does not operate on a fixed rate regime, and so does not suffer from the classic pre-shadow-value vertical drop that characterized Latin American currencies in the late 1970s and early 80s. But there are always two sides of a coin to any fixed regime: While the U.S. floats against most major currencies, many holders of U.S. dollars (mainly in the form of Treasuries) operate a de facto fixed regime against the dollar. Moreover, the size of U.S. government deficits has ballooned as a result of two long wars, and is expected to continue to remain large into the foreseeable future. Recall, it is the danger of monetizing government debt that forces the eventual abandonment of the regime. Although the Federal Reserve is independent and does not automatically monetize U.S. government debt, the underlying mechanism that may drive an eventual unpegging is eerily similar: A loss of reserve value, in this case the value of dollar reserves held by East Asian central banks.

I haven't worked out all the mechanics in a formal model, but intuitively, it does seem like the dollar may be facing a run, exorbitant privilege or no.

noreply@blogger.com (Jamus) — Sat, 10 Nov 2007 17:39:00 +0000

What drives currency movements are the micro-flows level? The current account identity requires that CA = -KA, but this simply begs the question of whether it is the net trade balance that is generating the corresponding movement in capital account flows, or whether it is the demand and supply of foreign assets that allows net exports to reflect a surplus or deficit.

Of course, these two flows must, by the identity, comove. But in reading economic reports, we are often reminded that market sentiment often attributes causality to one or the other. Concerns about a large trade deficit/GDP ratio may lead to a sell-off due to reduced confidence in the economy's growth prospects. Yet, during periods of realignment, we also hear that portfolio rebalancing is the reason why there is a currency decline.

How do we best model this feature? I am tempted to think that a cointegrated series is the way forward, but I am unfamiliar with the literature and would need to learn more about how economists have sought to model this in the past.

noreply@blogger.com (Jamus) — Tue, 12 Dec 2006 05:54:00 +0000

The end of something is often a somber time: You think of things that you could have done, should have done, would have done; you resolve to do these things in future, and you rue the erroneous past. The end of this first semester at Centre has been one of those moments. By and large, I'm happy with the way things went: I've learnt from my experiences, from my mentors, and most importantly, from my students. It's been a long 15 weeks, and while I'm glad it's over, I'm also keenly aware that there's far more to come. Who knows what the future holds? While I'm recharging the batteries in California, I'm also taking the time to reflect on the work that lies ahead.

noreply@blogger.com (Jamus) — Tue, 30 Jul 2002 02:26:00 +0000

It is perhaps ironic that my baptism of fire into the environmental fervor that is Santa Cruz began with a teaching assistantship in the Environmental Studies department. You see, the isle that I call home - Singapore - is a center of straightjacketed bureaucratic efficiency finely balanced with a free-market parlor that is akin to religious extremism. Unbridled capitalism has always rode on the forefront of my mind as a solution to a multitude of economic ills; consequently, environmental awareness was nothing more than a passing footnote, a fancy that the rich nations of the world enjoyed - not a concern of developing countries struggling to raise their living standards.

The tools that were used were all familiar - the subject matter, admittedly, was foreign - but being a teaching assistant did not require one to be personally passionate about what one teaches - just competent. Yet, as the quarter wore on, the stark realities of the consequences of continued ignorance of the environment by the world at large dawned upon my stubborn psyche. Natural resources were being overexploited. Existing technologies, whose continued operation would eventually erode the already fragile biosphere, had to be replaced with clean technologies. The abject poverty of a large proportion of the world's population was inextricably linked to the future well being of all the peoples of the world. And the Multhusian melodrama of a population explosion became more and more convincing in my mind. Sustainable development - so often tossed around in academic circles but rarely given due attention - could not merely remain a textbook concept. It had to be confronted, debated, effected.

This came to an inexorable intersection as we examined the global impact of human behavior on the environment. The issues addressed immediately began to challenge my assumptions - long ingrained as an economist - on the benefits and costs of free trade, the insatiable drive to improve GDP per capita, the mechanisms that translate theoretical studies into practical reality.

Take, for example, the case of global warming. At the Earth Summit meeting in Rio de Janeiro in 1992, world leaders signed a pledge seeking to maintain greenhouse gas emissions at roughly 1990 levels by the year 2000. In 1996, a United Nations-commissioned Intergovernmental Panel on Climate Change further lent further credance to this issue in its conclusion that there was a "discernible human influence on [the] global climate" (See the various reports by the IPCC, including Houghton, Ding, Griggs, Noguer, van der Linden & Xiaosu (1996, 2001). The IPCC website has full-text access to summaries). The implications were clear - left to its own devices, private firms would underestimate the costs of industrial production, and the residue of this oversight could irreparably threaten the continued life and progress of countries all over the world. The international offspring of this effort to reverse global warming - the Kyoto Protocol - was established in 1997, and a full 170 nations agreed to voluntary reductions in greenhouse emissions to 1990 levels. Yet, as of today, diplomatic frictions, bureaucratic foot-dragging and political interests have combined to result in not a decrease, but an increase in emissions of 10 percent or more in some cases. Evidently, the classic Prisoner's Dilemma that arises from countries' strategic choices governs the behavior of nations with regard to environmental issues; as a result, a system that is both compatible with sovereign economic incentives as well as feasibly realized at an international level is required. Any attempt to glaze over the issue will only delay the inevitable need to address the problem later, and this delay could well introduce new constraints into an already complex situation.

The benefits that accrue to the market as an efficient allocation mechanism, admittedly, remain large. However, there is a need to tamper this frictionless world with real-world rigidities, political realities, and environmental externalities. Any thesis of the way the world works that glosses over these facts will remain necessarily incomplete, and wholly unsatisfactory. Worse, it might lead to policy decisions that are erroneous at best and disastrous at worst.

If, then, a measured skeptic such as a myself can, when presented with the undeniable facts, be converted, then perhaps there is hope that, one day, many others will come to a recognition of the truths surrounding the environment. And while you may not find me picketing Starbucks any time in the near future, you will, however, have one more voice seeking to axe the path dependency that we find ourselves in, and hoping to preserve a beautiful world for our children's children.

noreply@blogger.com (Jamus) — Tue, 30 Jul 2002 02:18:00 +0000

Although a salient argument can be made about the tendency for Hollywood to sensationalize and thereby possibly mislead audiences in the name of artistic license, 'A Beautiful Mind', the recently-released movie about John Nash (starring Russell Crowe as Nash) is clearly a poetic rendering of a primary contributor to economic theory as it stands today, and deserves a viewing for any economist, mathematician, or game theorist that have been acquainted with Nash's Nobel Prize-winning ideas.

Clearly, the Nobel Prize does possess a somewhat checkered history, and the Nobel committee's rules that it never be awarded posthumously has come under criticism before. Yet, to dismiss its importance and prestige by listing personal favorites who failed to attain the Prize or comparing it to accolades offered by the entertainment industry denies and implicitly discredits the intellectual brilliance of the scientists and authors who have invested a lifetime seeking to make significant contributions to their respective fields. Hence, perhaps, there is some justification for the omission of certain more glaring, and perhaps, embarrasing aspects of Nash's personal life.

Although it has become the common rant of nonacademics to assert that the unfortunate reality of academic research is simply a steeplechase of wealth and fame (recall, "publish or perish"), it vastly oversimplifies and insults the vast majority of academics who tirelessly devote their lives to shaping young minds, and the effort and dedication that these individuals expand in that endeavor. Furthermore, contrary to the common misconception that academics live in ivory towers and not in the real world, there is clear evidence that the informed contributions of these scholars have led to improvements in our quality of life, a better knowledge of the world around us, and - even - a superior approach to conservation and sustainable development.

And although the awarding of the Nobel in economics is, by definition, a subjective affair, few economists would begrudge the receipients their due honor. Nobellists have been instrumental in shaping the vast body of work that has proceeded since (and indeed, before) the first awardees in 1969, and the work of these economists, as well as their peers, have afforded a better life to millions of people around the world - from that of helping the developing world (Theodore Schultz and Arthur Lewis, Nobellists '79), to increasing economic growth (Robert Solow, Nobellist '87), to improving the welfare of the poor (Armartya Sen, Nobellist '98). And of course, the work that led to John Nash's shared Prize in '94, as well as his other pioneering contributions in game theory, is today the basis for understanding an entire range of strategic behavior - from the interactions between corporations and nations to biological processes. Not least, recent extensions have also made use of game theory in international economics (especially strategic trade behavior) and political economy.

Hence, in summary, do watch and enjoy the movie. And if it inspires and informs, then go the next step and read the book (Nasar 1998).

noreply@blogger.com (Jamus) — Tue, 24 Jul 2001 06:44:00 +0000

I think that there is a need to recognise the fact that ICT has been very much of an intellectual 'fad'. ILO's 2001 World Employment Report has an ICT theme ('Life at Work in the Information Economy'). The UNDP, in its 2001 Human Development Report, devotes the volume to technology ('Making New Technologies Work for Human Development'). The G8 talks about it. Even the IMF (World Economic Outlook, May 2001) and World Bank (World Development Report 1998/99, 'Knowledge for Development') see a need to pay ICT some attention. There are obviously countless other examples.

Of course, as with any general purpose technology, ICT has tremendous potential to affect most, if not every, sphere of economic life - that is the very definition of a general purpose technology. However, as recent news reports have no doubt made clear, there has possibly been an overestimation of the impact of ICT on economic activity - see, for example, Jeff Madrick's May 11 article in the IHT ('High Tech and New Economy: Big Idea Deflates'). Also, keep in mind that ICT sector employment only constitutes 5 per cent of the U.S. economy, and this is not very different for Asian economies either. Note, however, that there are those who believe that ICT might just have a disproportionate impact on economies, relative to size ('Shifting Cycles: New Economy Becomes the Only Economy', IHT, Jul 23, 2001).

With regard to development, technological progress is familiar territory. ICT is but another form of technological advancement (and its most visible in our time), although it is arguable that the invention of the steam engine or the dynamo might have had far greater positive impact on the economic progress of mankind in general. It is important to keep this in perspective. Still, ICT does represent improvements in technology, and so has legitimate claim to being the source of growth - mainly via the channel of productivity (or more specifically, total factor productivity).

The picture becomes more mixed when it comes to poverty alleviation. My take on the recent literature on the so-called 'Digital Divide' created by ICT and the counterargument in the form of 'Digital Dividends' accruing to ICT has been that ICT presents both opportunities and challenges to economies, and whilst exploiting ICT is important, it is by no means the panacea for all economic ills. Recall, the economies of East Asia have all been exposed to ICT in some form or other, and yet we can see both clear successes as well as those that look like they have been, or might be, left behind. ICT bring both benefits as well as creates new concerns.

Undoubtedly, ICT will impact on areas such as healthcare (especially via biotechnology and bioinformatics), education (mainly through delivery and interactivity), the environment (ICT is a major aid to studies on environmental change and control), and many others. So did electricity. But we still have with us cancer, illiteracy, and pollution. And - closer to the interests of this list - ICT will change the way political systems operate, and can very possibly lead to the greater empowerment of the individual citizen (through enhancing civil society dialogue amongst the grassroots and with governments). But it is also a system for possible oppression, eroding privacy and raising big-brother issues.

For me, the bottom line is this: study ICT, try as far as possible to exploit its use, and form policy to address issues that arise. Don't expect it to solve the world's problems; use it as a tool and not as a medicine.

noreply@blogger.com (Jamus) — Fri, 20 Jul 2001 07:15:00 +0000

Recent critique of the new Basel Capital Accord has centred on several key issues.

The first of these is concerned with the adequacy of the suggested risk model in capturing risk, especially the systemic risk present in a financial crisis - the very form of risk that the new framework seeks to address. Risk is meant to be an endogenous process, and sadly, the employment of a uniform risk assessment model does not capture this fact; indeed, by requiring that market participants utilise a common model, there is an inadvertent flattening that increases the homogeneity of risk profiles in players.

The second set of concerns involves the utilisation of the Value at Risk (VaR) methodology. VaR requires that certain restrictive assumptions - such as the elliptical (normal) distribution of returns - be fulfilled in order to work, and unfortunately, credit and market risks do not satisfy this pre-requisite.

Also, the incorporation of the somewhat arbitrary estimates of ratings agencies. Besides the well-known rule of thumb among Wall Street suits that discounts agency ratings by a notch or two, their inconsistent and unregulated forecasts are also likely to lag real time, since there are inherent forces - such as the reliance on accounting data and preferred non-volatility - that guarantee a certain degree of inertia in their recommendations.

Fourth, the incorporation of operational risk into the general model does not seem to be justified, as operational risk is often idiosyncratic, and hence immune to contagion. Furthermore, measurement problems plague the ability to accurately quantify this concept.

Last, these proposals lead to a major problem: that, in sum, the proposals would also serve to accentuate and not mute the procyclicality of regulation and the susceptibility of the financial system to systemic crises. This is a genuine fear, and if the Accord is eventually implemented, one dreads the day when it is inevitably tested.

noreply@blogger.com (Jamus) — Tue, 26 Jun 2001 06:34:00 +0000

Sun's decision to allow Java to access physical memory in order to offer real-time applicability through enhanced performance is, in my opinion, an unfortunate compromise of its "write once, run anywhere" maxim. It represents an adulteration of an unblemished concept in multi-platform computing for the sake of wider applicability in commercial systems. This act is nothing short of corrupting not just the language, but the entire concept of seamless computing, and it is a sad, sad day for the industry.

A better solution would have been to offer an enhanced version - call it something like Mocha Java - and leave the original the hell alone. This preserves the beauty of the original concept that won so many converts and yet allows Sun to tailor the language to allow for time-critical computing. This is not simply a matter of semantics. The introduction of a deflowered Java not only makes Sun out to be a hypocrite - recall its condemnation of Microsoft when it introduced proprietary functions into Java - but also leaves the door closed for programmers who would rather work with the real McCoy.

The ultimate losers will be the consumers. With the ability to access memory, Java is now amenable as a virus vector, and unless there are specific steps taken by browser clients to isolate the new Java from the old - if that is possible at all - malicious hackers now have a fresh avenue for the creation and dissemination of Melissa & Co.

noreply@blogger.com (Jamus) — Thu, 21 Jun 2001 08:45:00 +0000

The Australian government is having problems with its GST component of the overall tax reform package, prompting many to strike out at it. True to form, I beg to differ.

The GST, in itself, it not inherently evil (much as we would like to make it out to be). There is a very fine economic argument for the implementation of a GST - individuals who consume more goods and services should pay more tax, and this form of taxation is far broader and infinitely harder to dodge, not to mention its contribution to promoting greater equity.

However, what is happening is that governments are taking a good idea and getting the implementation all wrong. Ideally, the GST should replace income taxation entirely - and if the economic calculus is done right, there should be no significant changes in the tax burden faced by individuals. Obviously, reality is not that simple, due to differences in preferences and lifestyles between consumers, and the unwillingness of governments to completely forgo income taxation.

However, even granted these variances, there shouldn't be major changes in the taxes paid by individuals. This is obviously not happening is Australia, at least on the basis of anecdotal evidence. It has somehow failed in its homework, or has intentionally done so to enrich its coffers (for which, if true, they will likely pay the price at the next elections).

I would argue that this failure to correctly implement the GST is not inherent in the theory itself. As a counterexample, consider the case of Singapore, which implemented a GST system some time in the 1990s. As part of the tax reform package, it slashed income taxes at all levels, and imposed a small 3 per cent GST. Despite the initial fears, most Singaporeans do not now suffer from an increased tax burden, nor are they clamouring that the government has mugged the economy.

Hence, rather than instinctively striking out at the failure of the programme in Australia, perhaps we should also look at why it failed. Was it due to negligence on the part of those who planned the tax? Or is it simply a matter of teething problems, due to unanticipated realities in implementation? And how fast is the Australian government working to remedy this problem?

noreply@blogger.com (Jamus) — Sat, 07 Apr 2001 05:46:00 +0000

Marginal notes is meant to archive comment, opinion, and speculative thoughts on the world economy and economics that are too discrete or brief to justify the effort required to translate them into an article. My manifesto: I expect, more often than not, to be wrong here. I will, as such, be more blunt on issues as they cross my mind. No political correctness. No elaborate justifications. Just unpolished economics, in the raw.