A Clarion Call for Emerging Markets

Eswar Prasad


ITHACA – With 2012 underway, it is worth reflecting on how a decade of strong economic growth in emerging markets led to last year’s resounding political transformations. From the dramatic events in the Middle East, to the groundswell of support for the anti-corruption crusader Anna Hazare in India, leaders in emerging markets are getting a clear message from the streets that growth is not everything. They ignore this message at their peril.

Emerging-market economies delivered solid growth during the 2000’s, and even survived the global financial crisis without a growth collapse. But the specter of rising corruption is compromising the legitimacy of their economic gains and eroding support for further reforms needed to sustain their growth momentum.

Corruption takes many forms, but, in emerging markets, a combination of factors has turned it into a cancer that ultimately topples regimes. Relentless low-level corruption is a major irritant for poor people in many of these countries; indeed, it limits their access to the social services and basic government functions that they often depend upon for their very survival.

Another type of corruption involves siphoning enormous sums of money from large-scale projects. In India, for example, the government lost as much as $30-40 billion of much-needed revenue when coveted band spectrum was sold through a rigged auction.

For ordinary people, large-scale corruption is less visible, because, while the sums involved are mind-boggling, the costs are not as directly felt as they are in the case of lower-level graft. But the perception of this type of mega-corruption has changed as rapid growth has increased inequality.

In countries like China and India, rapid economic growth has lifted a huge number of people out of poverty. But the fruits of globalization and rapid growth have not been evenly shared – the rich become super-rich, even as a large fraction of the population remains destitute.

Rising income inequality is hardly limited to emerging markets, but their combination of open corruption and pervasive inequities creates a toxic brew that is undermining support for reforms that would strengthen and consolidate their economic gains.

In many emerging markets, a lack of political freedom adds to the combustible mix. The combination of corruption, inequality, and political repression builds up enormous pressure, and there are no institutional channels through which to release it.

But freer political regimes are not a panacea. In a democracy like India’s, the politically well-connected benefit from skewed growth, thus increasing the resentment of those left behind. The opportunity to “throw the rascals out” in each election cycle helps to let off some steam, but it does not resolve the problems that are generating it.

It is difficult to predict what triggers popular protest, but economic factors are key. For example, rising food prices tend to hurt the poor, especially the urban poor, who spend a large share of their income on food; unlike agricultural workers, they receive none of the benefits of higher food prices. With swelling urban populations, it will become increasingly difficult to keep a lid on these pressures.

Some governments have reacted to recent events with political repression, information blackouts, or a combination of authoritarian measures. China, for example, blocked media coverage of the Egyptian protests. The Arab Spring, however, reveals the fragility of repressive political regimes that try to maintain their legitimacy by limiting information flows.

The main lesson for dynamic emerging-market countries is that an exclusive focus on GDP growth may ultimately not be good for economic and political stability. Even with rapid increases in national income, if these countries’ leaders do not distribute the benefits fairly, they will become vulnerable to popular discontent. Tackling corruption is critical to improving long-term growth and maintaining social stability.

These economies need measures that help to keep the poor out of poverty traps, and that give them realistic opportunities to improve their economic well-being. Such steps include broadening financial markets to give more people access to credit and investment, strengthening social safety nets to protect the economically vulnerable, and improving educational access and quality.

These lessons apply equally to advanced economies, which also suffer from rising inequality and subtle forms of corruption. But, for those wealthy economies, restoring decent growth is now the major priority.

Emerging markets have a golden opportunity to build on their economic gains and lock in growth and stability by tackling deep-seated problems like corruption. As the past year’s events have shown, the costs of inaction could be calamitous.

Eswar Prasad is a professor of economics at Cornell University and a senior fellow at the Brookings Institution. He is the author (with M. Ayhan Kose) of Emerging Markets: Resilience and Growth Amid Global Turmoil.

Copyright: Project Syndicate 2012.


FEBRUARY 14, 2012, 5:26 P.M. ET

Japan Central Bank Joins Peers in Opening Spigots


The world's major central banks are opening up the monetary spigots once again, pumping new money into their economies to bolster growth.

The famously conservative Bank of Japan surprised the markets on Tuesday with two new measures to battle the country's long-running decline in prices, or deflation. The Japanese central bank announced a sizable ¥10 trillion ($129 billion) expansion in an asset-purchase program to ¥65 trillion by purchasing more long-term government bonds. Also, for the first time the bank set what amounts to a numerical target for inflation.
The BOJ action followed the Bank of England's vote last week to increase its government-bond purchases and the European Central Bank's move last week to expand aspects of its program of making cheap three-year loans to European banks. These announcements followed the U.S. Federal Reserve's signaling last month that it could hold interest rates near zero through 2014 and is considering another round of securities purchases to support the U.S. recovery.
Although the central banks were responding to different domestic concerns, all the actions were aimed at strengthening weak economies. While the world's top central bankers are in frequent contact, there was no sign the decisions were coordinated.

"For all of these economies, we're in the midst of a disappointing recovery," said Nathan Sheets, a Citigroup economist and former head of the Fed's international affairs group. He said he sees a "follow the leader" pattern in the latest moves, with other banks stepping up after the Fed's action.
The central bank bond purchases, called quantitative easing, or QE, generally are meant to drive down long-term interest rates and spur spending and investment. The measure can also have the effect of weakening a country's currency, making its exports more competitive on world markets.
In the U.S., the Fed has already conducted two rounds of such bond buying, and some officials are considering more because the recovery remains slow and unemployment is still high, at 8.3%. The U.S. job market has improved, but U.S. auto sales were soft in January and many economists have reduced their estimates of 2011 fourth-quarter growth a bit in recent days.

Critics inside and outside the Fed say the program would do little to boost growth while raising the risks of greater inflation. The Fed's "accelerationist" policy "is risky and the potential costs may be quite high," Charles Plosser, president of the Federal Reserve Bank of Philadelphia and a critic of the Fed's easy money policies, said in a speech Tuesday.
In Japan's case, the bank hopes the bond purchases encourage more economic activity, causing prices to rise. Another BOJ goal could be limiting the appreciation of the yen, or even weakening the currency, which has risen in recent months.
"We have entered an era of 'competitive QE,' " said Alan Ruskin, a Deutsche Bank economist, in a note to clients. He noted that Japan's large intervention in foreign-exchange markets last year to restrain the yen's rise drew rebukes from U.S. and European governments. "For the BOJ, 'competitive QE' is at least a partial substitute for direct [foreign-exchange] intervention," Mr. Ruskin said.
The BOJ may have worried that another round of Fed bond purchases would put new upward pressure on the yen, said Tomohiko Katsu, a trader at Shinsei Bank. "The BOJ apparently wanted to let the yen fall before a further credit easing by the Fed causes a new round of yen-buying."
It is by no means certain that Fed officials will approve more bond buying when they next meet on March 13.

Fed Chairman Ben Bernanke has said the decision will depend on the performance of inflation and the broader economy.
BOJ Gov. Masaaki Shirakawa said that outside pressure wasn't involved in the Japanese central bank's decision.
Last week, the Bank of England voted to increase its government-bond purchases by £50 billion ($79 billion), bringing the total amount since the program began in 2009 to £325 billion, equivalent to roughly 20% of U.K. gross domestic product.
Last week, the ECB said it would allow several of the 17 national central banks in the euro zone to expand the types of collateral they accept for ECB loans, which could free as much as €700 billion ($923 billion) in new assets that can be used as collateral for the ECB loans. ECB President Mario Draghi has said he expects "substantial" demand for this month's loan offering.
The BOJ also said it would carry on with its easy money policy to achieve a price stability "goal" of 1% in the consumer-price index for the time being and 2% or lower in the medium to long term. The bank's announcement followed the Fed's decision last month to introduce a long-run inflation goal of 2%, which prompted Japanese lawmakers to turn up the heat on the BOJ to do the same.
"The BOJ never succumbs to political pressure when it implements monetary policy," Mr. Shirakawa said.

.He added that the central bank listened to a "wide range of opinions, including discussion in the parliament and among economists and market participants."

.—Brian Blackstone contributed to this article.
Copyright 2012 Dow Jones & Company, Inc. All Rights Reserved

February 13, 2012

The Materialist Fallacy


The half-century between 1912 and 1962 was a period of great wars and economic tumult but also of impressive social cohesion. Marriage rates were high. Community groups connected people across class.

In the half-century between 1962 and the present, America has become more prosperous, peaceful and fair, but the social fabric has deteriorated. Social trust has plummeted. Society has segmented. The share of Americans born out of wedlock is now at 40 percent and rising.

As early as the 1970s, three large theories had emerged to explain the weakening of the social fabric. Liberals congregated around an economically determinist theory. The loss of good working-class jobs undermined communities and led to the social deterioration.

Libertarians congregated around a government-centric theory. Great Society programs enabled people to avoid work and gave young women an incentive to have children without marrying.

Neo-conservatives had a more culturally deterministic theory. Many of them had been poor during the Depression. Economic stress had not undermined the family then. Moreover, social breakdown began in the 1960s, a time of unprecedented prosperity. They argued that the abandonment of traditional bourgeois norms led to social disruption, especially for those in fragile circumstances.

Over the past 25 years, though, a new body of research has emerged, which should lead to new theories. This research tends to support a few common themes. First, no matter how social disorganization got started, once it starts, it takes on a momentum of its own. People who grow up in disrupted communities are more likely to lead disrupted lives as adults, magnifying disorder from one generation to the next.

Second, it’s not true that people in disorganized neighborhoods have bad values. Their goals are not different from everybody else’s. It’s that they lack the social capital to enact those values.

Third, while individuals are to be held responsible for their behavior, social context is more powerful than we thought. If any of us grew up in a neighborhood where a third of the men dropped out of school, we’d be much worse off, too.

The recent research details how disruption breeds disruption. This research includes the thousands of studies on attachment theory, which show that children who can’t form secure attachments by 18 months face a much worse set of chances for the rest of their lives because they find it harder to build stable relationships.

It includes the diverse work on self-control by Walter Mischel, Angela Duckworth, Roy Baumeister and others, which shows, among other things, that people raised in disrupted circumstances find it harder to control their impulses throughout their lives. It includes the work of Annette Lareau, whose classic book, “Unequal Childhoods,” was just updated last year. She shows that different social classes have radically different child-rearing techniques, producing different outcomes.

Over the past two weeks, Charles Murray’s book, “Coming Apart,” has restarted the social disruption debate. But, judging by the firestorm, you would have no idea that the sociological and psychological research of the past 25 years even existed.

Murray neglects this research in his book. Meanwhile, his left-wing critics in the blogosphere have reverted to crude 1970s economic determinism: It’s all the fault of lost jobs. People who talk about behavior are blaming the victim. Anybody who talks about social norms is really saying that the poor are lazy.

Liberal economists haven’t silenced conservatives, but they have completely eclipsed liberal sociologists and liberal psychologists. Even noneconomist commentators reduce the rich texture of how disadvantage is actually lived to a crude materialism that has little to do with reality.

I don’t care how many factory jobs have been lost, it still doesn’t make sense to drop out of high school. The influences that lead so many to do so are much deeper and more complicated than anything that can be grasped in an economic model or populist slogan.

This economic determinism would be bad enough if it was just making public debate dumber. But the amputation of sociologic, psychological and cognitive considerations makes good policy impossible.

The American social fabric is now so depleted that even if manufacturing jobs miraculously came back we still would not be producing enough stable, skilled workers to fill them. It’s not enough just to have economic growth policies. The country also needs to rebuild orderly communities.

This requires bourgeois paternalism: Building organizations and structures that induce people to behave responsibly rather than irresponsibly and, yes, sometimes using government to do so.

Social repair requires sociological thinking. The depressing lesson of the last few weeks is that the public debate is dominated by people who stopped thinking in 1975.

February 13, 2012 7:26 pm

An American budget for the rich and powerful

President Barack Obama’s budget for 2013 will set off a vitriolic battle. Republicans will rail against the Democrats’class warfare” and Democrats will rail against the Republicans’coddling of the rich”. Yet it is mostly for show. The rich will win in their fund balances while probably losing at November’s presidential polls, and the poor and working class will probably re-elect Obama but suffer a continuing decline in relative and perhaps absolute incomes.

Consider the bottom line of the Obama budget. The policy is to cut total primary (non-interest) federal spending from about 22.6 to 19.3 per cent of gross domestic product from 2011 to 2020, while revenues would rise from recession lows of about 15.4 per cent of GDP in 2011 to some 19.7 by 2020.

Compare that with Republican congressman Paul Ryan’s budget a year ago. Mr Ryan’s budget aimed for about 17 per cent of GDP in primary outlays by 2020, with revenues at about 18 per cent of GDP.

The difference is modest, but the important fact is this. Both sides are committed to significant cuts in government programmes relative to GDP. These cuts will be especially swingeing in the discretionary programmes for education; environmental protection; child nutrition; job re-training; transition to low-carbon energy; and infrastructure. The entire civilian discretionary budget will amount to only 2 per cent of GDP, or less, as of 2020, in the budget plans of both Obama and the Republicans.


There are far better alternatives for America’s future. Successful northern European countries spend much more as a share of GDP on early childhood development, family support, job training, science and technology, and infrastructure, and they raise higher tax revenues to pay for them. Through a better balance of private and public investments they achieve lower unemployment, lower trade deficits, lower budget deficits, less poverty, longer holidays, better child care, higher life expectancy and higher reported life satisfaction.

The true nature of Washington politics is thinly disguised by the heated political debate between them. Both parties depend on the money of rich corporate contributors from Wall Street, big oil, private healthcare, real estate, arms contractors and other corporate lobbies. Both cater to corporate desires, especially for tax cuts, unregulated executive pay and weak corporate regulation.

It is true that the parties’ economic policies are not identical. Mr Obama proposes to raise the top tax rate slightly from 35 per cent to 39.6 per cent. He advocates a minimum tax rate of 30 per cent on millionaires. These are modest measures and will be blocked by Republicans in Congress. He also resists even larger Republican cuts to programmes for the poor that are already on the chopping block. Yet Mr Obama also dangles the lure of further tax reforms to cut top personal and corporate income tax rates.

The plutocratic Republicans rail at Mr Obama’s modest proposals as if small tax increases or continuing small benefit programmes for the poor would end the liberty of America’s job creators” – to use the Republican sobriquet for the rich. The public knows better. The public will likely back Obama for re-election, yet will earn thin rewards indeed for their successful vote.

Conceptually, US politics fits a modified version of the famous median-voter theorem”, in which two political parties gravitate to nearly identical platforms to contest elections in the “middle”. In the US version, the parties converge not to the centre of public opinion, but well to the right of centre. They do so because electoral success depends not only on policy positions but also on raising huge campaign funds. Mr Obama has calibrated this well. His core constituencies of poor and working-class voters are the losers for it, though still better off than with a Republican president.

There are very high long-term costs to all this. Main street is in decline, despite the recent optimism over a revival of hiring. One of every two Americans is now in a low-income household. Only about one-third of Americans aged 25-29 have a bachelor’s degree, and the college completion rate falls to a distressing 11 per cent among young Hispanic men. Mr Obama’s policies are slightly more responsive to these realities than the Republican alternatives, but the larger truth is that a shrinking federal government will fail to meet America’s skill, education and infrastructure challenges.

Even as Democrats today praise Mr Obama and Republicans castigate him for his headline proposals to tax the rich, the budget is actually more grim news for America’s poor and working class. The poorer half of the population does not interest the Washington status quo. A third political party, occupying the vast unattended terrain of the true centre and left, will probably be needed to break the stranglehold of big money on American politics and society.

The writer is director of the Earth Institute at Columbia University and author of ‘The Price of Civilization’

Copyright The Financial Times Limited 2012

February 14, 2012

Portugal’s Debt Efforts May Be a Warning for Greece

The Portuguese public so far has generally gone along with the government’s policies, but it is starting to lose patience. Above, a protest against austerity measures last week in Lisbon.


LISBON — As debt-plagued Greece struggles to meet Europe’s strict terms for receiving its next round of bailout money, the lesson of Portugal might bear watching.

Unlike Greece, Portugal is a debtor nation that has done everything that the European Union and the International Monetary Fund have asked it to, in exchange for the 78 billion euro (about $103 billion) bailout Lisbon received last May.

And yet, by the broadest measure of a country’s ability to repay its debts, Portugal is going deeper into the hole.

The ratio of Portugal’s debt to its overall economy, or gross domestic product, was 107 percent when it received the bailout. But the ratio has grown since then, and by next year is expected to reach 118 percent.

That’s not necessarily because Portugal’s overall debt is growing, but because its economy is shrinking. And economists say the same vicious circle could be taking hold elsewhere in Europe.

Two other closely watched countries on the debt list, Spain and Italy, now also have rising debt-to-G.D.P. ratios — even though they, like Portugal, have adopted the budget-slashing and tax-raising measures that the European officials and the I.M.F. continue to prescribe.

And on Tuesday, new figures showed that the Greek economy shrank even more than expected last year, as Greece struggles under ever heavier austerity demands by its European lenders.

Without growth, reducing debt levels becomes nearly impossible. It is akin to trying to pay down a large credit card balance after taking a pay cut. You can slash expenses, but with lower earnings it is hard to set aside money to pay off debt.

Vitor Gaspar, the Portuguese finance minister who came to power as part of a new government last summer, is highly regarded by European economic and finance officials. He has reduced the government’s budget deficit by more than one-third so far, through tough measures that include cuts in spending and wages, pension rollbacks and tax increases.

But many economists say those moves are also a reason Portugal’s economy shrank by 1.5 percent in 2011 and is expected to contract by 3 percent this year.

Portugal’s debt is just not sustainable,” said David Bencek, an analyst at the Kiel Institute for the World Economy, a research organization in Germany. “The real economy does not have the structure to grow in the future and thus will not be able to pay back its debt in the long run.”

The Portuguese public has so far has generally gone along with the government’s policies without the violent demonstrations that have rocked Greece, but it is starting to lose patience.

On Saturday, more than 100,000 people assembled peacefully in Lisbon’s sprawling Palace Square to rally against the austerity measures and the nation’s 13 percent unemployment, while chantingI.M.F. doesn’t call the shots here!” The head of Portugal’s largest labor union vowed to hold additional protest rallies around the country.

The I.M.F., for its part, predicts that Portugal will eventually grow enough to reduce its debt to a manageable level. But even the I.M.F. warns in its recent economic review that if growth were to disappoint, Portugal’s debt “would not be sustainable.”

The finance minister, Mr. Gaspar, an economist who is a former research director at the European Central Bank and a disciple of the bank’s austerity-focused philosophy, insists that his country’s debt is manageable. And he has no plans to ease up. This year he intends to slash government pension payments by 1.2 billion euros, or close to $1.6 billion, and cut the bonus payouts that public sector workers in this country have long earned.

In discussing his record, Mr. Gaspar prefers to focus on the effect his efforts have had on Portugal’s budget deficit — the difference between what it spends and what it takes in — which has fallen to 5.6 percent last year, from 9.1 percent in 2010. For this year, Mr. Gaspar forecasts a decline to 4.5 percent.

“We have delivered, and our adjustment program stands out in the euro area,” he said during an interview on Friday in the ornate surroundings of the finance ministry here.

Once Portugal’s budget reforms take hold, Mr. Gaspar predicts, the country’s economy will grow by more than 2 percent from 2014 on, and the debt will fall accordingly.

Mr. Gaspar has won plaudits from Europe’s leadership and the I.M.F., which are eager to champion an exemplar of economic revamping in contrast to Greece’s unspooling disaster. In fact, Portugal is deemed such a model of reform that the Europe Union and I.M.F. are widely expected to come up with more money for Portugal next year if necessary — as was suggested in an overheard exchange between Mr. Gaspar and the German finance minister at a meeting last week in Brussels.

But as Portugal’s slowly rising debt-to-G.D.P. ratio indicates, being Europe’s model debt patient does not necessarily make it easier to get out of debt. Others might find it even tougher.

Spain, whose debt-to-G.D.P. ratio was 36 percent before the debt crisis began, is projected to be more than double that — 84 percent — by 2013. Italy, whose ratio was already at 105 percent in 2009, is expected to reach 126 percent by next year.

Greece’s number is even worsenearly 160 percent by the most recent measure. And that calculation was made last week by the Europe’s official Eurostat research organization, before the Greek government on Tuesday released its latest economic figures showing that its economy shrank by 7 percent in the fourth quarter and by 6.8 percent for all of 2011 — even worse than the full-year contraction of 6 percent Athens had expected. Even if Greece receives all the bailout money it has been promised — a sum sure to exceed 200 billion euros — its debt-to-G.D.P. ratio is still expected to be onerous, 120 percent, in the year 2020. That grim outlook even factors in the big write-down of its debt that Greece is now trying to negotiate with its private creditors and the European Central Bank.

If Portugal and other European debtors find it increasingly difficult to pay off their creditors because of slow or no growth, some experts predict they, too, might eventually need to negotiate debt write-downs. That was how things played out in Latin America in the 1980s, once it became clear that the I.M.F.’s relentless austerity push was impeding the growth that countries needed to pay down debt.

Charles Wyplosz, an international economist, argues that until economic activity resumes in debt-burdened countries like Greece, Portugal and Italy, it is pointless to punish citizens with growth-sapping policies.

“It’s all pseudo-science,” he said. “That is why I think Portugal will have to default on its debt, and you can argue that Italy will have to restructure as well.”

Mr. Gaspar, though, contends that once his country’s reforms take hold, “we will put our debt-to-G.D.P. ratio on a sustainable path again.” And he is adamant that Portugal will not try to renegotiate its debt obligations, because of the permanent damage it might do to Lisbon’s reputation as a borrower.

“That possibility is completely excluded,” he said, adding that George Washington believed one of a country’s most precious assets was its ability to borrow on the bond market.

Economists accept that during the initial stage of a major spending adjustment program, the debt-to-G.D.P. ratio will spike as economic growth suffers. The bet, however, is that over time the economy will pick up enough that the country starts to generate a primary surplus — that is, a budget in the black, once debt payments are excluded.

But there are many who believe that just as Greece’s debt picture is fundamentally untenable, so is Portugal’s.

According to the calculation of Mr. Bencek, the economist, Portugal would need to produce a primary surplus of about 10 percent of G.D.P. in the coming years to reduce its debt ratio to a permanently serviceable level. That, he said, would require a degree of cuts in spending far beyond what Mr. Gaspar and his team have already been able to achieve.

As even the current cuts bite ever deeper, many Portuguese are asking if it might not be better for their government to trying negotiate easier terms with its lenders.

Portugal would save 3 billion euros a year if it restructured its debt,” said Pedro Lains, an economic historian and a blogger at the University of Lisbon.

Mr. Lains spoke not only as a theorist. He feels austerity firsthand. Because his salary at the government-run university has been slashed by 30 percent in the last year, his family has needed to dip into its savings.

He said that wage contraction throughout the country was prompting increasing numbers of Portuguese to leave the country, even as their government labors to prove it is worthy to remain part of the euro zone.

Why, Mr. Lains asks, should he and his fellow citizens suffer while the bond holders get their money back? “It’s not the fault of the Portuguese people,” he said. “The fault lies with the structure of the euro.”