Stonewalling on protection

The Philippines will not offer further tariff cuts in the WTO negotiations. According to the report, policymakers are claiming that:

1. "...the country needs to adjust from the headlong rush to liberalize."

2. "The Philippines has already unilaterally brought down its tariff rates much faster than in its ASEAN neighbors and through various early harvest schemes."

3. "On the agriculture issues, the Philippines is also against several of the provisions that would further open up the Philippine market to foreign agriculture imports."

For cryin' out loud. Point 1 is vague gibberish. Point 2 is true. However consider recent study by Rafaelita Aldaba of the PIDS (pdf file): Since the 1980s major tarrif reforms have been undertaken. Currently the average tariff rate is only 6.82%. However, tariff reform remains an important arena for policy debate: Recently the dispersion in tariff rates and effective protection rates have increased. Protection has risen in agriculture, with the rice and corn receiving some of the highest rates of protection. For specific manufacturing activities, effective protection remains high (such as for pesticides, insecticides, and motor vehicles). In 2004, the weighted average of effective protection rates for exporting industries is only 1.4%, whereas for importable industries the weighted average was 11.0%. This is an important source of distortion in the allocation of resources.

Aside: an obvious measure of the rate of protection is the percentage difference between domestic and world price. This is the "nominal" protection rate. The effective protection rate adjusts this further by computing protection extended only to the value-added; in other words, tariffs on imported inputs should reduce the amount of protection.

As for Point 3: Aldaba also points out that the high tariffs for agriculture resulted from the WTO negotiations. (Talk about perverse effects!) Apparently what happened was: ceiling tariffs were set very high. Tariffs were set at that ceiling. Tariffs were then reduced according to the agreed schedule. However the final tariffs continue to confer considerable protection on agriculture.

So yes, the average tariff and protection rate is low, but its uneven distribution continues to distort the allocation of resources. So yes there is further room for tariff reduction.

Perhaps the negotiators' statements are merely a ploy to help win concessions from other countries. In that case the rough analogy is: "I'm gonna shoot my own foot, as long as the bang is loud enough to make you all deaf! The only way to stop me is that if you stop shooting your own feet too!"

Come Hong Kong in December, guess what? BANG!!!!!!

The peso's recent surge

Recently the dollar/peso exchange rate has been rising. To buy one hundred pesos, two months back you needed about 1.8 USD; these days you need about 1.85 USD. Why?

Government spindoctors have been crowing over improving confidence in the economy as the reason - with the immediate trigger being approval of the EVAT. Really? I don't know. But there is a real spike of OFW remittances, over and above the seasonality associated with Christmas. This spike is probably the result of a deeper structural change, related to supply and demand of Filipino OFWs. That is unrelated to the EVAT approval. In short, coincidence. Other sources of dollar inflow may be more sensitive to domestic policy changes. However all this is speculative.

A recent article in the Economist is a good reminder of how little we know about exchange rate movements: The currency market routinely confounds economists. A classic 1983 study by Richard Meese and Kenneth Rogoff, then both at the Federal Reserve, concluded that macroeconomic models could not explain a currency's direction of travel, let alone how far it would go. One would do just as well to assume that next month's exchange rate will be the same as this month's. After another 20 years of interrogation, the macroeconomic data has confessed little more of value.

One version of the "efficients markets" hypothesis is that exchange rates follow a random walk. What's a random walk? One simple form: the change in exchange rate is random. Models based on random walk are not inferior in predicting power than sophisticated models, say macroeconomic models, that take into account structural factors, such as purchasing power parity, differential interest rates, inflation, and so forth.

The reason perhaps is that traders' collective wisdom already incorporates these structural factors in their buying/selling decisions. What they cannot incorporate is "news" - which is random. (If it were non-random it could be predicted, and therefore not news!) The unpredictable nature of news - say those unforeseen shifts in supply and demand for OFW workers - is what introduces the random walk. On hindsight, we can perhaps tie in this particular exchange rate movement with that particular news - after considerable econometric torture. But that's only a way to get published - not rich.

Hong Kong: from toy-makers to traders

I got a question from Blur re my previous post: hi. i'm not an economist but isn't hong kong (like singapore) not necessarily overflowing with natural resources? hence, the reason for not wanting to focus on producing or manufacturing but rather to act as "middlemen" for the region (or the world)?

Hong Kong, Singapore, Japan, are all resource-poor countries. However all went through a stage of rapid industrialization. Definitely not the type of macho, large-scale, steel-based industries the nationalists favor. The classic pattern is to start with labor-intensive industries (often consumer goods manufacturing, such as apparel and footwear), to take advantage of labor abundance. Yes, that's right, start with low wage cheap labor. The glass is half full after all - the "sweatshop" is but a the first room in the corridor towards the computerized office, or even the corporate boardroom.

Consider Hong Kong: Dodsworth and Mihaljek quote Smith (1997):

When I arrived in the territory in 1970, Hong Kong’s reputation was as a low-cost manufacturer of cheap clothing, wigs, plastic goods and toys. Although the Hongkong and Shanghai Bank, Standard Chartered, and Citibank were present in Hong Kong with a group of relatively weak local banks, Hong Kong was in no sense a financial centre, let alone an international financial centre. If a trading company were to have asked its bankers for a price for U.S. dollars two weeks hence, it would most likely be told: "If you want dollars in two weeks’ time, come back then—I’m sure we will have some" (pp. 1–2).

Well, now it is:

the world’s seventh largest trading entity and seventh largest stock market; the world’s fifth largest banking center in terms of external financial transactions and fifth largest foreign exchange market in terms of average daily turnover; the world’s fourth leading source of foreign direct investment the world’s busiest container port, and one of the world’s most prosperous economies, with per capita GDP of US$24,500 comparable to all but the wealthiest industrial countries.

All that earlier Hong Kong manufacturing was domestic. Tao and Wong (PDF file) show that domestic exports in the 1970s accounted for over 80% of total exports; in recent years however re-exports (a large part of which goes to the mainland) now stands at about 70%. Within thirty years the low wage, labor -intensive manufacturing economy became a trade and financial hub.

One does not need exotic theory to explain this. One need only apply the most elementary economics. When labor is abundant relative to capital, the efficient use of resources, and one which the free market would promote, would be to specialize in labor-intensive industries. However with consistent savings, capital accumulates; labor slowly becomes scarce relative to capital, and wages start going up. Labor-intensive manufacturing disappears (the owners would go abroad for other countries in which labor remains abundant. In the Hong Kong case it was the mainland.) Either manufacturing diversifies towards capital-intensive, high technology activities, or disappears altogether, to be supplanted by services with high value-added. The former happened to Japan, and is happening in South Korea; the latter happened to Hong Kong and Singapore.

Most of the East Asian economies pursued industrial policies and export promotion; Hong Kong is unique, as it did none of this. Rather export promotion was "pursued" by engaging in free trade. Note that economy can only export (earn money from the rest of the world) by buying goods from the rest of the world (import), unless it is willing to lend indefinitely to the rest of the world. Hah, and my grandma is a TV set.

Why did Hong Kong pursue free trade? Historical reasons, apparently, according to this old Economic Times article Hong Kong used to be a duty-free port under the British. That historical heritage got embedded deep in the government psyche.

Unfortunately in other countries the psyche among policymakers and the general public (at least those with some idea about trade issues) is knee-jerk protection. Drat. At least I have the right to daydream. The Subic duty free zone, getting bigger and bigger, swallowing up Zambales, Pampanga, Tarlac, Metro Manila, Luzon, Visayas, Mindanao...

Hong Kong: a free trade country

I'm doing some research here in chilly Hong Kong. I was asking some government officials (who were very open and accommodating)about importation of fish into Hong Kong. They reminded me something I'd known but forgotten: Hong Kong is about the closest thing to a free trade economy in the world. Information on imports is collected from bills of lading; the declared values are probably accurate, because importation is duty-free, and the incentive to underdeclare (to avoid import taxes) is missing. Yep, the surest way to eliminate smuggling is to repeal tariffs and quotas.

Hong Kong has gotten prosperous without a development policy based on protecting domestic industry. It is living proof that rapid economic development is possible within a free trade regime. In fact, it is likely that free trade was one of the pillars of Hong Kong's economic boom. Perhaps its example may inspire some of our unimaginative policymakers that yes, a world without tariffs and quotas is possible, even dare I say, desirable?

Fiscal policy and supermarkets: a strange connection

Gordon and Li have a new paper explaining puzzles in the tax structure of developing countries. They note that many of the puzzles can be explained by the prevalence of the underground economy (compared to the alternative hypothesis that political economy constrains the tax authorities from exacting revenues.) The tax base consists of the formal enterprises which rely heavily on the financial sector (rather than cash transaction). It turns out that tariffs are one way of protecting the tax base (while itself a means of extracting tax revenues). Some unprincipled parties may use Gordon and Li's argument to promote tariff protection (I'm not saying Gordon and Li themselves do so). That argument (fiscal implications of tariff protection) in my mind suggests a serious practical point against tariff reform.

My thoughts then drift to an apparently unrelated topic - the rise of supermarkets. Tom Reardon has argued that the supermarket boom in developing Asia transformed agribusiness in these countries. I asked him whether there are strong fiscal implications as well. He replied, well in China one reason the small retailer lobby has not made much headway fighting the foreign retail juggernaut is that they hardly pay taxes anyway, and are viewed by the authorities as somewhat useless.

Further to Gordon and Li's point: supermarkets sell plenty of imported goods, so it is not clear whether there is a net protection effect from tariffs (it would depend on the tariff structure, I guess). Overall supermarkets represent a dramatic shift away from the underground economy. This would tend to undermine the fiscal protection argument against tariff reform. So - however wierd this sounds - optimum benefits from tariff reform may have to be accompanied by retail trade deregulation, which would expand the scope of the formal sector. If this sounds half-assed, lemme know.

Biological models

I am very pleased to have been part of a conference-workshop of biologists and oceanographers centering around a biophysical ocean-fisheries model, called NEMURO. Somehow I got invited to it by virtue of my attendance last year in a conference on "Economics of Small Pelagics", where I presented a paper on the economic implications of climate change impacting on fisheries of small pelagics. ("Pelagics" are fish that dwell at upper levels of the water column, hence they tend to be mobile fish; their bottom-dwelling counterpart are the "demersals".) This was pretty hardcore stuff, based on the physics and chemistry of the ocean (currents, nutrient flows, etc.) as well as fish ecology (growth dynamics, food web interactions, etc.) Needless to say, I contributed trivially to that part of the discussion. I did learn something (as in, not nothing) in an osmotic sort of way - in the sense that, hearing "bioenergetics" would evoke in me some faint glimmer of recognition.

I knew enough though to see that in their model, fishing mortality (% of fish that die from being caught by humans) is constant - a black box, as it were. Of course it can be adjusted by the modeler to examine impact on the fish abundance and behavior, but it in itself it is left unexplained. I argued that a complete model needs to account for adjustments in fishing pressure, which is largely explained by economics. In short, the amount caught depends not only on the available fish (biophysical component), but also on the fishing effort (economic component). More to the point, the two affect each other - the fish catch depends partly on effort, and partly on the quantity of available fish, and vice-versa, the quantity of fish depends on fishing mortality. To be fair, economists in the market forecasting business likewise treat available fish populations as a black box, or at most adjusted by modeler's discretion. I presented a paper sketching a practical way in which a grand synthesis of economics and biology (and, in principle, oceanography) can be done, in practical terms.

I think they were definitely interested in such a disciplinary interface. As a modeler, I caught on their sentiment that incorporating added complexity (economics) was far past their immediate interest - which was combining biological and physical systems. It turns out that such biophysical models are on the research frontier. My value added I believe was my assurance that for now, economic behavior can be left well enough alone. (Knowing what not to do can sometimes be as important as knowing what to do!)

Modelers proceed by an accretion of complexity, rather than attacking all the important problems at the same time. So at least economics is on this group's radar screen, perhaps as a future agendum for collaboration. I do believe that interdisciplinary work is crucial; contrary to common belief however, scientists appreciate this. They are after all people whose job is to think, which they do very well - the group I was with is a fine exemplar of that. Cross-disciplinary work is however very difficult; even scientists in allied fields have a hard time collaborating, let alone specialists in entirely different fields. Scientist-bashers tend to be very critical, mainly because of their lack of appreciation of the constraints and complexities involved (charges of "comparmentalization!" "reductionism"! "Not holistic"! can get tiresome). Trust me, we're groping towards that interdisciplinary ideal.

Bioeconomic supply-demand

The SEARCA conference ended yesterday. I caught one more paper presentation, Balisacan and Fuwa's literature survey on poverty and vulnerability. But I'm going back-to-back: I'm attending a workshop, this time on ""Global comparison of sardine, anchovy and other small pelagics ? building towards a multi-species model", in Tokyo. As the only economist in attendance, I feel like a fish out of water. (Unforgivable pun intended.) As I flounder about these arcane (to me) ecosystem models, I'll be presenting a paper that integrates simple ecological population dynamics into a standard economic supply-demand model. (When I have time I'll discuss the whys and the hows - in nonspecialist language - of this fascinating interdisciplinary synthesis. Don't ask me about its importance - I'm on the "pioneering breakthrough!!!" delusionary stage.)

Next week, I'm not sure I can keep up with regular blogging (Monday, Wednesday, and Friday, in case you haven't noticed) Try my best though.

Agricultural and rural development in Asia (2)

A few notes on the SEARCA conference:

Yujiro Hayami explores new ground with a theory of African underdevelopment. Taking off from a conjecture by co-author Platteau, he hypothesizes that property rights in African agriculture are undermined by a social norm of redistribution. These norms evolved under conditions of shifting cultivation, nomadic grazing, and land abundance, where redistribution had served as insurance against bad lack from a risky environment. However they fail to adjust to norms more respecting of property rights, once the resource condition altered to one of land scarcity. For example, a farmer who invests in improved livestock breeds, and receives higher-than-normal returns, is hounded by villagers to share the money or risk community censure, disapproval, and ostracism.

James Roumasset has a comprehensive retrospective and prospective on agricultural and rural development thinking. Obviously hard to summarize. Jock Anderson spoke on globalization and food security; he thinks that policy advice and development optimism should be tempered by real-world problems associated with risk, uncertainty, and uneven quality of governance in developing countries.

Keijiro Otsuka elaborated on the idea that population pressure leads to the development land rights (first argued by the late Ester Boserup). Based on case studies in Indonesia, Nepal, and Vietnam, he shows that land rights do evolve, in response to resource characteristics, population growth, and market conditions. Initially resources are degraded by poplation growth, but with the induced development of land rights, the resource stock recovers. Land rights need not always be private individualized ownership, though this emerges when the forest produces high-value timber and the cost of resource protection is low (i.e. accessible forest areas). Ian Coxhead also delivered a talk on poverty and the environment under globalization, but it was parallel with Kei Otsuka's so I unfortunately missed it.

How do the young say it these days? This is so not a waste of time.

Agricultural and rural development in Asia

What do Yujiro Hayami, Keijiro Otsuka, Randolph Barker, Jock Anderson, James Roumasset, Scott Rozelle, Gershon Feder, Dina Umali, Mark Rosegrant, Tom Reardon, Ian Coxhead, and Prabu Pingali have in common? They are all internationally prominent experts in agricultural economics and rural development. And they'll all be here to Manila tomorrow for a conference organized by SEARCA (Southeast Asian Regional Center for Graduate Study and Research in Agriculture.) The conference theme is "Agricultural Development: Policy Lessons from Major Ideas and Paradigms in the Past 30 Years." The field of agricultural and rural development has progressed rapidly since 1975, so the conference is a good chance to brush up on the what and the what for of these ideas.

The event is the brainchild of Arsenio Balisacan, indefatigable SEARCA Director and himself a renowned researcher on rural poverty. Joining them are well-known social scientists based in the Philippines, such as Tina David, Mahabub Hossain, Pandey Sushil, Ramon Clarete, and Gelia Castillo. It promises to be a high-quality assembly of the best minds in the field. Hayami will keynote the conference with a favorite topic of his, the role of the community and the state in development. Roumasset will review the literature on the economics of agricultural and rural development - I'll be watching out for this. Other topics include globalization impacts, agriculture and natural resources, property rights, rural finance, rural poverty, biotechnology, and agricultural extension. Aside from this there are poster papers on a wide range of topics on the general theme.

Oh me? Naah, not a star in that or any firmament, but merely moderating a session on Land Tenure (paper by Otsuka, discussed by Roumasset). I also have a poster paper on credit demand. As time permits I'll offer some conference highlights in this weblog. If you have a chance, do come.

Where the real hidden wealth of the poor lies

The Economist has a recent article on microfinance. Unfortunately it's rather slipshod writing, quite below the usual editorial standards. There's even an egregious error in computing the annual interest rate from the "5/6" practice. (Can you get the correct figure yourself? Use monthly compounding.)

There is list of factors that prevent the poor from gaining access to financial services:

Inflation tends to be high and volatile; government is often incompetent; and the necessary legal framework for financial services is often missing. Property laws can make it impossible for poor borrowers to use assets such as their home as collateral for loans.

In the past, many countries have outlawed “usury”, and today many Islamic countries prohibit the charging of interest. Governments in developing countries often impose caps on the interest rates charged on loans for the poor. Despite their popular appeal, such caps undermine the profitability of lending and thus reduce the supply of loans.

Incomplete and erratic regulation of financial institutions has also undermined the confidence of the poor in the financial services that are available. When they can find an institution that will accept their tiny deposits, it often lacks the sort of government deposit insurance that is routine in rich countries, so when a bank goes under, savers suffer. For example, Indonesia's PT Bank Dagang Bali, once known for its work with poor clients, was closed by regulators last year after it was discovered to be insolvent and riddled with fraud. Many savers did not get their money back.

Corruption is also commonplace in many developing countries. A recent study by the World Bank found that in two poor states in India where the financial system is largely controlled by the government, borrowers paid bribes to officials amounting to between 8% and 42% of the value of their loans. Corruption raises the cost of every financial transaction, allows undesirable transactions to take place and undermines consumer confidence in the financial system. This, and the related curse of cronyism, explains why access to financial services in countries where the state has control over the financial sector is poorer than where it does not.

Inadequate basic public services add to the burden on financial firms. SKS, a fast-growing microfinance institution in India, has had to build back-office systems that can work on two hours of power a day; it closely monitors voltage when its computers are running and keeps a diesel generator on hand. Many others simply give up on the idea of modern technology and continue to use paper instead. This makes them vulnerable.

I would argue though that the biggest obstacle (not mentioned above) is the very poverty of the poor. They have no collateral worth putting up. Hence, the hidden wealth of the poor is nowhere in the here and now; instead, it lies in the future, after productive opportunities (unlocked by credit) are realized. But formal lenders want some surety now about this future wealth, creating the quandary.

Removing the collateral requirement requires substitute methods of enforcing repayment. Informal moneylenders zip back and forth on motorbikes and do daily monitoring (and often, daily collection); they charge higher interest rates to recover their added monitoring costs and risk. Grameen-type microcredit relies on group liability lending; in this case it's the borrowing group which assumes much of the risk-taking and transaction costs in screening and monitoring its members. Such financial innovations are opening the way for the enterprising poor to improve their own living standards.

Nobody advocates microfinance as the solution to poverty. But it's certainly part of the solution. The poor are not more apathetic, lazy, or dishonest, than you or I. They just have less money.

Who pays for the EVAT?

Our lesson for today: Tax incidence. Exhibit A:

On the first day of EVAT GMA gave to me…Deep into Halloween night, I was snug at hearth and home, safe from the witches and all sorts of icky creatures from the dark celebrating their mardis gras, when it occurred to me that the real horror of Halloween ’05—EVAT—would be upon the populace at midnight.

I rushed to the nearest open gas station and found myself at the end of a snaking line of vehicles. You’ve ever been in line for a dozen “Amazing Glaze” at the original “GoNuts Donuts” store at the Fort? That approximates the line at the service station I went to, only longer because the queues were processions of cars, not of people.

How kind of the gas station management to open on All Souls Day to sell gas at pre-EVAT prices when it very well could have closed for the day, as most service stations did, to give their employees a chance to observe Undas, in the process conserving pre-EVAT fuel stock to be sold at E-VAT prices.


Zeroing in on the last para: it's not out of kindness that the gas stations were accommodating the gas demand at undas. It was motivated by profit maximization. Both sellers and buyers pay the EVAT; that is, profits gets squeezed too by the tax. So better sell more liters during the time that profit per liter is greater.

But isn't EVAT charged to consumers? Sure, on paper. But in the marketplace, that would only happen if the price rises by the same amount as the added tax. That's not going to happen. In fact, as the prices have been holding steady the last few days (though the EVAT is already in effect for all transactions from Nov. 1), it's clearly not happening now.

The economists' explanation for this relies on three factors (see, economics is good for something after all.) First is the fact that the price equals the cost of the last unit sold (the jargon is "marginal cost"), plus tax. Second is the fact that as price increases, consumers cut back on their spending. Third is the fact that in general, the more output is produced, the most costly is the last unit produced. So put it all together: suppose price goes up by the amount of the tax. Consumers buy less. Producers sell less. Their last-unit cost goes down. So the price plus tax goes down (relative to the original price plus tax.)

So clearly the adjustment of price, and the incidence of the tax, depends on: the rate at which last-unit cost varies with respect to output; and the rate at which buyers cut back on purchases as price increases. Once we know these, we can predict how much the market price goes up, and who pays what share of the tax. That requires a sector-by-sector analysis. No need to bore you with the details. Now you know the basic principles determining who pays for the EVAT. Or at least, you know that kindness is not one of these principles.

Privatizing the commons: the case of fisheries

The "tragedy of the commons" is directly responsible for the global fishery crisis. Few experts would agree that direct state regulation (command-and-control) is capable of ending this tragedy. The direct and more effective approach is to dec-commonize the commons, i.e. to assign property rights to fisheries. The question is at what level.

Tim Worstall argues that property rights should be assigned to individual fishers. In his sanguine view:

We actually know how to solve this problem. Seriously, we do, we know how to solve the biggest of the short term environmental problems on the planet (the only larger one is climate change which is much longer term).

This is however a bit too sweeping. Certainly in some contexts individual transferrable quotas (ITQs) would address the overfishing problem. However as shown by some research cited in a a World Bank study on saving fisheries, there are some situations where ITQs may not work. For example, in tropical fisheries in the developign world, the following preclude effective implementation of ITQ regimes:

First, the fishery is multispecies, considerably complicating the definition of total allowable catch;

Second, fishers are numerous (much more so than in the industrial fisheries in which ITQs were successfully implemented); monitoring and enforcement of individual quotas is difficult.

Third, social and market infrastructure is underdeveloped or absent. It is difficult to imagine how to set up a market for ITQs in say Batangas Bay or the Java sea.

In these cases, the second option is perhaps more appropriate: assigning property rights at the level of groups (or "community-based management"). How group rights are defined, and how groups are to operate, is however not a simple matter - Ostrom and others have studied numerous traditional and modern institutions for collective management of the commons. As with almost anything else, one can juxtapose success stories with cautionary tales. Identifying some general principles for a well-functioning collective management of the fisheries in the developing countries remains an open research problem, in which social scientists are just beginning to make headway.