Industrial Policy Showdown at World Bank: the policy that may not exist also may not work

The World Bank’s PSD Blog has a good discussion of the debate last Monday between Justin Lin (Chief Economist of the World Bank), Ann Harrison (Head of trade policy division at the Bank and well-known trade economist), and myself (random trouble-maker). The debate was very civil, and I am very grateful to Justin Lin for being so willing to debate his ideas openly (as opposed say to a former Chief Economist who forced me to seek political asylum to escape his enforcers :>) The debate basically boiled down to who is more likely to discover the country’s comparative advantage, the government or decentralized entrepreneurs.

(1) the argument for the government

-- according to Ann Harrison, there could be “latent comparative advantage” in industries with increasing returns – i.e., falling unit costs the more is produced. In these industries, they don’t have a cost advantage now because they are not producing much, but if they produced more they would have lower costs. A government could promote an industry to turn latent into actual advantage.

--according to Justin Lin, the market can handle static efficiency, but can’t handle the transition from one stage of exporting to another, like from lighter to heavier industry. All the government needs to do is look ahead at those countries ahead of it on the technological ladder and promote the next rung on the ladder to find the country’s true comparative advantage.

(2) The argument for many decentralized entrepreneurs seeking the next Big Hit

--If it's so easy for governments to do it, why do we have no success stories of imitating East Asian tigers?

--Ann pointed out that we have little evidence of any actual government policies aimed at finding “latent comparative advantage.” Even deeper than whether industrial policy works is the question of whether it even exists in the real world.

--there are almost 3000 manufacturing products to choose from, so how much guidance does the government get from looking ahead at a very broadly defined “technological ladder?” Entrepreneurs discovered such surprising Big Hits as Fiji exporting women’s cotton suits to the US and Egyptian exports of ceramic toilets to Italy.

--the central government has limited knowledge, limited skills, no direct rewards for finding winners, and lots of problems with corruption (Lant Pritchett reminded me of a recent paper that documented that we can’t even trust Indian civil servants to give out drivers’ licenses) as it tries to pick winners. Entrepreneurs have lots of local knowledge about their industry, specialized skills in that industry, abundant rewards for success, and will not steal from themselves.

--much of the “evidence” that industrial policy “works” is selectively picked from a huge amount of random variation. It focuses almost entirely on industrial policy successes and doesn’t document the much more numerous failures.

In the end, the question boils down to: does a poor country government have a comparative advantage in discovering a poor country’s comparative advantage?

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Hillary offers trade opportunities to Africa – unless we don’t feel like it

Hilary-AGOA.png Secretary of State Hillary Clinton had good news for Africa in the Nairobi forum yesterday on the US African Growth and Opportunity Act (AGOA). AGOA offers breaks from quotas and duties on African exports to the US. First enacted under Bush, AGOA is at least a partial success story, with exemplars like textile exports in Lesotho and Madagascar. Secretary Clinton yesterday endorsed new efforts to “maximize the promise of AGOA.” She declared “we are committed to trade policies that support prosperity and stability.” Except when we aren’t. AGOA privileges can be revoked for political reasons, like if the President and the US Trade Representative (USTR) decide a country does not have sufficient “rule of law.”

Which is exactly what is threatened now with that success story of textiles in Madagascar. Ever since a political crisis and change in government in Madagascar last spring, the USTR has been threatening to revoke Malagasy eligibility for AGOA, which would effectively destroy the Malagasy textile industry (worth between 6.5 and 8 percent of GDP and accounting for 50,000 jobs).

We had a previous blog post on this, which had a dramatically nonexistent effect on USTR actions.

Of course, the USTR implementing AGOA has good intentions – to promote good governance. There are two problems with this: (1) we don’t have a clue how to do this in Madagascar, and (2) why try to do it by punishing private individuals instead of the government?

On (1), Malagasy politics are not really that hard to understand, as long as you have a Ph.D. in Malagasy history, political science, sociology, economics, and familiarity with the byzantine maneuvers of the FOUR way-far-from-perfect quarreling rivals for power. All the US government asks in exchange for continuing AGOA is that these four guys who hate each other come to an instantaneous consensus on early, free, and fair elections. USTR officials confirmed to us on background yesterday that these efforts continue.

It’s not totally clear why USTR is being so insistent, when “rule of law” is so vague as to allow the eligibility of DRC, Guinea, and Guinea Bissau (as we ineffectively pointed out last time). (This arbitrariness is what justifies the snarky title of this post.)

On (2), all I have to say to elaborate on “why punish private individuals”, is – why punish private individuals?

Time is running out for Madagascar, as incentives to invest and produce for advance US orders are disappearing further the longer the USTR dithers. Political risk comes not from the Malagasy or other African governments, but from the US government’s failure to follow any consistent rule of law on how to apply the AGOA rule of law provision. This arbitrariness weakens the AGOA incentives for ALL African countries.

Please USTR, try to make Secretary of State Clinton’s promising words come true, don’t throw away one of our all-too-scarce development policy successes.

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The Soccer Theory of Globalization

by Daniel Kaplan, NYU graduate student in economics and supporter of Bafana Bafana us-soccer-players-after-spain-win.pngLast season, when the British soccer team Liverpool FC played Real Madrid, the number of Spanish players in Liverpool’s team outnumbered those playing for Madrid. This is one illustration of an emerging trend: while soccer is already the most globalized of sports, it is also fast becoming one of the most globalized professions.

As labor mobility among soccer players has increased, there has been a decline in team inequality at the country level (documented by Branko Milanovic in this 2001 paper). Although traditionally dominant teams like Brazil, Italy, France and Germany continue to win, international tournaments are becoming far more competitive.

Cases in point: at the recent Confederations Cup in South Africa, Egypt beat Italy. And while Brazil eventually won the tournament, they had to fight back from two goals down against the USA (which had never before been in a major tournament final). What is behind the leveling of the international soccer landscape, and how could these lessons be applied to developing countries struggling to benefit from globalization?

Some “soccer economists” argue that nations that are worse at soccer have benefited from exporting their players to world-class foreign clubs, where they gain valuable skills and experience before returning to play for their home country This is similar to recent literature that questions the traditional Brain Drain fear, with the Brain Circulation alternative – skilled emigrants bring home skills and connections that could be as valuable to their home country as the skills brought back by exported soccer players.

But there is also a homegrown story. As Dani Rodrik points out, the Egyptian team that beat Italy had a majority of players with experience playing in domestic, rather than foreign clubs. The USA team that similarly surpassed expectations has key players from both domestic and foreign clubs. So taking advantage of globalization perhaps requires BOTH strong domestic capabilities and international links.

One nation’s strategy for developing a strong domestic soccer league will be very different from the next. American kids who play under the supervision of soccer moms are different from the street kids in a Brazilian favela. Perhaps the venerable theory of comparative advantage needs to become more complex as each country learns to play to its strengths and use more of whatever are its most abundant resources to compete globally. And just like in soccer, it’s hard to predict who will win the game at any particular time in any particular industry. Except the nice thing about trade, unlike soccer, is that both teams win in the end.

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Here’s a US development program working – stop it immediately!

AGOA_logo2.jpg “[O]pen trade and international investment are the surest and fastest ways for Africa to make progress,” President Bush said when he signed an extension to the African Growth and Opportunities Act (AGOA) in 2004. Originally signed into law in 2000, AGOA removes US quotas and duties for thousands of products coming from some 40 sub-Saharan African countries.

AGOA has led to an overall increase of 8% in non-oil exports to the US, according to recent research. And Madagascar has been one of the program’s clearest success stories. The island nation’s exports tripled in the first three years of the program, led by strong growth in the apparel and textile sector. This sector remains vibrant in spite of the huge encroachments by China on African textile competitiveness since 2005, as well as the more recent shrinkage in global demand: textiles still account for 60% of Madagascar’s total exports, and 100,000 people are employed in the formal sector alone.

So why is the US now threatening to revoke AGOA in Madagascar?

The US government is using AGOA as a political lever to force President Andry Rajoelina’s questionable government to hold elections within the year. The textile exporters association says that the loss of AGOA would lead to downsizing and possibly even the collapse of the entire industry. Tens of thousands of jobs, and tens of millions of dollars of investment stand to be lost.

A letter that Aid Watch obtained addressed to the association of Malagasy textile exporters from the US trade rep warns ominously: “The recent events in Madagascar will be taken into consideration as the U.S. Government begins its review of Madagascar’s eligibility for AGOA in the coming months. As you know, respect for the rule of law is a condition of eligibility outlined in the AGOA legislation.”

The reasoning seems to be that political instability and violations of democratic procedures hurt the Malagasy people, so the natural US government response is to—hurt them more by taking away their jobs?

But a look at the AGOA eligibility requirements shows there is some room for interpretation. There must be, if non-shining examples of democracy like the DRC, Guinea, and Guinea Bissau get to stay on the list while Madagascar is kicked off. It turns out that the AGOA FAQ page contains a disclaimer: “Progress in each area is not a requirement for AGOA eligibility” [emphasis added].

So the USTR is not required to take Madagascar off the AGOA list, and it should not. Attorney and global regulations enforcement expert Jason Poblete said via email that “a country-wide sanctions regime is not likely warranted” and recommended a more targeted approach, such as adding the coup leaders to the list of "specially designated nationals" restricted from doing business with the US.

Another time for invoking Amanda’s Love Actually test— better for the USTR to do nothing, stay home, and watch a movie.

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