Wednesday, 16 December 2009

African free trade zone established.

26 African countries came together to form a free trade zone between them, including all of the southern and western areas of the continent. A free trade zone is characterized as an agreement between specific countries to remove any existing trade barriers regarding goods, services and capital, and yet be able to keep individual protectionist measures against goods coming from countries which are not a part of the FTA.

Why did the nations decide to do it? According to the leaders behind the decision, this FTA is aimed at countering the economic downturn as well as creating stronger bargaining power at the world stage with regards to for example trade. Also, African leaders want to engage in joint infrastructure projects, spread across the area of the FTA, and aim to stimulate the economic growth of Africa as a continent, in economically difficult times.

The agreement itself, is a collaboration of 3 already existing FTAs: Southern African Development Community (SADC), the East African Community (EAC) and the Common Market for Eastern and Southern Africa (Comesa). Another reason why all three groups decided to merge would be the fact that some countries were a part of more than 1 of these organizations.

The question is, can this large FTA successfully fight the negative downturn of the global economy? In short, it depends. As stated above, a FTA allows for free movement of goods, services and capital. This means that there is now a large group of countries, which can trade with each other freely, while keeping their own tariffs on other countries unchanged. Entering a free trade zone, would not hinder the trade balance with countries outside of the FTA, as the protectionist measures adopted by the country can remain unchanged towards these nations. There is however a large chance that by entering the zone, countries can experience higher level of exports as well as imports as well as possibly higher levels of consumer spending, eventually even investment leading to overall growth in the economies. This is developed below.

An free trade zone between African countries could lead to trade creation more so than trade diversion. The reason for this is that African nations may be able to produce something at a lower opportunity costs than other nations, however they were blocked by other countries using quotas, tariffs or subsidies. With the introduction of the trade agreement, such protectionist measures disappear, allowing countries to specialize and export products with comparative advantage in production, and import all other products. Specialization, as well as importing cheaper products from more efficient producers (this is called trade creation) would possibly lead to a fall in prices, which would provide an incentive for consumers to spend, which would increase AD, leading to economic growth. This can be especially valid since the vast majority of population in Africa is poor, which makes their marginal propensity to consume high.

There is a problem with this as well though. Considering how low incomes of majority of African people are, can consumption really increase that much? Moreover, will the imported goods actually end up being a lot cheaper (if at all) considering how bad the transporting of goods is in Africa due to lack of proper infrastructure? Maybe the transportation costs of transporting goods from Libya to Mozambique are just to high to export? All of these questions are valid concerns as to the potential increase in economic growth due to the creation of the free trade zone.

The leaders of African countries are aware of the fact that poor infrastructure is a barrier to development, and to economic growth, especially for countries with export led growth. The idea to create international infrastructure systems from airports and docks, to roads and railways. This would provide a good basis for improving export led growth, but the action in itself is a display of large government spending, which could lead to an increase in AD.

The FTA will not harm the countries joining. It may provide the stimulus necessary for countries to battle the global recession, however it is not a guarantee. It is however a strong move in terms of unity and seeking greater recognition and awareness at the world stage.

Tuesday, 15 December 2009

Globalization. Arguments for and against.

Globalization is currently one of the most fiercely debated topics in the world. Strong advocates for it as well as against it can be found sitting at the table at a family dinner as well as public TV debates. Most respected and prestigeous economists in the world argue over the benefits and costs of this movement daily.

In simple terms, globalization can be defined as increasing world- wide integriton of markets for goods, services and capital. The world is becoming smaller, as transportation has become much quicker and more accessible to the society. Companies can be ran from another hemisphere via phones or video conferences. Corporations are expanding, and are recognized in every part of the world, example being McDonalds or Coca- Cola. At a first glance globalization appears to majority of people asked as something beneficial, with hardly any consequences. Fact is, there are many benefits to globalization, however there are also negative aspects of it. Both of the sides of the argument are presented below, starting with the "pros"

The arguments for globalization include:
  • Easier access to information/ news.
  • It is specially beneficial for scientists who can easily and quickly communicate their ideas to each other. This can icrease the speed of economic development.
  • Foreign direct investment may provides stimulus for countries that it is aimed at. This can be beneficial for developing nations seeking economic growth.
  • Globalization promotes competition. Competition provides the incentive to be innovative, and to lower your cost in order to reduce the price. This can be seen as a big advantage for cosumers.
  • There is certainly more products available for the consumer, as countries trade with each other much more openly.
  • Globalization (in pair with free trade) promotes specialization in production of goods for which the country has a comparative advantage in producing, hence it promotes efficient production.
  • Globalization helps integrate cultures from all over the world.
  • It can be the driving force behind political reforms in countries.
  • In allows the world together to help overcome future obsticles, such as global warming
As good as it sounds, globalization has its flaws.
  • Globalization tends to draw power away from countries towards corporations. This can be particurarily dangerous, as countries/ governments have peoples interest as a first priority, whereas a multinational corporation has one goal, and that is profit maximazation, unfortunetly often at the epxense of exploiting the FoP's and mostly cheap labour.
  • Contrary to intuition, globalization (a long with free trade which is not actually free trade due to tariffs and subsidies in developed countries) is actually increasing the gap between the developed western world, and the developing rest of the world.
  • Many international organizations give advice that could work in a developed country, however it may not always be the best solution for a developing nation.
  • Cultural sovereignty is being lost.
  • Lack of more strict legislation advocating human rights often leads to exploiting of workers in developing nations.
  • Lack of more strict legislation can also lead to developing countries being flooded with dumping activity to kill off any local competition, and dominate the market in that country, leaving local producers hopeless, which is nothing short of just barbarian.
  • Free migration of labour in for example the EU may lead to some social unrest.
These are not all benefits, and not all costs of globalization, however they do provide a good genereal basis for discussion as to the lasting effect of globalization. What is important to remember, is that globalization is not a decision to be made. The decision has already been made, and with such rapid evolvement of technology it possibly cannot be stop. The best idea would then be to cherrish the benefits of globalization, and familiarize society with the consequences of it, so that the "cons" of globalization can be eliminated or at least reduced to a large extent.

Quantitive Easing....what is it?

Quantitative easing is one of the new, frequently appearing phrases on the news, due to the current financial climate.

Every nation has its own central bank. In the case of England it is the Bank of England. The central bank is not responsible for giving commercial/ business loans. This is the purpose of the commercial banks. The Bank of England can provide loans to commercial banks, at much lower interest rates(even down to .25-.5 %) than commercial banks offer to businesses. The reasoning is that if the commercial banks charged the same interest rate as as the Bank of England charged them, then all the interest acquired from charging businesses would go to pay back the Bank of England.

In times of economic downturn, and especially a severe recession like the world is facing at the moment/ was facing recently, commercial banks become very reluctant to loan money to businesses. The reason for this is that all these banks are afraid that the loan takers that they provide with loans will not be able to pay the money back, as the economic climate seems to be very business unfriendly. The situation is gotten to a point, where banks prefer allocating their funds at 2% after 10 years treasuries, rather than lending money to businesses at rates of 5-8 %, just because treasuries are safer than loans for the time being.

Bank of England sees this situation as a roadblock to the possible boost of the economy in form of investment. Businesses are willing to invest, but commercial banks are unwilling to provide the means. As a plan to encourage the commercial banks to provide investment loans, the Bank of England may wish to resort to quantitative easing.

Commercial bank already have certain amount of toxic assets (toxic assets- assets which expose the holder to large losses, such as bad loans or mortgages). In essence Quantitative easing is the central bank buying out these toxic assets from the commercial banks. The reason for this is to provide commercial banks with money that can be used for loans, at the same time freeing them from the pressure caused by possession of large quantities of toxic assets. At the same time, the central bank invests a lot of money into the 2% after 10years treasuries, in hope to drive down the interest rate of these treasuries. This acts as a disincentive for commercial banks to allocate their funds in treasuries, which means that they need a new place to allocate the money in order to attempt making profits. With the release from toxic assets, they can more confidently loan money to prospective businessman.

There is one major downside to QE, and that is that a lot of it may contribute to depreciating the currency to a level where everyone wants to dispose of it, leading to much more catastrophic consequences than the country was suffering before the decision of the central bank to implement QE.(this paragraph will be explained in more depth in the future)


Monday, 14 December 2009

Keynesian Spending

Further to your interview with Alistair Darling, we would like to dissent from the attempt to use a public works programme to spend the country’s way out of recession.

It is misguided for the Government to believe that it knows how much specific sectors of the economy need to shrink and which will shrink "too rapidly" in a recession.

Thus the Government cannot know how to use an expansion in expenditure that would not risk seriously misallocating resources.

Furthermore, public expenditure has already risen very rapidly in recent years, and a further large rise would take the role of the state in many parts of the economy to such a dominant position that it would stunt the private sector’s recovery once recession is past.

Occasional slowdowns are natural and necessary features of a market economy.

Insofar as they are to be managed at all, the best tools are monetary and not fiscal ones. It is inevitable that government expenditure and debt naturally rise in a recession but planned rises in government spending are misguided and discredited as a tool of economic management.

If this recession has features that demand more active fiscal policy, which is highly disputable, taxes should be cut. This would allow the market to determine which parts of the economy shrink and which flourish to replace them.

This letter, signed by many top English economists, is an appeal to the UK government, which criticizes Keynesian ideology of increasing government spending (In the case of UK it would be directed towards public works) in order to battle recession. Before evaluating statements criticizing this decision, it is important to first understand why such decision may be appealing to the UK government.

The theory behind Keynesian way of battling a recession is the idea that government spending and government involvement in the economy is the best policy that can be adopted in order to tackle the negative GDP growth. According to Keynesian theory, a government should borrow money, and inject it into the economy in order to provide people with income. This income could be spent on various goods and services, which could propagate investment causing an increase in aggregate demand. An increase in aggregate demand would lead to increase in GDP growth (ceteris paribus) which in turn constitutes economic growth.

This theory does provide some interesting possibilities of fighting a recession, however it is severely limited by all the points expressed in the letter above, as well as by an inherit logical flaw in its very core, which although not expressed explicitly in the letter, will be relevant to further discussion. Lets examine the first criticism of using Keynesian macroeconomic policies presented in the letter.

The first voiced concern deals with the governments lack of knowledge about which sectors of the economy are in the greatest need of funding, and which ones do not need it as much, if at all. Typically, the economy is divided into four specific sectors: primary, secondary, tertiary and quaternary. Primary sector is commonly associated with Agriculture and secondary sector is the manufacturing sector. The tertiary sector includes services, whilst the quaternary sector includes all intellectual/ cultural activities. If indeed the UK government lacks such information, it is running a high risk of stimulating the sector of the economy which does not possibly need to be stimulated nearly as much as a different sector. Such a mistake would lead to a serious misallocation of resources. This would effectively waste government funds, as they were not directed at the real weaknesses of the economy. This is hence by all means is a valid concern.

The second problem is the one of consistently high spending by the public sector leading to stunning the private sector after the recession is over. There is a definite assumption here, that what will be publicly build, will be publicly owned after the recession, and that it will not be privatized. With that assumption, this is once again a very valid concern. If government decides to spend funds on all areas of economy, such as hospitals, schools or transport services, and then it will refuse to privatize all that has been built, the market structure in all those markets would effectively become a monopoly (all of which are owned by the government). This can cause major problems for the private sector, as monopolistic market structure is defined by high barriers to entry and exit, hence it would be unlikely for a firm to be established, which would have real chances of competing with government ran businesses. Often mentioned consequences of a monopolistic market are higher prices and lower supply, as well as lack of economic efficiency. Lack of competition may also remove the incentive for innovation. This is hence not only a concern for the private sector, but also for consumers, who could be affected by higher prices (...than would be attainable with competitive market structure).

"Occasional slowdowns are natural and necessary features of a market economy."

This statement is the one I may have some issues with. I would agree that those slowdowns are a natural feature of the market economy (as shown by the business/trade cycle), however I am not sure as to the necessity of such slowdowns in a market economy. To my understanding, necessity means something that should/ ought to happen.. I do not agree with this statement, as I believe that slowdowns are not necessary, and that all economies would be better off without them, for a slowdown hinders economic growth, can lead to job cuts, can cause social unrest, and is hardly beneficial in any way to the society. Unless "necessary" is used as a synonym to "unavoidable" I do think this statement is incorrect.

The next section focuses on fiscal vs. monetary policy. It is suggested that monetary policy should be used over fiscal policy, as the latter being "misguided and discredited as a tool of economic management". For a poorly informed person, such a statement would be considered as rather bold, however the fact is, that Keynesian policies have been tried many times in the past, and they have yet to succeed. A prime example of this is the US government policy in the 1930 with Hoover and Roosevelt. They adopted Keynesian economics, and went with every advice on fiscal policy management ever proposed by Kaynes, and yet the overall result was that the GDP growth kept declining, and unemployment was still unsatisfactorily high. Much of fiscal policy, of which Keynes was an admirer has hence been discredited by reality. I do believe that there is a more inherit flaw in the theory itself, which is why the theory has failed to succeed in the past and will fail to succeed in the future.

If a government wishes to increase its expenditure, it needs funds to do it. It can do two things: print money or borrow it from the national/central bank. The first idea is a surely no, as it will lead to just a proportionate increase in prices, and people will end up having effectively as much money as they did before. So the only real choice that a government has is to borrow that money from a bank. The important thing to remember is that this bank, is already a part of the economy. This means that what government really does is takes the money out of the economy, and injects it back, its nothing more than that. This means that there is no actual increase in AD, as the government it is simply reallocating the money more so than anything else. On the other hand, even a reallocation of funds, so that it is people with large MPC which receive the newly distributed funds, could increase AD, as the money is now in the hands of people who spend rather than save. The problem with this is, that in times of economic downturn, people are much more hesitant to spend, and they much rather save the money in case they need it for future, so effectively, the money just makes a full circle from a bank to government to people back to the bank. There is hardly an increase in consumption, which is why Keynesian recession policies have failed in the past.

The alternative to this is the use of monetary policies, which include interest rate management, quantitative easing or funding to name a few. There is a major downside to using monetary policy, especially in the context of battling a recession, and that is that economists typically estimate that the full effects of monetary policies can be observed properly only after 2-3 years have past.

Fiscal policy takes long time to setup, but the effects are observable very quickly once it has been implemented. The initial change in fiscal policy can be fairly immediate, however the fine-tuning would take a lot of time, as for example taxes can be changed in most countries maximum once a year. I do not see particular advantages of the use of monetary policy as opposed to fiscal policy for Kenya, as the article suggests.

The final paragraph states that the best way of using of fiscal policy (if such a need arises) is to cut taxes. The need for more fiscal policy in the current state of the economy is disputable, as fiscal policy rarely (if ever) leads to desired effects. The idea is thus that cutting taxes could result in better understanding of which parts of the economy are shrinking, and which will be there to replace them. The emphasis is on the fact that the market will correct itself, and the gaps will be filled after the recession, and implies that further government interference would be undesirable.

This letter is written surely by a group of specialists in their fields, who do believe in the the (almost) perfect nature of the market. They believe that the markets have the ability to adjust and modify to fully accommodate clients needs. I am sure they wont deny that there are cases where market failure exists, and governments should intervene, however the letter above provides very constructive and accurate criticism of Keynesian policies as means of tackling recession.

Why Are Indian Farmers Committing Suicide and How Can We Stop This Tragedy?

Article taken from:

This article presents a situation thats crying for change, yet due to structure of the world today, I do not see this change comming anytime soon.

In essence, the article opens with a dramatic statement about how 200,000 peasents/ farmers in India have ended their lives due to international trade liberalization and corporate globalization.

Globalization and WTO seem to be merciless for the countries which may just not be ready for it quite yet. "Remove all trade barriers, and enjoy the benefits of free trade" seems their slogan, yet they simply fail to realize how disastreous the consequences of such policies can be for f.e farmers in developing nations.

As India opened their borders to foreigners, many agribusiness companies have approached farmers in India, buying their farms, changing their seeds, lying to them, and giving orders without having the faintiest idea what they are doing, and not realizing the consequences of moves, that were just not thought through.

They decided to replace farm saved seeds with corporate seeds. That does three things, and all of them are really bad.
  • It takes away an efficient farming method, whereby the costs of farming are significantly reduced over time, as farmers were able to save some of their seeds, in order to farm again next year. This has been taken away, in favor of corporate seeds which cost 2428 times more than the old seeds (Rs 7/kg for old seeds vs. Rs 17000/kg)
  • With such a dramatic increase in the cost of producion every year (the new seeds cannot be saved, hence new supply is needed every year) farmers need to spend very large amounts of money on the seeds, and they fall in debt, which is a slippery slope for them, with little chance of returning to the "+" side.
  • The new crops promised increased revenue for farmers, which was a complete fraud, as the revenues gained were not nearly as good, as the agribusinessess promised. This is due to the fact that companies eliminated biodiversity from agriculture, and replaced it with monoculture, which does seem just plain stupid, considering how different for example is the farming soil in India as compared to f.e United States. They got rid of adapted, anti- pesticide seeds, and replaced it with monopolistic, non adapted and somewhat pesticide friendly seeds, which kills the crops and farmers revenue.
This however is not all. A nail in the coffin, is the hipocracy from countries like United States, or monetary unions such as EU, which promote and suggest opening to trade to everyone they can, yet they dont do it themselves. Example is the US, where cotton farmers recieve $4bn a year worth of subsidies, which drives the price of cotton artificially much lower, than it should be, and the producers can not only supply the cotton in the US at the cheapest price, but can also engage in dumping- like activities in f.e India, killing of local competition, unfortunetly not only in the metaphorical sense.

There are a few more problems pointed out in the article, however I dont think much more evidence is needed to show that corporate ways of dealing with such situations are just plain wrong. According to the article, it can be prevented, if farmers do basically everything oposite to what the world is "advising" them, which on a second thought is not only ironic, its just silly. Some farmers have done these things (switch back to saveable seeds, shift to organic farming rather than chemical) and they are earning 10 times more than before, which I think speaks for itself better than I could.

Sunday, 13 December 2009