Tuesday, July 26, 2016

The challenge with development - the curse of standards

There are very few development challenges that do not come with trade-offs. And on most first-order determinants of development, the trade-offs raise disturbing and difficult questions. This is so even when the change is morally, socially, and economically desirable. But trade-offs invariably mean acceptance of second-best standards. 

Accordingly, the imposition of a rigorous patent regime in a least developed country runs the risk of curtailing local enterprise. In countries without any alternatives, outright bans on market intermediaries like money lenders and agriculture middle-men, howsoever fleecing they are, adversely affects the vast majority. In all these cases of regulatory reforms, the costs of formality often outweigh its benefits, leaving the system as a whole worse off than without the reform. I had blogged earlier about how the high cost of regulation and standards that accompany manufacturing for export markets prices such manufacturers out from India's domestic markets. 

Consider four examples of such trade-offs that India is currently grappling with. The first two involve the pursuit of formulating standards, while the last two involves the problems associated with enforcing laid down standards. 

The Employees Provident Fund Organization (EPFO), a public sector entity that manages the gratuity and pension of India's central government employees, is apparently considering the enrollment of unorganized sector workers into EPFO. For a start, this is a contradiction in terms since the unorganized sector workers are not in EPFO precisely because they are not part of any formal network. And they prefer to stay informal because the costs of formality are prohibitive. For example, the total salary deductions for an employee with monthly income below Rs 15,000, ones who form the overwhelming share of the informal sector, is about 32%, with EPFO alone claiming 25%. Such massive deductions alone are enough to deter employees. For employees, apart from the costs, there are the compliance requirements and inspections, all of which would leave them commercially unviable. 

In fact, the growing demand for globally harmonized labor standards may have far-reaching effects on the economic growth trajectories of developing countries. Consider the example of domestic and construction workers, two categories who suffer badly from extremely poor working conditions. It is therefore the natural response of well-intentioned people to demand regulation of working conditions and higher standards. Most often, if not always, they advocate state-of-art labor protections for these workers. But in an extremely price-sensitive markets where the margins are very small (the layers of sub-contracting in construction dissipates margins are all levels), the cumulative cost of these protections almost always make them non-starters. In such circumstances, the result of higher standards is almost always regressive - workers forced out of the market, more informality, more harassment, and more corruption. 

The second example is the recently promulgated real estate regulation legislation. It introduces many consumer protection standards, including complete transparency in transactions and escrowing of the amounts collected from buyers. While undoubtedly laudable, they are likely to increase the cost of development for developers, who are most certain to pass on the costs to the buyers, thereby forcing up an already prohibitive real estate market. Its impact on the government's objective of making housing affordable may be less than benign.  

The third example comes from the field of medical education regulation. The Medical Council of India (MCI), responsible for the accreditation of medical colleges across the country, has just denied permissions for the establishment of 83 new medical colleges, expansion of MBBS seats in 47 existing medical colleges, and starting super-specialty courses in 39 medical colleges. The MCI's argument is that these colleges do not have the requisite qualified personnel and physical infrastructure to run such courses or offer more degrees. Who can fault the MCI for adhering to minimum standards? After all who in their right mind would want less than qualified medical doctors roaming around and killing people?

But what if the standards are too high given the context. We need to keep in mind that India is a country with 0.7 doctors per 1000 of population, one-fourth of that in UK. It surely needs a few times more than the 381 existing medical colleges and 63,800 MBBS seats each year, enough to meet just 1% of the demand among aspiring medical students. 

Staying on in the field of medical care, India proudly declaring that it adheres to the World Health Organization (WHO) standards on primary care. It has sanctioned a Primary Health Center (PHC) for each 25000 population and have an Auxiliary Nurse Midwife (ANM) for each 5000 population. But current standards need the heavily over-burdened (just for illustration, in rural areas, just imagine visualizing the distances that need to be covered in field visits to scattered households) ANMs to keep elaborate and state-of-art documentation of each ante-natal case, irrespective of the nature of the case. This forces her to maintain more or less the same standards of monitoring for normal and high-risk ante-natal cases, though the latter with just 10% of all cases contribute 80-85% of all maternal and child morbidity and mortality.  

At some level, there is also a need to question the prevailing standards on even more mundane things like blood pressure and diabetes in a culture where people are used to taking far higher quantities of salt, spice, and oil even in their staple diets when compared to those for whom the standards were originally formulated.  

The final example is that of primary education where it is now well acknowledged that learning outcomes are extremely poor. Here too, the obsession with standards may have done more harm than good. The National Council for Education Research and Training (NCERT), which lays down the grade and subject specific competency standards, in its politically correct wisdom has laid down minimum national learning standards which are comparable to global benchmarks. But for a country with massive antecedent learning gaps and numerous other capacity constraints, such standardize-and-pretend approach does enormous harm.  

I can already hear people mumbling their discontent at this. I understand their concerns. But they need to appreciate that development rarely ever happens in a straight and neat path. These are real world trade-offs that need to be acknowledged and policy design should accommodate them. Most often, this would necessitate decidedly second-best choices and unsatisfactory compromises. Development is always a process of gradual transition where multiple states of being necessarily co-exist, rarely one of abrupt shift from one condition to another. 

So here is my simple smell test. If we stand a far higher chance of saving the lives of a significant number among the 90% of those at risk, but at the cost of, maybe, increasing the risks for 10% of the cases, by revising ante-natal care standards, then so be it. I am willing to accept that trade-off any day. 

Monday, July 25, 2016

Why does Estonia and Poland score so well in PISA?

From the Economist, the correlation between teacher salary and teaching hours, and learning outcomes (as measured by PISA score).
The variation is very interesting. The surprises are Estonia (526) and Poland (521), both of whom achieve close to the scores of PISA leaders (outside the Greater China), South Korea (542) and Japan (540). So the question should be, how do Estonian teachers achieve better PISA outcomes than their counterparts in Holland who are paid five times more, or in Canada, who also work a third more? Is there a cultural dimension to teaching and education in Estonia and Poland, like with Finland, that contributes to their disproportionately superior performance? Or, is it more institutional design and governance improvements that are behind this success?

Staying with education, check out this really cool site. 

Sunday, July 24, 2016

The costs of informality

Ananth has an excellent article that cautions the romanticism of small enterprises. He points to the Annual Survey of Industries 2013-14 report which shows that 72.68% of the 1,85,690 operating factories employ less than 50 workers, makes up 15.62% of all factory employment, utilize only 7.06% of fixed capital, produce 11.18% of gross output, and generates 7.71% of net manufacturing value added. And those with more than 200 employees forms a mere 9.06% of factories, utilize 78.61% of fixed capital, provide 61.44% of employment, produce 71.15% of gross output, and generate 75.78% of net manufacturing value added.

The figures would be even more disturbing if we take into account the respective shares among all economically active 58 million odd enterprises. It is very clear that Indian industry has a massive problem of "smallness". But its origins can be traced back the challenges posed by pervasive informality. The evidence is overwhelming that small enterprises in India start and remain informal, with limited productivity gains throughout its life. See the numerous graphics here and you'll realize that among developing or even the poorest countries, India's level of informality is simply extraordinary. Given this, encouraging more such small enterprises, howsoever much politically appealing, without addressing the root causes of informality may be a medication that worsens the disease.

The debate in India about job creation has become anchored around entrepreneurship. Incentivize innovation and entrepreneurs and jobs will follow. Unfortunately, that is unlikely to happen. Instead, for the vast majority of Indians, like those elsewhere in the world across history, the pathway to a good livelihood would most likely have to come through formal jobs in medium and large enterprises. In other words, we need more numbers of enterprises, which start formal and small, and grow into medium size or bigger, thereby creating large numbers of jobs.

A WTO study on informality quantifies the magnitude of certain costs,
Countries with larger informal economies experience lower export diversifi cation – an increase in the incidence of informality by 10 percentage points is equivalent to a reduction in export diversifi cation of 10 per cent... countries analysed in this study lose up to 2 percentage points of average economic growth due to their informal labour markets... countries with above-average sized informal economies are more than three times as likely to incur the adverse effects of a crisis as those with lower rates of informality... Countries with above average sized informal economies are almost twice as likely to experience extreme economic events, compared to countries with less informal employment.
In the specific area of trade, the paper makes the distinction between de jure and de facto trade openness. The former is a measure of implementation of trade reforms which immediately results in labor and other market readjustments, while the latter represents the actual flow of goods and services from and into the country. The paper says that "de jure trade reforms may be expected to require some time before they achieve de facto trade openness."
Empirical analysis carried out for the purpose of this study shows that more open economies tend to have a lower incidence of informal employment. By contrast, trade reforms, such as cuts in tariff rates, tend to be associated with higher informal employment. Likewise, larger inflows of FDI tends to be associated with higher informal employment. These findings may suggest that even if trade and investment reforms hold the promise of more and better jobs in the long run, such reforms tend to be associated with negative labour market developments in the short run. ƒDecent work policies can help to improve this trade-off between the short and long-term effects of trade reforms. Evidence in this chapter suggests that the incidence of informal employment is lower in countries that enjoy: a) better enforcement of the rule of law, including core labour standards, b) well-designed social protection and labour regulations, notably appropriately set minimum wages; and c) more transparent business regulations and a more supportive environment for sustainable enterprise creation.
The paper tries to quantify the effect of various policies and regulation on informality.
It is unsurprising that economic development is the biggest contributor to reducing informality. The surprises are that business regulation and subsidies and transfers (read, universal social safety net) do not appear to have the expected impact. Interestingly, decentralized wage bargaining is the second largest contributor to reduction of informality. 

Land title reform story of the day

Land title across large parts of developing world are a serious constraint on economic development. So, if this is indeed true, then it should count as one hell of an achievement,
Rwanda, for example, rolled out a programme over three years, whereby local surveyors worked with land owners and their neighbours to demarcate and register 10.3m parcels of land. By the time the scheme was completed in 2013, 81% of plots had been issued with titles, at relatively low cost; investment and women’s access to land have both improved.
This is bigger than anything that any Indian State has achieved with similar projects over a far longer period of time. 

Thursday, July 21, 2016

Global energy market fact of the day

The most stunning anecdote about how the shale dynamics have upended the global energy market comes from this reversal of hydrocarbon trade,
Two cargoes of US liquefied natural gas from Cheniere Energy’s Sabine Pass plant in Louisiana have been delivered to Kuwait and Dubai in recent months to meet the rapidly growing demand for energy. 
And more on how the US shale exports have been transforming the global hydrocarbons market,
The Sabine Pass plant shipped its first cargo in February, and has already sent LNG to seven countries: Argentina, Chile, Brazil, India and Portugal, as well as Dubai and Kuwait... Those additional supplies are depressing prices, making LNG a more attractive fuel for power generation, and low-cost floating regasification plants have made it easier for countries to become importers. Kuwait’s LNG imports tripled from 1m tonnes in 2012 to 3.04m tonnes last year, according to the Middle East Economic Survey. Egypt and Jordan became LNG importers for the first time last year. Qatar is the world’s largest LNG exporter, but over the next few years it is set to be toppled by Australia and rivalled by the US. The International Energy Agency has forecast that by 2040 gas demand in the Middle East will almost double, so the region could become an increasingly important market for US LNG.
As regards oil, US continues to import about 1.6 million barrels a day from the Middle East, down from 2.4 mbd in 2003-04.

I think an even bigger transformation will be when more liquefaction terminals on the US east coast come on-line. It could lead to the emergence of a single global market in natural gas

Tuesday, July 19, 2016

The nuanced case for financial liberalization

Financial market development is most often conflated with financial liberalization in debates on economic development. Financial deregulation had therefore become a central pillar of the Washington Consensus world view. Capital account liberalization was advocated as an unqualified requirement for developing countries. 

Since the Global Financial Crisis, the IMF has been at the forefront of questioning several prevailing orthodoxies. The latest comes this working paper by Sami Ben Naceur and RuiXin Zhang which draws the distinction between various dimensions of financial development and points to certain less than benign effects of financial liberalization, especially its effect on income distribution. Specifically, going beyond the conventional focus on financial deepening, they focus on four other dimensions of financial sector development - access, efficiency, stability, and liberalization. They find, 
The results suggest that most financial development dimensions can help reduce income inequality and poverty. However, external financial liberalization tends to have the opposite effect on the global average. In addition, our evidence suggests that banking sector development has a stronger positive effect on income distribution than stock market development. 
They have interesting prescriptions for policy making, including giving priority to banking sector development over capital markets and caution with capital account liberalization,
Observing the benefits of financial development on both economic growth and income distribution, policymakers need to steer the development of the financial system in a progrowth and pro-poor direction. Financial reform policies aimed at expanding financial access and depth, as well as enhancing financial efficiency and stability, should all be encouraged. These policies may include relaxing credit and interest controls, and improving banking and securities market supervision. However, given that external financial liberalization aggravates poverty, capital account liberalization should proceed in a carefully designed and well-sequenced fashion in a stable macroeconomic environment to avoid offsetting the poverty-reducing gains with the development of other dimensions of the financial sector. It is also important to develop an effective regulatory system for financial institutions and to enhance financial infrastructure (credit information, and collateral and insolvency regimes) in order to limit risk taking of banks. Given that the development of financial institutions has a greater impact than the development of the stock market, policymakers may give priority to banking sector improvement when considering poverty and income inequality alleviation. 
This is very sound advice to countries like India which has very narrow traditional banking market and where commentators have tended to prioritize capital market development and external liberalization. Reflecting the very low financial market depth, compared to our even our peers leave aside more developed economies, banking sector assets as a share of GDP is among the lowest in India. Worse still, it has been stagnating for the past decade, including in the high-growth years in the middle of last decade. 
There is only so much you can intermediate with such a narrow traditional banking sector. This goes back to another structural deficiency in our savings balance sheet - over 70% of household savings are held in illiquid property and gold, far higher than elsewhere. These are plumbing issues that need to be addressed before we navigate into the deeper end of the financial development pool.

Monday, July 18, 2016

National cuisines and economic strength

Atlantic has an interesting article that charts the "hierarchy of tastes" or social acceptance trajectories of different national cuisines in the United States. In particular, why does the French and Japanese cuisine get admitted to high-ed, white-tablecloth establishments while the Chinese and Indian recipes are relegated to lower-status eateries as "ethnic" food?
Consider the cases of steak frites and carne asada. They both involve cooking a fairly high-quality cut of meat over high heat, and they’re both dishes whose origins are foreign to America. But they’re often listed on American menus at vastly different prices. Why? “The shortest answer would be cultural prestige, some notion of an evaluation of another culture's reputation,” says Krishnendu Ray, an associate professor of food studies at New York University. In a book published earlier this year, The Ethnic Restaurateur, Ray expands on this idea, sketching the tiers of what he calls a “global hierarchy of taste.” This hierarchy, which privileges paninis over tortas, is almost completely shaped by a simple rule: The more capital or military power a nation wields and the richer its emigrants are, the more likely its cuisine will command high menu prices.
Ray consolidated the average price of a meal at a Zagat-listed restaurant in New York and came up with this graphic, which appears to neatly tie up with the hypothesis about relative economic strength of the country. 
Interestingly, Indian cuisine has been falling down the "hierarchy of taste" since 1986!