Taking Trade Policy Seriously: Export Subsidization as a Case Study in Policy Effectiveness

In thinking about policy, academic economists alternate between theoretical models in which governments can design finely-tuned optimal interventions and practical considerations which usually assume the government to be incompetent and hostage to special interests. I argue in this paper that neither of these caricatures is accurate, and that there is much to be learned by undertaking systematic, analytical studies of state capabilities -- how they are generated and why they differ across countries and issue areas. Case studies of export subsidization in Korea, Brazil, Turkey, India, Kenya, and Bolivia are presented to confront usual presumptions against actual experience. Contrary to conventional wisdom, the successful cases (Korea and Brazil) turn out to be ones in which the government exercised discretion and selectivity, while the most uniform and non-discretionary cases (Kenya and Bolivia) were clear failures. The paradox is explained in terms of state autonomy and policy coherence.

The Welfare Economics of Debt Service

This paper analyzes some of the implications of the dual transfer a debtor nation must undertake to service foreign debt: (a) an internal transfer from the private sector to the public sector; and (b) an external transfer from the domestic economy to foreign creditors. It shows that, under likely circumstances, a real depreciation of the home currency may complicate the internal transfer. As long as non-traded goods are a net source of revenue for the government, the depreciation called for by debt service deteriorates the public sector's terms of trade vis-a-vis the private sector and magnifies the requisite fiscal retrenchment. The paper discusses the role of trade policy (tariffs and export subsidies) in substituting for devaluation. Generating a private-sector surplus via interest-rate policy is shown to have similar costs on the government budget when the public sector has outstanding domestic debt.

The Social Cost of Foreign Exchange Reserves

There has been a very rapid rise since the early 1990s in foreign reserves held by developing countries. These reserves have climbed to almost 30 percent of developing countries' GDP and 8 months of imports. Assuming reasonable spreads between the yield on reserve assets and the cost of foreign borrowing, the income loss to these countries amounts to close to 1 percent of GDP. Conditional on existing levels of short-term foreign borrowing, this does not represent too steep a price as an insurance premium against financial crises. But why developing countries have not tried harder to reduce short-term foreign liabilities in order to achieve the same level of liquidity (thereby paying a smaller cost in terms of reserve accumulation) remains an important puzzle.

Feasible Globalizations

The nation-state system, democratic politics, and full economic integration are mutually incompatible. Of the three, at most two can be had together. The Bretton Woods/GATT regime was successful because its architects subjugated international economic integration to the needs and demands of national economic management and democratic politics. A renewed 'Bretton-Woods compromise' would preserve some limits on integration, while crafting better global rules to handle the integration that can be achieved. Among 'feasible glablization,' the most promising is a multilaterally negotiated visa scheme that allows expanded (but temporary) entry into the advanced nations of a mix of skilled and unskilled workers from developing nations. Such a scheme would likely create income gains that are larger than all of the items on the WTO negotiating agenda taken together, even if it resulted in a relatively small increase in cross-border labor flows.

The Turkish Economy After The Crisis

The recent crisis has demonstrated that a financially open economy has many sources of vulnerability. Even when a country does its homework, it remains at the mercy of developments in external financial markets. So, one lesson is that policy needs to guard not just against domestic shocks, but also shocks that emanate from financial instability elsewhere. Complete financial openness is not the best policy. A second lesson is that Turkey’s prevailing growth strategy does not generate enough growth and employment. Therefore it would be a mistake for the country to return to the status quo ante and resuscitate a model that fails to make adequate use of domestic resources. Most importantly, Turkey has to learn to live with reduced reliance on external borrowing. The paper discusses the needed realignments in fiscal and exchange-rate policies.

Unconditional Convergence

Unlike economies as a whole, manufacturing industries exhibit unconditional convergence in labor productivity. The paper documents this finding for 4-digit manufacturing sectors for a large group of developed and developing countries over the period since 1990. The coefficient of unconditional convergence is estimated quite precisely and is large, at 3.0-5.6 percent per year depending on the estimation horizon. The result is robust to a large number of specification tests, and statistically highly significant. Because of data coverage, these findings should be as viewed as applying to the organized, formal parts of manufacturing.

Policy Uncertainty and Private Investment in Developing Countries

A resurgence in private investment is a necessary ingredient of a sustainable recovery in heavily-indebted developing countries. Policy reforms in these countries involve a serious dilemma, especially when they include structural and microeconomic features. On the one hand, entrepreneurs, workers, and farmers must respond to the signals generated by the reform for the new policies to be successful. On the other hand, rational behavior by the private sector calls for withholding investment until much of the residual uncertainty regarding the eventual success of the reform is eliminated. This paper shows that even moderate amounts of policy uncertainty can act as a hefty tax on investment, and that otherwise sensible reforms may prove damaging if they induce doubts as to their permanence. A simple model is developed to link policy uncertainty to the private investment response.

Closing the Technology Gap: Does Trade Liberalization Really Help?

A common theme in discussions of trade reform is the possibility of improved technical efficiency following trade liberalization, This paper presents a conceptual analysis of the likely linkages between trade regimes and technical efficiency. Three sets of arguments, having to do with X-inefficiency, macroeconomic instability, and increasing returns to scale, are reviewed and found misleading or incomplete. A simple model of technological catch-up by a domestic firm shows the opposite of the usual argument: the larger market share provided by protection to the firm increases its incentives to invest in technological effort. When modified to include oligopolistic considerations at home, the model suggests that the incentives could go either way, depending on the mode of strategic conduct. The presence of economies of scale provides perhaps the strongest reason for productivity improvements, but here the argument relies on frictionless entry into and exit from industries. The paper concludes that the relationship between trade policy and technical efficiency is fundamentally ambiguous.

Promises, Promises: Credible Policy Reform via Signaling

Empirical experience and theory both suggest that policy reforms can be aborted or reversed if they lack sufficient credibility, One reason for such credibility problems is the legitimate doubt regarding how serious the government really is about :he reform process. This paper considers a framework in which the private sector is unable to distinguish between a genuinely reformist government and its nemesis, a government which simply feigns interest in reform because it is a precondition for foreign assistance The general conclusion is that the rate at which reforms are introduced may serve to convey the government's future intentions, and hence act as a signal of its "type". More specifically, credible policy reform may require going overboard: the government will have to go much farther than it would have chosen to in the absence of the credibility problem.