Month: June 2012

Categories
Economics Politics & government

[2559] Election now leads to less populism

We live in a time of widespread economic crisis.

Europe is in recession. For some European countries like Greece, it is effectively the Great Depression all over again. Economic recovery in the US is slow, with the labor market in May registering horrible statistics to suggest that the US recovery may be flagging.

On the other side of the Pacific Ocean, the Chinese economy is slowing down. Meanwhile, Asian production and trade are growing very slowly as well, if not contracting altogether like in Taiwan and South Korea.

The latest export statistics reveal that Malaysian April exports contracted for the second consecutive months as Europe and others demanded less goods and services. Europe will likely continue to demand less in the near future as its governments, firms and households rebalance their finance towards more saving and less spending on average. The rebalancing is needed and overdue. As always, there is cost to the exercise. The cost will be significant even to those halfway around the world.

These external developments are important to Malaysia because the country has one of the highest trade exposure in the world. The openness and generally liberal trade attitude has allowed Malaysia to enjoy significant secular economic progress so far. But the same factor also makes Malaysia sensitive to the global business cycle.

The awful trade data has not been translated fully into the domestic economy. The domestic labor market, for instance, is holding up pretty well and close to full employment. The resilience of the domestic economy is encouraging but if trade growth continues to be dismal, sooner or later things will change for the worse.

So, there is crisis abroad and Malaysia may very well feel the heat soon enough.

The country needs to be ready for the possible headwind. Politically, it is hard to see how Malaysia is ready given that the general election is just over the horizon, somewhere.

That means policymakers and politicians are politicking.

While this behavior is only to be expected, there is a fear that the government’s collective eyes are off the economic ball. Both sides of the divide — more importantly, the government of the day — are making populist promises and policies to outdo each other and win votes. That may hurt the country’s ability to address possible economic troubles when the time arrives.

While the election is a must to preserve and to enhance our democracy, there is a cost to it. That cost is populism. We have to bear the cost but we do not need to exacerbate it.

How does populism exacerbate cost?

The cost will be higher the longer the politicking opportunity persists. That is so because the longer the politicking period, the higher the likelihood of populist policy will emerge.

That in turn may cause us as a society to meet potential economic trouble with a rifle loaded insufficiently. The point is especially relevant because the federal Budget is expected to be tabled in September. A ”people’s budget” will not be ideal if Malaysia wants to weather the gloomy days successfully.

So, this is a case to hold the general election as soon as possible. A resolution is needed as soon as possible. It is only by having an election as soon as possible that there can be less opportunity for politicking to lessen the probability of economic populism winning the day and ruining the future.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved
First published in The Malaysian Insider on June 11 2012.

Categories
Economics

[2558] Introducing unemployment benefits in Malaysia may be good

There was a piece of news recently that the government plans to introduce unemployment benefits in Malaysia. By default, as a libertarian, this should be a repulsive idea to me. But really, I can be supportive of the benefits on at least one condition.

I like rule-based policy and I mostly dislike discretionary one, especially when it comes to fiscal policy. I distrust the government in managing its finance because the government, especially one that is especially susceptible to populist demand, may easily spend with much disregard to public finance. This is especially so in times of recession. I in fact distrust the government in even committing to a complete counter-cyclical spending. The typical reaction to a typical recession by those in government is a Keynesian one: spend. In good times, the necessary austerity is not taken.

I dislike stimulus program not only because of ideological reason but also because of practicality. Stimulus spending is slow and open to abuse if one wants to make it effective and quick. It is open to abuse because, after all, it is a large discretionary spending. Besides, its multiplier effect is not really that clear and because it is slow, government demand may crowd out private demand especially during recovery period.

An unemployment benefit system is like a fiscal stimulus except that it is an automatic stabilizer. That means it is fast, direct and it is more transparent than a discretionary orthodox fiscal stimulus. It is based on rules.

The presence of an automatic stabilizer may reduce the temptation to engage in a massive fiscal stimulus like what happened in 2008 and 2009 in Malaysia and indeed all around the world during the now-dead Keynesian resurgence.

True, it does cost money and it does increase the size of government. But I have a suspicion that an automatic stabilizer like the unemployment benefits, if properly designed to help the unemployed rather than take away the incentive to work, can be cheaper than a fiscal stimulus. It can prevent a worse evil.

There is an added benefit to having an unemployment benefit mechanism in place: better and timely data to gauge the labor market. In the US, labor data through initial claims is produced weekly and lagged by only a week. Professional economists in Malaysia will appreciate this. Right now, only the heaven knows, economic reporting in Malaysia is lagging behind advanced countries by a long shot. Economic data is not really forthcoming.

Categories
Economics

[2557] Did the LTRO fail?

So after the rumor of bailout, the official denial and later the external pressure, Spain has finally requested for a bail out from Europe. The bailout is expected to be utilized, in turn, to bail out Spanish banks. The money will come from either the EFSF or the ESM, whichever is politically expedient.

Even before the request, the Spanish government has already bailed out its fourth largest banks just recently.

I find the bailout in Spain as curious because it raises one question: whatever happened to the LTRO?

Aren’t the LTRO with money worth EUR1 trillion meant to bail out banks implicitly?

Did the LTRO fail to do what it was meant to do, which was to give European banks very cheap refinancing options over 3 years? Did Spanish banks not gain access to the LTRO? What did the Spanish banks do with the LTRO?

Categories
Economics

[2556] The tradeoff between internal and external consistency

A good theory has two characteristics: internal consistency and external consistency. An internally consistent theory is one that is parsimonious; it invokes no ad hoc or peculiar axioms. An externally consistent theory is one that fits the facts; it makes empirically refutable predictions that are not refuted. All scientists, including economists, strive for theories that are both internally and externally consistent. Yet, like all optimizing agents, scientists face tradeoffs. One theory may be more “beautiful,” while another may be easier to reconcile with observation.

The choice between alternative theories of the business cycle—in particular, between real business cycle theory and new Keynesian theory—is partly a choice between internal and external consistency. Real business cycle theory extends the Walrasian paradigm, the most widely understood and taught model in economics, and provides a unified explanation for economic growth and economic fluctuations. New Keynesian theory, in its attempt to mimic the world more accurately, relies on nominal rigidities that are observed but only little understood. Indeed, new Keynesians sometimes suggest that to understand the business cycle, it may be necessary to reject the axiom of rational, optimizing individuals, an act that for economists would be the ultimate abandonment of internal consistency. [Real Business Cycles: A New Keynesian Perspective. Gregory N. Mankiw. Journal of Economic Perspectives. Volume 3, Number 3. 1989.

Categories
Economics

[2555] What is the best banking system for high-skilled service industry?

During the launch of IMF Regional Outlook a few months ago, Anoop Singh, the IMF director for the Asia-Pacific Region mentioned how the financial system is not ready for high-skilled service industry.

As his argument goes, banks usually demand collateral before providing any loans to businesses (or, mostly, anybody for that matter). This is perfectly fine for capital-intensive businesses but it becomes an issue when it comes to labor-intensive businesses. With little capital, there is little to function as meaningful concrete collateral. There are other things that can replace collateral like personal guarantee but such guarantee has to be credible and eventually means the businessowner’s personal assets. You still require some concrete assets in the end.

But what if you are nobody but you have a great idea that is labor-intensive?

Here, labor-intensive means just you and your partners maybe sitting down writing codes or running some weird but amazing business that, in the extreme for illustrative purpose, is one of pure brainpower, negligible capital requirement and no muscle, manned by individuals of limited wealth.

There are venture capitalists and that is usually the solution to the problem. But imagine a widespread proliferation of such industry that it becomes the dominant industry in an economy. Venture capital setup will be woefully inadequate as a source of funding.

The virtue of a bank (commercial bank) is its capability to pool large capital through aggregation of savings and to redistribute it elsewhere pretty painlessly. Venture capitalists are decidedly not as good as a traditional commercial bank at pooling resources.

This leads to a question, what is the solution?

I am unclear about that.

The banking system is inadequate as Mr. Singh points out but I am unsure if banks should evolve to not require concrete collateral to accommodate for the so-called new service industry if ever we come to that fork. Identifying a problem, while helpful, is very different from formulating a solution.

And an evolved banking system designed to not require collateral sounds like recipe for a banking crisis. A large percentage of businesses fail and without collateral, the banking system of such evolved banks would quickly be brought down to their knees. And a banking crisis, in the modern economy, will quickly turn into a widespread, horrible, economic crisis.

What about the government?

The problem of business failures will still be relevant but at least it addresses the banking system concern by socializing losses. I doubt the taxpayers will be happy with that.