Monday 1 April 2013

Ranking the BRICS for Sustainability


China bashers like to question the sustainability of China´s growth – since more than 30 years and repeatedly refuted. Doubts about BRICS sustainable governance are often expressed in Western media; they seem to reflect unease about the dissimilarity especially of China´s development path to Western market economy models. Understanding the complex prerequisites of sustainable development, however, requires analytical humility, empirical rigor and open minds.

Actually, by comparison with its BRICS peers, China seems to have adopted the most sustainable set of economic policies, followed by Brazil. As for social policies, it is Brazil that has taken the lead to ensure sustainable governance, while China comes in second. Concerns about sustainability should rather focus on South Africa, but also on Russia and India for a variety of specific policy shortfalls. These insights result from a major research effort carried out under the auspices of the Bertelsmann Foundation Sustainable Governance Indicators (SGI) Network, Change Ahead? Sustainable Governance in the BRICS. While still at times based on judgment calls, five country studies authored and calibrated each by several political scientists, sociologists and economists both stemming from each of the countries concerned and from abroad form the backbone to allow a much more informed assessment about the sustainability of governance in the BRICS.
 
 

The SGI report focuses on sustainable governance in the policy areas of economic and labor governance, as well as social affairs governance. For the first time, this study evaluates the five BRICS countries – Brazil, Russia, India, China and South Africa – on the basis of Sustainable Governance Indicators (SGI) previously quantified only for OECD countries. These indicators assess and calibrate governance (with notes from 10 for best to 0 for worst policy quality) in a variety of economic and social areas, including:

  • An economy and employment cluster, with criteria measuring performance in the areas of the economy, the labor market, enterprises, taxes and budgets; and
  • A social affairs cluster, with criteria measuring performance in the areas of health care, social inclusion, families, pensions and integration.

As for the sustainability of economic and social policies, my synthesis and evaluation of the five SGI country studies, augmented by a review of the recent literature on growth diagnostics and structural development economics, has produced a comparative look at the sustainability of growth in the five BRICS (Reisen, 2013)[1]. In the past, structural features such as high saving and investment rates or the transfer of low-productivity resources into activities and sectors with higher productivity have mattered more for sustainable BRICS growth. Lessons derived from development economics old and new presented in the analysis would suggest that the ten economic and social policy SGI indicators will assume a growing importance going forward. It is suggested that the sustainability of growth in emerging countries increasingly will depend on how well they score on the SGI indicators as their GDP/capita rises beyond the 10,000 $ threshold and as their output mix, production procedures and related services approach the world leading “ technology frontiers”.

 

Economic Policies

Table 1 summarizes the numerical values of the employment and labour SGI for the BRICS and constitutes a country ranking for the quality of governance, based on the five SGI country studies  in the SGI Economy and Employment Cluster. The table reduces the complexity of the many policy facets embedded in the country reports. In terms of overall governance for economic and employment policies, China is seen as the relative BRICS leader, closely followed by Brazil. Russia performs significantly worse than its BRICS peers.

 

Table 1: Ranking BRICS Economic and Labor Governance

       Scores      Country
Economic Strategy
Labor       Market
Enterprise Support
Tax Policy          
Budget     Allocation
Average Score
Rank
China
8
7
7
6
6
6.8
1
Brazil
7
8
4
4
9
6.4
2
India
7
4
6
6
6
5.8
3
S Africa
6
3
3
7
8
5.6
4
Russia
2
4
2
6
8
4.4
5

Source: SGI country studies

 

The category Economic Strategy addresses the existence of a government’s general strategy to support the future-oriented development of its economy through regulatory policy, through adhering to clear-cut assignment of tasks to institutions, refraining from unnecessary discretionary actions, frictionless interlinkage of different institutional spheres (labor market, enterprise policy, tax policy, and budget policy) and the coherent set-up of different regimes such as dismissal protection, anti-monopoly institutions or income taxation. Here the scores are satisfactorily high for four BRICS, but very low in Russia (2/10), reflecting the absence of a noticeable long-term development strategy.

Insufficient labour market absorption, in particular of the young-age cohort labour market entrants, is a widespread problem in the BRICS. Weak labour market performance in the BRICS generally has two common explanations: complex laws to protect jobs in the formal economy, to the detriment of labour market outsiders; and the low quality of public education (not necessarily in terms of budget appropriations), notably in Brazil, India and South Africa. The Tunisian origin of the ´Arab Spring´ has shown the importance of education and labour markets to governance sustainability.

Compared to the other BRICS, however, China has the strongest overall performance in the five country studies. China is in first or second position for all policy areas, except for Budget where China shares the last position together with India. A major challenge to sustainability in China is the unsolved problem of fiscal federalism and widespread corruption; the insufficient allocation of public funds to provincial and local administrations has encouraged land grabs by the authorities, deepened corruption and endangered social stability.

Brazil outperforms China in the policy areas Budget and Labour where it gets excellent grades of 9 and 8 respectively. However, Brazil exhibits a big performance gap in Taxes and Enterprise Policy (where the country only gets a grade of 3). This is attributed in the SGI country study to the unsolved problem of a small tax base with many exemptions and tax holidays, which undermines the progressivity of income taxation; this in turn imposes high tax rates on the remaining tax base, which hits corporate competitiveness. Competitiveness in Brazil is further undermined by barriers to private-sector infrastructure investment and by monopolistic barriers to market entry and little corporate contestability.

India has a fairly even performance score across the different policy areas, although the combination of a weak tax system with massive subsidies makes it the most fragile BRICS country in terms of public finances. Grades range in between 6 and 7, with the notable exception of Labour Market Policy, which appears to be the major challenge of Indian policy making, as it is in South Africa.

The BRICS score relatively well in policy areas that capture the more short-run oriented notions of sustainability (i.e. the ability to withstand crisis and smooth the business cycle). The macroeconomic foundations for sustainable governance have been created (and defended so far) in the BRICS, first and foremost in monetary policy (not covered by the SGI), but also in improved tax revenues and budget policies. While public debt-GDP ratios have been exploding in the OECD, all five BRICS have at least been able to contain their public debt as a fraction of GDP (Brazil, India) over the past decade, while public debt ratios have been either reduced (Russia, South Africa) or remained at low levels (China)[2]. Unlike most countries in the Euro system, Russia, China and South Africa all would meet the original Maastricht criteria of public debt at or below 60% of GDP.

The drop in public debt ratios has been a boon, creating fiscal space for more active policy intervention to sustain growth in the face of social and structural challenges. As such, lower debt and more space for fiscal expansion augur well for sustainability in the BRICS. However, it has been shown[3] that high growth and raw material prices, which have been driving much of the improved tax revenues in resource-rich countries, have grown increasingly China-dependent. It is obvious, therefore, that much of the improved state of developing- and emerging-country public finances will depend on growth being sustained, especially in China, the new global growth locomotive.


 

Table 2: Spearman rank correlation coefficients

 
GDP growth/cap
Economic policy
State control
GDP growth/cap
 
 
 
SGI: economic policy
0.74
 
 
State control
0.81
0.25
 
FDI barriers
1.00
0.66
0.88

Source: own calculation; see text.

Table 2 presents several Spearman rank correlation coefficients[4] as a non-parametric variable of the association between the SGI for “quality of economic policy”, GDP/capita growth during the 2000s, restrictiveness of the FDI regime, and the degree of state control. The rank correlation coefficients, as defined here, can move between +1 (perfect association) and 0 (no association). The rank correlation between growth/capita and ´quality of economic policy´ is, in a certain sense, a control variable: a perfect association (a Spearman correlation coefficient of +1) might indicate a common problem in indicator driven policy research when the indicators involve considerable judgement. The valuation ex post of the respective governance performance might be driven by the growth performance known ex ante[5]. It is thus rather reassuring to find that the rank correlation between growth/capita and S5 is only 0.74.

Table 2 reveals some very interesting insights:

-          A high degree of state control in the economy does not stand in the way of a good ranking in past growth performance; the rank correlation between the two parameters is 0.81; but state control and economic policy performance are weakly (0.25) correlated (which also may reflect a judgement bias).

-          A high degree of FDI restrictiveness perfectly matches past growth performance (the rank correlation coefficient is 1.00), which does not imply causality, however, as high-growth countries may feel to have more room for selectivity as FDI hosts than do low-growth countries. Controlling FDI inflows and the quality of economic policy have been positively associated, with a rank correlation coefficient of 0.66.

-          A high rank correlation coefficient between the degree of FDI restrictiveness and the degree of state control indicates a political economy explanation: a high state involvement strengthens the vested interest of politicians in keeping foreign investors out of the country.

State involvement in the economy has remained so far relatively high in China and Russia. The degree of state involvement in all BRICS was higher than in the OECD on average, although some high-growth OECD member countries – notably Poland and Turkey – have levels of state control similar to Brazil, South Africa and India. Note that there is little (Spearman) rank correlation between the degree of state involvement and the SGI  indicator for the quality of economic policy. A high state involvement apparently can go hand in hand with the worst and the best outcome for governance quality.

 

Social Policies

The BRICS do considerably worse on governance indicators in the social affairs cluster, which comprises Health Care, Social Inclusion, Family, Pensions, and Integration. Social policy reform is urgent in these areas for all BRICS, and failure to implement social policy reforms will likely lead to social instability arising from extreme social inequality (and widespread corruption).

 

Table 3:  Ranking BRICS Social Affairs Governance

Scores
 
Health Care   
Social Inclusion
Family                               
Pension
Integration
Average Score
Rank
Brazil
4
6
5
5
9
5.8
1
China
4
5
6
5
4
4.8
2
Russia
4
3
6
6
4
4.6
3
S Africa
4
4
4
5
4
4.2
4.5
India
3
4
4
3
7
4.2
4.5

Source: SGI country studies 2012

 

The BRICS average scores in the Social Affairs cluster (Table 2) are roughly a full point below those noted in the Economy and Labor cluster (Table 1). On Social Affairs, Brazil performs best among the BRICS, ranking first or second in all social policy areas, with an average score of 5.8. China comes in as second best performer in terms of cumulated grades, followed by Russia.  South-Africa and India perform the lowest grades in all policy areas in the Social Affairs cluster, putting the sustainability of their development most urgently in doubt within the BRICS group, according to the accumulated evidence presented in the five country studies. Even Brazil's results, as they are skewed towards integration with an exceptional grade of 9, are worrisome if this special effect is corrected for[6]. South-Africa has very consistent albeit low results (ranging between 4 and 5), pointing to a need for reform and improvement in all Social Affairs policy areas.  Russia's most urgent areas for reform are Social Inclusion, followed by Health Care policy and Integration policy. China's most urgent challenges are to be found in the area of Health policy and Integration policy.

At least two major problem areas common to the BRICS can identified from the SGI country studies in the Social Affairs Cluster:

  • Health Care access remains very fragmented, in two important dimensions. The first dimension is the traditional rural-urban divide, which also reflects the large geographic size of the BRICS. This results in poor quality health service to the rural areas. The second dimension, of more recent origin, is the grown quality difference between private health care, affordable to a minority only, and poor public health service accessible to the majority of the population. In 2012, the public share funded on health expenditure was much higher in the OECD average (72.2%) than in most BRICS, indicating a two-class health system in the latter group.

·         Social Cohesion remains a distant reality in the BRICS. Unequal access to quality health service is just one parameter; another, arguably the most important social parameter for employment performance and competitiveness, is unequal access to quality education. Again, the divide between private education, affordable to the better off, and public education is a major characteristic of the BRICS that undermines ex ante equal opportunities and lifetime earnings potential. Figure 10 shows for the three BRICS (Brazil, China, and Russia), for which comparable education data were available, that only Russia improved educational attainments, as measured by the higher share of 25-34 years age cohort compared to the elder age cohort (55-64 years) to have attained tertiary education. In fact, that high level of tertiary attainment reached by Russia´s youth – ca 60% of the age cohort – was only exceeded by three OECD countries (Korea, Japan, and Canada). By contrast, the share of tertiary attainment remained at the bottom of the league in Brazil and China.

 

To allow for a closer ranking analysis of the five BRICS as for the social sustainability of their governance performance, it is useful to compare average of the five SGI (judgement) social indicators with hard social statistics, notably life expectancy (a proxy for the quality of health care), poverty headcount relative to the national poverty line, the income Gini coefficient, and literacy rate (all indicators of social inclusion). The results of that comparison are presented in Table 4 below. They show how different the social development achievements today are among the five BRICS. Life expectancy at birth now is 20 years longer in Brazil and China than in South Africa, eight years more than in India and five years more than in Russia. During the last decade alone, that difference in life expectancy has widened by five or six years between the four BRICs and South Africa.
 

Table 4: BRICS Indicators SGI Social Affairs, Health and Social Inclusion, late 2000s

Scores     
 
Average score Social SGI
Life expectancy, years at birth
Poverty headcount,  % at poverty line 
Gini income coefficient, %
Literacy rate, % age ≥ 15 
Brazil
5.8
73.4
6.1
54.7
90
China
4.8
73.3
16.3
42.5
94
Russia
4.6
68.8
0.0
40.1
100
India
4.2
65.1
41.6
33.4
63
S Africa
4.2
52.1
13.8
63.1
89

Sources: SGI country studies 2012; World Bank, WDI database; World Bank, PovcalNet.

Note in Table 3 the ´explosive´ co-existence of high literacy rates, growing inequality and high shares of extremely poor people (defined as living of 38 $/month or less, in PPP 2005 dollars). On social considerations, therefore, social governance performance would appear least sustainable in South Africa and could give rise to a higher frequency of socially motivated violence. In 2010, the rate of intentional homicide per 100,000 population (source: UNDOC) was highest in South Africa, at 32, although it had come down from more than 50 during the 2000s; the homicide rate in the other BRICS is lowest in China (1), followed by India (3), Russia (10) and Brazil (21).

To sum up, economic and social governance look comparatively sustainable in Brazil and China, quite in contrast to the sentiment expressed in the media. While India occupies the middle ground, Russia and South Africa seem to follow the least sustainable economic and social policies among the five BRICS. Building fair and efficient systems of fiscal federalism, removing skills mismatches in labour markets, and acquiring skills for changing competitive scenarios appear from the SGI country studies as eminent common policy challenges common to all five BRICS.



[1] Helmut Reisen (2013), Economic Policy and Social Affairs in the BRICS, SGI Sustainable Governance Indicators, Bertelsmann Stiftung, Gütersloh.
[2] China has actually a net public asset position, reaching 35% of GDP in 2012, if debt figures are corrected for gross assets held in official FX reserves and in sovereign wealth funds.
[3] Garroway, C.,B. Hacibedel, H. Reisen, and E. Turkisch (2012), “The Renminbi and Poor-country Growth”, The World Economy, Vol. 35.3, March, pp. 273 – 294.
 [4] The sign of the Spearman correlation indicates the direction of association between X (the independent variable) and Y (the dependent variable). If Y tends to increase when X increases, the Spearman correlation coefficient is positive. If Y tends to decrease when X increases, the Spearman correlation coefficient is negative. A Spearman correlation of zero indicates that there is no tendency for Y to either increase or decrease when X increases. The Spearman correlation increases in magnitude as X and Y become closer to being perfect monotone functions of each other. When X and Y are perfectly monotonically related, the Spearman correlation coefficient becomes 1. The formula is = 1 – (6d2i)/n (n2-1), with d denoting the differences in ranks and n the number of observation.[5] This has been a widespread problem, e.g. in research at the World Bank, which has been severely criticized for this.
[6] Taking Integration aside, both Brazil and China are given an average score of 5.0.

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