Thursday, 28 November 2013

Emerging Markets: Was It All ´Nirvana´?

Several Project Syndicate authors have recently declared the end of the emerging market miracle. One example among others (Hausmann) is a former finance minister of Chile, Andres Velasco who recalls the former Yale development economist Carlos Diaz-Alejandro. The latter used to say that the combination of high commodity prices, low world interest rates, and abundant international liquidity would amount to economic nirvana for developing countries.

Indeed, many emerging markets submerged in 2013: Genius ecopainter Benn Steil (Council on Foreign Relations, CFR) coined the term Emerging Markets Taperitis in his highly recommendable CFR Geo-Graphics (28-10-2013). The currency, stock and bond price reaction to a cautious statement by Fed Chairman Ben Bernanke (22-3-2013) in some emerging markets had been swift. But the pain was not shared equally. As the top figure in the CFR Geo-Graphic shows, those countries hit hardest by taper-talk were those with large current-account deficits—Turkey, India, Indonesia, and Brazil. They were also large beneficiaries of ´taper-talk interruptus´ mid-September 2013, when the fed backed away from the March taper talk. These events clearly indicate that holding down portfolio inflows and imports is what emerging countries need. Mainstream advice against capital inflow controls, reiterated by the OECD´s Adrian Blundell-Wignall in the face of fresh evidence, remains irresponsible propaganda.   

The convergence process in favour of emerging countries has not only been based on monetary factors, however. As has been documented (here; and here; and also here) on this blog, it has been closely linked with China´s long rise[1]. While Hausmann and Velasco focus on Latin America, the lasting benefits of China´s rise have been obtained by Asian countries embedded in an increasingly China centric manufacturing value chain[2]. Have a look at the numbers from the OECD Latin American Economic Outlook 2014 (courtesy The Economist) to see where and where not there has been fundamental catch-up in terms of total factor productivity in Asia (yes) and Latin America (no). So the Hausmann-Velasco perspective boils down to Latin navel-gazing.

As for the future, much will depend on China´s future growth path. In a paper forthcoming at the Annual Economic Review in 2014[3], Storesletten and Zilibotti deal with the commonly held Acemoglu-Robinson view that China’s growth trajectory is unsustainable, in particular due to the persistence of a non-democratic institutional framework so that it would not escape an institution-driven middle-income trap.  The Acemoglu-Robinson view, to be sure, ignores the fact that non-democratic institutions can adapt under contestability.

China’s experience attests to the potency of experimentation in bringing about transformative change, even in a rigid authoritarian, bureaucratic environment, and regardless of strong political opposition. Though the impact of reform experiments varies between policy domains, China’s experimentation-based policy process has been essential to redefining basic policy parameters (Sebastian Heilmann, 2008)[4]. Empirical support for the thesis has been provided by Besley and Kudamatsu (2007)[5] who find that economic growth rates differ more substantially among autocracies than among democracies. This is illustrated in the Figure below which depicts the distribution of growth performance in autocracies and democracies that survive for five years or more.  Successful autocracies outperform democracies at the top of the distribution. The prerequisite: political institutions make political leaders accountable, or make their survival in office depend on their policy performance. This may explain the long rise of China as well as the survival of China´s politbureau.

The recent decisions of the Third Plenary Session of the 18th CPC Central Committee seem to have identified crucial reform policies that will feed growth going forward. Urbanization and financial reform will help further exploit productivity gains embedded in China´s rural-urban and firm-size duality. Easing finance constraints for SMEs will advance de facto privatization and shift resources to entrepreneurial firms obviating the need for part of corporate savings. Reforming land rights will help farmers through improved property rights and lower corruption. Household savings will come down as a result of loosening the decades-long one-child policy. There is still life in China´s convergence; do not bet on its imminent collapse. And as long as China flourishes, so will most emerging countries.

[1] In GIGA Focus Global 09/2013, I deal with China´s past and future rise at length (in German).
[2] Also African manufacturing starts to benefit via special economic zones, foreign direct investment, infrastructure and low-cost capital goods.
[3] Storesletten, Kjetil, und Fabrizio Zilibotti (2014), “China´s Great Convergence and Beyond”, Oslo/
Z├╝rich, mimeo, Annual Economic Review.
[4] Heilmann, Sebastian (2008), “Policy Experimentation in China´s Economic Rise”, in: Studies in Comparative International Development, 43, 1, 1-26.
[5] Besley, Timothy, und Masayuki Kudamatsu (2007), “Making Autocracy Work”, CEPR Discussion Papers, 6371, London: Centre for Economic Policy Research.