Topic: International Economics and Development

African Free Trade Zone Is Good News - If Properly Implemented

According to the South African newspaper Mail and Guardian, “African leaders on Wednesday signed a potentially historic, 26-nation free-trade pact to create a common market spanning half the continent, from Cairo to Cape Town. The deal on the Tripartite Free Trade Area (TFTA) is the culmination of five years of negotiations to set up a framework for preferential tariffs easing the movement of goods in an area that is home to 625-million people…. The deal will integrate three existing trade blocs – the East African Community, the Southern African Development Community and the Common Market for Eastern and Southern Africa (Comesa) – whose countries have a combined gross domestic product (GDP) of more than $1-trillion.”

“Potentially historic” is the right term for what could be a greatly beneficial agreement. African parliaments will have two years to ratify the agreement – and that is the easy part. Proper implementation and enforcement will be much more difficult in countries with deeply underdeveloped institutions of rule of law and protection of private property. Still, the TFTA is a step in the right direction, for it signals an important ideological shift on the part of the African elite. Historically, African governments have been deeply skeptical of free trade and capitalism. Instead, they preferred protectionism and state-led development. To the extent that they were interested in trade, the African governments emphasized access to Western markets, while eschewing liberalization of their own. The consequences were catastrophic. As I wrote in a 2005 Cato paper,  

[T]rade liberalization in the developed world as a cure for world poverty is often overemphasized. Simply abandoning developed-world protectionism would not substantially change the lives of the people in the poorest parts of the developing world. That is particularly true of sub-Saharan Africa (SSA), where the main causes of impoverishment are internal. SSA is not poor because of lack of access to world markets. SSA is poor because of political instability and because of a lack of policies and institutions, such as private property rights, that are necessary for the market economy to flourish.

Despite substantial declines in applied and bound tariffs throughout the world, protectionism [in SSA] is still very much alive. Developing countries’ average tariff rates are more than three times higher than those of developed countries… According to the WTO, only 10 percent of African (including sub-Saharan African) exports were intraregional (i.e.: traded to other African countries). In contrast, 68 percent of exports from countries in Western Europe were exported to other Western European countries. Similarly, 40 percent of North American exports were to other countries in North America.

It is hypocritical for African leaders to call for greater access to global markets while rejecting trade openness at home. It is also self-defeating, because domestic protectionism contributes to perpetuating African poverty. Research shows that countries with the greatest freedom to trade tend to grow faster than countries that restrict trading. SSA governments have complete control over the reduction of their own trade barriers. If they are truly serious about the benefits of trade liberalization, they can immediately free trade relations among SSA countries and with the rest of the world. They should do so regardless of what the developed world does.

OECD Scheme to Boost Taxes on Business Sector Will Hurt Global Economy and Enable Bigger Government

Citing the work of David Burton and Richard Rahn, I warned last July about the dangerous consequences of allowing governments to create a global tax cartel based on the collection and sharing of sensitive personal financial information.

I was focused on the danger to individuals, but it’s also risky to let governments obtain more data from businesses.

Remarkably, even the World Bank acknowledges the downside of giving more information to governments.

Here are some blurbs from the abstract of a new study looking at what happens when companies divulge more data.

Relying on a data set of more than 70,000 firms in 121 countries, the analysis finds that disclosure can be a double-edged sword. …The findings reveal the dark side of voluntary information disclosure: exposing firms to government expropriation.

And here are some additional details from the full report.

…disclosure has important costs in allowing exposure to government expropriation… We show that accounting information disclosure can be detrimental to firm development… Such disclosure allows corrupt bureaucrats to gain access to firm-level information and use it for endogenous harassment. …once firm information is disclosed, the threat of government expropriation is widespread. Information disclosure thus allows rent-seeking bureaucrats to gain access to the disclosed information and use it to extract bribes. …Our paper offers a vivid illustration that an important hindrance to institutional development—here in the form of adopting information disclosure—is government expropriation. …The results are thus supportive of Acemoglu and Johnson (2005) on the overwhelming importance of constraining government expropriation in facilitating economic development.

Yet this doesn’t seem to bother advocates of bigger government.

Venezuela: Not Hyperinflating—Yet

Although Venezuela’s inflation has soared (see: Up, Up, and Away), Venezuela is not experiencing a hyperinflationary episode–yet. Since the publication of Prof. Phillip Cagan’s famous 1956 study The Monetary Dynamics of Hyperinflation, the convention has been to define hyperinflation as when the monthly inflation rate exceeds 50%.

I regularly estimate the monthly inflation rates for Venezuela. To calculate those inflation rates, I use dynamic purchasing power parity (PPP) theory. While Venezuela’s monthly inflation rate has not advanced beyond the 50% per month mark on a sustained basis, it is dangerously close. Indeed, Venezuela’s inflation rate is currently 45% per month (see the accompanying chart).

If inflation moves much higher, the legacy of Hugo Chavez’s Bolivarian Revolution will be that Venezuela joins the rather select hyperinflation club as the 57th member. Yes, there have only been 56 documented hyperinflations

Venezuela's Monthly Inflation Rates

Things Are Getting Better

By nature, human beings can be pessimistic. But, depending on their political persuasion, people tend to focus on different things. Among the Progressive shibboleths in recent decades were concerns over overpopulation, exhaustion of natural resources and coming widespread famine. Data, however, tells a different story. The population growth is leveling off and food is more plentiful than before. The New York Times and the National Public Radio were forced to admit as much in two articles over the last couple of days.  

On May 31, 2015, the New York Times published a story entitled “The Unrealized Horrors of Population Explosion.” The article admits that the planet is not facing a problem of overpopulation. In fact, due to increased prosperity around the world, women have access to more information, education, and career choices. Female empowerment combined with the massive improvements in healthcare and dramatically falling infant mortality rates, have led to total fertility rate plummeting from 5 babies per woman in the 1950s to 2.5 in 2010s. 

To put it in the dry language of economics, as women’s earning potential increases, the opportunity cost of having babies increases as well. As such, more women chose to enter the labor force rather than stay at home and raise the children. The TFR of 2.5 babies per woman is still above the replacement rate of 2.1, but United Nations’ demographers predict that the world’s population will level off at 9 billion people and then start falling. That is already happening in a number of European countries. German population, for example, is predicted to decline from 80 million today to 71 million in 2060. 

Venezuela’s Inflation: Up, Up, and Away

Like the 2009 Oscar award-winning Pixar film Up, Venezuela’s annual inflation rate has soared sky high (see the chart below). On December 31, 2014, Venezuela’s bolivar traded at a VEF/USD rate of 171 and the implied annual inflation rate stood at 169%. In May of 2015, Venezuela’s bolivar collapsed and the implied annual inflation rate broke the 500% barrier. On May 28, 2015, the VEF/USD rate was 413, a 59% depreciation in the bolivar since January 1st. Not surprisingly, the implied annual inflation rate stood at a staggering 495%.

Venezuela's Annual Inflation Rates

Proven Reforms to Restrain Leviathan

Back in March, I shared a remarkable study from the International Monetary Fund which explained that spending caps are the only truly effective way to achieve good fiscal policy.

And earlier this month, I discussed another good IMF study that showed how deficit and debt rules in Europe have been a failure.

In hopes of teaching American lawmakers about this international evidence, the Cato Institute put together a forum on Capitol Hill to highlight the specific reforms that have been successful.

I moderated the panel and began by pointing out that there are many examples of nations that have enjoyed good results thanks to multi-year periods of spending restraint.

I even pointed out that we actually had an unintentional - but very successful - spending freeze in Washington between 2009 and 2014.

But the problem, I suggested, is that it is very difficult to convince politicians to sustain good policy on a long-run basis. The gains of good policy (such as what was achieved in the 1990s) can quickly be erased by a spending binge (such as what happened during the Bush years).

Balanced Budget Requirements Don’t Work as Well as Spending Limits

When I first came to Washington back in the 1980s, there was near-universal support and enthusiasm for a balanced budget amendment among advocates of limited government.

The support is still there, I’m guessing, but the enthusiasm is not nearly as intense.

There are three reasons for this drop.

  1. Political reality - There is zero chance that a balanced budget amendment would get the necessary two-thirds vote in both the House and Senate. And if that happened, by some miracle, it’s highly unlikely that it would get the necessary support for ratification in three-fourths of state legislatures.
  2. Unfavorable evidence from the states - According to the National Conference of State Legislatures, every state other than Vermont has some sort of balanced budget requirement. Yet those rules don’t prevent states like California, Illinois, Connecticut, and New York from adopting bad fiscal policy.
  3. Favorable evidence for the alternative approach of spending restraint - While balanced budget rules don’t seem to work very well, policies that explicitly restrain spending work very well. The data from Switzerland, Hong Kong, and Colorado is particularly persuasive.

Advocates of a balanced budget amendment have some good responses to these points. They explain that it’s right to push good policy, regardless of the political situation. Since I’m a strong advocate for a flat tax even though it isn’t likely to happen, I can’t argue with this logic.

Regarding the last two points, advocates explain that older versions of a balanced budget requirement simply required a supermajority for more debt, but newer versions also include a supermajority requirement to raise taxes. This means - at least indirectly - that the amendment actually is a vehicle for spending restraint.