Archive for category Political Economy

Fair is foul, and foul is fair

I’ve been reading Jagdish Bhagwati’s excellent take-down of  “fair trade” advocates’ alleged desire to raise labor and environmental standards in developing countries. I will restate the argument made by “fair trade” policy (also known as protectionism) proponents and then my summary and elaboration of Bhagwati’s response:

1. Environmental standards should be equalized (preferrably at a high level) across the world. Otherwise countries with strict standards are in “unfair” competition with low-standard countries.

  • Countries differ in local preference for the environment, economic situation, geography and climate. This requires environmental legislation to be adapted to these local conditions in order to optimally reflect the tradeoff that people are willing to make. Imposing high-standard countries’ preferences would make developing countries worse off by limiting their flexibility.
  • high environmental standards are the expression of a policy preference for pollutants to be more expensive. If a country taxes alcohol and alcohol then becomes more expensive that is exactly why the policy was introduced. Similarly, making the output of polluting industries less attractive/more expensive is the purpose of environmental legislation, as less output is what saves the environment. Complaining that these industries are “unfairly” disadvantaged by the high environmental standards (their goods are more expensive/their output is lower) is just saying that the policy did what it was meant to do.
  • This argument confuses absolute with comparative advantage in international trade. If all developed countries were better at producing everything in absolute terms than developing countries, the pattern of production would be that developed countries produce in their strongest sector compared to other developed-country industries, while developing country production concentrates in the strongest sector relative to other developing-country production. Thus, the margin of competition at which the shift in production will occur in response to a change in environmental standards is between developing countries. In other words, if there are giants and dwarves, the giants will specialize in picking cherries and the dwarves in picking mushrooms. If the giants complain that they are picking cherries barefoot while the dwarves “unfairly” wear shoes while mushroom-picking and push through rules that everyone has to be barefoot, what happens? The mushroom-picking will still not be done by the giants, but it shifts to the dwarves with the least sensitive feet. Thus, developed-country industries will not necessarily profit from a change in environmental legislation in developing countries.

2. A race to the bottom might develop in which countries underbid each other in ever-more destructive environmental practices.

  • while theoretically possible, there is no empirical evidence of this happening. Empirically, companies are not strongly attracted to places with weak environmental standards (see Africa). It seems to me that, anecdotally, the move has been in the opposite direction towards more and stronger environmental regulation globally. China is coming around to consider the environment as important to balanced growth; the former Warshaw Pact/Soviet states have moved from deliberate complete neglect of the environment during socialist times to more sensible policies after the transition to democracy…

3. Trade with countries lacking  adequate “labor rights” should be suspended. It is immoral to exploit/trade with countries/companies that do not guarantee “good” working conditions. Granting labor rights should be a condition of WTO membership, ie violation could be punished with trade sanctions.

  • All the arguments above about efficiency and the lack of empirical evidence for a race to the bottom apply
  • The world is a diverse place without universal agreement on what constitutes “acceptable” labor conditions. An interesting question is, what would happen if the world decided that having minors work in unpaid internships, limiting union representation and refusing to give immigrants rights and legal protection is a failure to guarantee “labor rights”, resulting in  a complete global boycott of many American industries. Would we simply accept that as deserved punishment for American immorality or try and cite specific local circumstances that make American labor standards excusable? Developing countries should have the same leeway in defining their labor norms as developed countries do.
  • Instances of almost universally condemned labor treatment, e.g. slavery, are rare and mainly in economic environments that are unlikely to be reached by international policy agreements
  • Unsurprisingly from a political economy perspective, the list of potential “labor rights” to be enshrined in global agreements is dominated by the things that protectionist rich-world industries  have and what developing countries are lacking, while issues like migrant workers’ rights are conspicuously lacking
  • It is not obvious that official government policy is the right tool to use, even if the goal was desirable. NGOs could help without government force. After all “if your ideas are good, they should spread without coercion”

International spillover effects and coordination on bigger issues like climate change often require legitimacy for international organizations in order to be meaningfully addressed. Only if petty domestic concerns of developed countries and misguided ideological crusades of the sort often exemplified by the international “fair trade” movement cease to threaten developing countries’ sovereignty will these organizations be able to gain support and legitimacy. Just like no country will like to actually disarm when the UN Conference on Disarmament is headed by North Korea [sic], it will be hard to coordinate CO2 emission controls as long as developing countries are continually threatened with sweeping and self-serving environmental rules by developed country advocates.

The bias of international “labor rights” proposals against developing country morals and practice reminds me of Slavoj Zizek’s idea that human rights have been defined in a way that dehumanizes the countries of the developing world while basically defining humanity as whatever it is that us wealthy people already have. Note that this idea seems very much in keeping with the UN’s recent push to make internet access a human right. After all, if we don’t keep moving the goalpost, there might come a time when the “huddled masses” actually gain entrance to the noble club of “humanity” and then no sovereign borders will be there to help us keep them in their disadvantaged place.


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Hawks can lead to crying

Yesterday, the Fed announced its decision with regard to monetary policy taken at the last Federal Open Market Committee meeting: the federal funds rate remains unchanged at a target range of 0-0.25 %.

However, the accompanying statement added further evidence that the Fed has decided that doing its job is too much to ask. It notes with regard to the current economic situation:

…the economic recovery is continuing at a moderate pace, though somewhat more slowly than the Committee had expected.  Also, recent labor market indicators have been weaker than anticipated.

Ay, there’s the rub! Let’s assume that previously the Fed was providing exactly the amount of stimulus that they thought was needed to fulfill their legal mandate of ensuring stable prices and maximum employment. Then, information that the economy is actually weaker than they previously thought should mean that their stimulus needs to be stronger than they previously thought. Somewhat  strange then, isn’t it, that the Fed seems to think that doing nothing is the appropriate course of action?

By now, this kind of inertia is actually what most people should expect from the Fed. At some point during the financial crisis the FOMC simply stopped doing what they are meant to do, which is to counteract  macroeconomic fluctuations by adjusting monetary policy. The excuse was that they had hit the zero lower bound of nominal interest rates and could do nothing else to stimulate the economy. Then, suddenly, in mid 2009 they decided that they were just kidding, they still had some ammo left, and rediscovered that they could simply buy long-term bonds instead of short-term bonds, a policy named QE1. Since then, everyone has quickly forgotten about the previous pretense that there is nothing you can do at zero nominal interest and we have moved on to pretending that 9% unemployment must be sort of like the “maximum employment” that the mandate is talking about. Mission accomplished! No reason to change policy ever again!

Of course, not changing the interest rate does not mean that monetary policy is not changing (a fact that almost no journalist seems to understand). To illustrate imagine the following: In the summer you are providing “heat stimulus” to your living room by adding logs to the fire at a certain rate, which ensures a pleasant temperature. Now, if suddenly winter comes and the outside temperatures drop precipitously, but you keep adding logs to the fire at the same measured pace as during the summer, what’s going to happen? Your room temperature will get unpleasantly low, as your “heat stimulus” is not appropriate anymore for the changed outside conditions. It is the same with monetary policy: If the economic conditions change, while your policy rate remains the same, the effective “temperature” of monetary policy will change, even though (and because) the policy rate did not move.

So the Fed is messing up, its policy is not responding to changes in the economic environment, but why? Short of attributing extraordinary cruelty to the FOMC members, it seems more reasonable to suppose that their institutional decisionmaking process is somehow faulty. In an earlier discussion of the possibility for a QE3 announcement, Fed watcher Tim Duy observed about the FOMC:

This group looks for nothing more than to avoid commitment, trying to unwind policy as soon as possible.

So the Federal Reserve, torn between the “hawkishly inclined FOMC members”, as Duy calls them, and the more dovish ones, is cautious with regard to bold policy moves and underreacts to new economic developments.

The best explanation I can think of is that the factionalization of the FOMC leads to both hawks and doves being reluctant to agree to let policy move too far in the others’ direction for fear that the consensus-based FOMC voting system would then let the others’ faction block any attempts to let policy return to normal once the economy stabilizes. A full game-theoretic model for this kind of mechanism can be found in this paper of mine.

It is just too bad that along the way this infighting among a small group of policymakers causes widespread suffering among the unemployed and lower living standards for everyone else. Institutions matter, I suppose.

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Public Affairs

The New York Times has an excellent piece today on public union pensions, which gives a very good idea of the political economy behind public sector unions and why they are different from private sector unions. The gist of it is in this quote:

…public workers have a unique relationship with elected officials, because government employees are effectively negotiating with bosses whom they can campaign to vote out of office if they don’t get what they want. Private unions, in contrast, don’t usually have the power to fire their members’ employers.

The method to get what they want is quite simple. Public sector employees are a relatively small but well organized interest group that can use the romantic image attached to their professions and the monetary heft of the anticipated spoils of their lobbying to extract favors by political blackmail:

…lawmakers were told if they didn’t vote for the plan, public employee groups would attack them in ads and give their opponents tens of thousands of dollars in contributions, and they could lose endorsements from police, firefighters or other influential groups….

These kinds of tactics also involve psychological reminders of the union’s force. If you heard about a group of politically powerful people stealing billions from taxpayers and using their political influence to intimidate legislators, you probably wouldn’t have thought that the people being talked about are firefighters:

At a recent city council meeting, Mr. Righeimer and his colleagues sat in session for more than six hours…In the audience sat three local firemen wearing Costa Mesa Fire Department T-shirts, all of whom declined to give their names. “I’m not here on anything official,” one said. “We just like the council to know that we’re watching them.”

What effect do these tactics have? Well, in the first place, you get to have a job where your salary and benefits have no correlation to the success of your organization, because the people who pay your salary are taxpayers who are obliged by sovereign force. That means that even in the financial crisis, when normal peoples’ retirement funds would take a hit from the downturn in the stock market and private sector workers take wage cuts to adjust their salaries to the productivity of the economy, public sector unions can happily splurge at other peoples’ expense:

When the financial crisis hit in 2008…[t]he value of Calpers’s[California Public Employees Retirement System] fund dropped $100 billion from its peak, losing over a third of its worth. The cost of pension promises, however, was still going up. More than 190 California cities and agencies have increased government workers’ benefits since the economic downturn began

But it’s all for the improvement of public services right? Definitely not anymore, once the bill of the extravaganza has to be paid:

In California, New Jersey and Illinois, lawmakers may eventually need to increase taxes more than 17 percent or cut government services to pay public retirees’ benefits

Whether the necessary cutbacks in spending on education and health care and other budget items are weighed up by the fact that the firefighters and police men in question will be very happy with their pension packets is a normative question. However, the current slack in the labor market suggests that incentivizing these public employees to keep their jobs should not require a large amount of resources. To the first approximation, a good test of whether or not someone is underpaid should be whether many people are quitting that job for better alternatives. Somehow I doubt that many police chiefs and firefighters are eager to give up their positions.

What is certain, is that a sizable group of public sector employees will get legally guaranteed pensions at zero risk far exceeding any payments they made into the pension fund, thereby seriously draining the funds of their state governments, which are unable or unwilling to resist because they have been captured by the political lobbying of the public sector unions. In this light, I hope you can appreciate the bitter irony of the following statement:

“But why are we making this a race to the bottom? Why aren’t we making sure every working American gets a decent pension after a lifetime of work?” [general manager of the Orange County Employees Association] Mr. Berardino asked.

Really, why can’t everyone extract money for their own benefit by taxing other people to pay for pensions that they didn’t earn? Unfortunately the answer seems to elude many people.




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