The World Economy in 2018


December 26, 2017

The World Economy in 2018

ttps://www.project-syndicate.org/commentary/world-economy-2018-predictions-by-michael-boskin-2017-12
 

In the tenth year since the start of the global financial crisis, the US economy reached a new high-water mark, and the global economy exceeded expectations. But whether these positive trends continue in 2018 will depend on a variety of factors, from fiscal and monetary policymaking to domestic politics and regional stability.

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Michael J. Boskin, a senior fellow at the Hoover Institution and the T. M. Friedman Professor of Economics at Stanford University,Palo Alto, California

STANFORD – All major macroeconomic indicators – growth, unemployment, and inflation – suggest that 2017 will be the American economy’s best year in a decade. And the global economy is enjoying broad, synchronized growth beyond what anyone expected. The question now is whether this strong performance will continue in 2018.

The answer, of course, will depend on monetary, fiscal, trade, and related policies in the United States and around the world. And yet it is hard to predict what policy proposals will emerge in 2018. There are relatively new heads of state in the US, France, and the United Kingdom; German leaders still have not formed a governing coalition since the general election in September; and the US Federal Reserve has a new chair awaiting confirmation. Moreover, major changes in important developing economies such as Argentina, Saudi Arabia, and Brazil have made the future outlook even murkier.

Still, we should hope for the best. First and foremost, we should hope that synchronized global growth at a rate of just under 4% will continue in 2018, as the International Monetary Fund projected in October. Growth not only raises incomes, but also makes vexing problems such as bad bank loans and budget deficits more manageable. As former US President John F. Kennedy famously said in an October 1963 speech in which he promoted his proposed corporate and personal tax reductions, “a rising tide lifts all boats.”

For my part, I predict that the global recovery will continue, but at a slightly slower growth rate of around 3.5%. The two most obvious risks to keep an eye on will be Europe, where a cyclical upturn could stall, and the oil-rich Middle East, where tensions could flare up once again.

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Second, let us hope that the Fed, guided by the steady hand of its new chair, Jerome “Jay” Powell (pic above), will continue or even accelerate its monetary-policy normalization, both by raising its benchmark federal funds rate, and by shrinking its engorged balance sheet. And we should hope that economic conditions allow the other major central banks, especially the European Central Bank, to follow suit.

On this front, I predict that the major central banks will continue to normalize monetary policies more gradually than is necessary. The biggest risk here is that markets may try to test the Fed under its new leadership, for example, if inflation rises faster than anticipated.

Third, let us hope that the Republican tax package will, if enacted, deliver on its promise of increased investment, output, productivity, and wages over the coming decade. Here, I predict that the legislation will pass, and that investment in the US over the next few years will be relatively higher than if no action had been taken.

To be sure, whether investment will rise from its currently subdued level will depend on many other factors than the corporate-tax rate. But the tax package can still be expected to boost output, productivity, and wages. The question is not if, but when.2

If the full effects of the legislation are not felt before the 2018 or 2020 elections, that lag could prove politically consequential. The biggest danger is that its benefits will be delayed, and that its key provisions will be reversed whenever the Democrats are back in power.

Fourth, let us hope that governments everywhere begin to address the looming crisis in public-pension and health-care costs, which have been rising for decades. As social programs become costlier, they crowd out government expenditures on necessities such as defense, while generating ever more pressure to impose higher growth-suppressing taxes.

Europe, in particular, must not let its cyclical rebound lull it into complacency. Many European Union member states still need to reduce their government debt, and the eurozone needs to resolve its “zombie bank” crisis. Beyond that, structural labor-market reforms of the kind French President Emmanuel Macron is pursuing would be most welcome.

Unfortunately, I’m afraid that progress on structural reforms will be sporadic, at best. The danger is that slow growth will not lead to sufficient wage gains and job creation to defuse the ticking time bomb of high youth unemployment in many countries. Another risk is that reform attempts could provoke a political backlash that would be harmful to long-term investment.

Fifth, let us hope that the eurozone can avoid a currency crisis. This will depend largely on whether German Chancellor Angela Merkel can form a coalition government and restore political stability to Europe’s largest economy.

Sixth, we should hope that the EU and the UK can agree on a reasonable Brexit deal that will preserve fairly strong trade relations. The main risk here is that localized declines in trade could spill over and cause broader harm

And, beyond Europe, let us hope that negotiations between the US, Canada, and Mexico over the North American Free Trade Agreement (NAFTA) will result in an arrangement that still facilitates continental trade. For trade generally, the biggest risk is that the Trump administration could start a lose-lose trade dispute, owing to its understandable eagerness to help American manufacturing workers

Seventh, let us hope that new policies targeting information and communication technology (ICT) strike the right balance among all stakeholders’ competing and legitimate concerns. On one hand, there is reason to worry about certain Internet companies’ concentration of market power, particularly in online content and distribution, and about the effects of new technologies on personal privacy, law enforcement, and national security. On the other hand, new technological advances could deliver immense economic gains.

It is easy to envision a scenario of too much regulation, or of too little. It is also easy to envision a large-scale public backlash against the major technology companies, particularly if poor self-policing or a refusal to cooperate with law enforcement leads to some horrible event.

Here, I predict that achieving an appropriate policy balance will take years. If some future event strikes an emotional chord, the public’s mood could swing dramatically. Ultimately, however, I suspect that competition and innovation will survive the forthcoming regulations.

Finally, and most important, let us hope that terrorism is thwarted everywhere, conflicts subside, democracy and capitalism regain some momentum, and greater civility and honest dialogue return to the public domain. Should that happen in 2018, it will be a very good year indeed

Michael J. Boskin is Professor of Economics at Stanford University and Senior Fellow at the Hoover Institution. He was Chairman of George H. W. Bush’s Council of Economic Advisers from 1989 to 1993, and headed the so-called Boskin Commission, a congressional advisory body that highlighted errors in official US inflation estimates.

Open Letter to Dr. Mahathir Bin Mohamad–Bank Negara Forex Losses


December 26, 2017

Open Letter to Dr. Mahathir Bin Mohamad–Bank Negara Forex Losses

by Second Finance Minister Johari Abdul Ghani

http://www.malaysiakini.com

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COMMENT | Dear Tun Dr Mahathir Mohamad,

Many of my friends who are readers of Tun’s blog, have contacted me for clarification regarding Tun’s latest writing entitled “Dear Mr Johari” on the issue of the speculative foreign exchange transaction.

At first, I told them that I have already said enough about the subject matter and I do not want to prolong the discussion on this issue especially since there is already an independent team at the Royal Malaysian Police (PDRM) investigating this matter.

The subject of foreign exchange activities can sometimes be too technical a subject for the ordinary man on the street to understand, particularly in relation to the role of Bank Negara Malaysia (BNM) in the management of the country’s international reserves. However, I felt it best that I try to hopefully close the discussion by putting the matter in simple perspective for ease of understanding.

It is very important for the public at large to understand the difference between speculative foreign exchange activities and orderly management of the foreign exchange market. The speculative foreign exchange activity, to put it in simpler words, is a kind of “gambling” activity with the hope of quick returns.

The orderly management of the foreign exchange market, however, is very much different in that it is a facilitation of liquidity by BNM to market participants in the country for the purpose of mitigating imbalances with respect to the ringgit’s supply and demand in the market.

To put the matter in perspective, it was highlighted in an internal audit report prepared by BNM’s internal auditors dated January 21, 1994 that the Foreign Exchange Operation Division of the Banking Department in BNM was involved in voluminous foreign exchange trading activities, so much so that the monthly maturing buying and selling of foreign exchange transactions which amounted to an average of RM140 billion in 1992 had increased to a staggering RM750 billion in 1993!

The substantial portion of such transactions was very speculative in nature and did not reflect BNM’s mandate to maintain the orderly condition of the foreign exchange market as per Section 4 of the Central Bank of Malaysia Ordinance 1958.

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Malaysia’s Notorious Currency Trader who broke Bank Negara Malaysia, Nor Mohamed Yakcop

The said internal audit report also highlighted that the magnitude of such foreign exchange speculative transactions was considered very excessive given that the shareholders’ fund of BNM was only RM4.4 billion and the country’s international reserves were merely RM43.98 billion at that material time. These speculative activities had caused BNM to suffer foreign exchange transaction losses amounting to RM31.5 billion during the period under review.

The Audit Report also stated that the voluminous speculative foreign exchange trading activities that the central bank had undertaken during that time were carried out by the Foreign Exchange Division of the Banking Department of BNM, headed by its advisor/manager then, Nor Mohamed Yakcop, whom later became the Minister of Finance II of the country.

Transfer of shares

Because of the scale of these foreign exchange speculative activities losses, the government was forced to transfer its shares in Telekom and Tenaga Nasional Berhad (TNB) to BNM at the nominal value of RM1 per share and these shares were immediately revalued by BNM at RM22.10 per share and RM19.30 per share for Telekom and TNB respectively.

In addition, BNM had to dispose off its Malaysia Airlines (MAS) shares to a third party at the price of RM8 per share and MISC shares at RM10 per share to Kumpulan Wang Pencen in order to realise the gain. If these speculative foreign exchange losses were not real, the government would not have taken these drastic actions in order to cover the BNM losses at that material time.

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Members of Royal Commission on Bank Negara Forex Losses

BNM and the country have since come a long way, particularly in instituting the necessary reforms and checks and balances with regard to its foreign exchange forward transaction activities. As a result of these reforms, despite the volatility of capital flows and the ringgit in the recent period, our economy continues to remain resilient and BNM’s ability to safeguard the financial and economic stability remains uncompromised.

In fact, our international reserves have continued to strengthen ever since and as at the end of November 2017, the reserves amounted to US$101.9 billion and were able to support 7.5 months of retained imports. I have said enough on this subject and if the understanding of the truth is not the objective of the discussion, then there is nothing much I can say on this.

I wish Tun and family the very best of health and a very Happy New Year; may the New Year be peaceful and prosperous for all of us Malaysians.


JOHARI ABDUL GHANI is Finance Minister II.

Complacency Will Be Tested in 2018


December 15, 2015

Complacency Will Be Tested in 2018

by Stephen S. Roach@ http://www.project-syndicate.org

Despite seemingly robust indicators, the world economy may not be nearly as resilient to shocks and systemic challenges as the consensus view seems to believe. In particular, the absence of a classic vigorous rebound from the Great Recession means that the global economy never recouped the growth lost in the worst downturn of modern times.

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“World GDP growth is viewed as increasingly strong, synchronous, and inflation-free. Exuberant financial markets could hardly ask for more.I suspect that today’s consensus of complacency will be seriously tested in 2018”.–Stephen S. Roach

NEW HAVEN – After years of post-crisis despair, the broad consensus of forecasters is now quite upbeat about prospects for the global economy in 2018. World GDP growth is viewed as increasingly strong, synchronous, and inflation-free. Exuberant financial markets could hardly ask for more.

While I have great respect for the forecasting community and the collective wisdom of financial markets, I suspect that today’s consensus of complacency will be seriously tested in 2018. The test might come from a shock – especially in view of the rising risk of a hot war (with North Korea) or a trade war (between the US and China) or a collapsing asset bubble (think Bitcoin). But I have a hunch it will turn out to be something far more systemic.

The world is set up for the unwinding of three mega-trends: unconventional monetary policy, the real economy’s dependence on assets, and a potentially destabilizing global saving arbitrage. At risk are the very fundamentals that underpin current optimism. One or more of these pillars of complacency will, I suspect, crumble in 2018.

Unfortunately, the die has long been cast for this moment of reckoning. Afflicted by a profound sense of amnesia, central banks have repeated the same mistake they made in the pre-crisis froth of 2003-2007 – over staying excessively accommodative monetary policies. Misguided by inflation targeting in an inflationless world, monetary authorities have deferred policy normalization for far too long.

That now appears to be changing, but only grudgingly. If anything, central bankers are signaling that the coming normalization may even be more glacial than that of the mid-2000s. After all, with inflation still undershooting, goes the argument, what’s the rush?

Alas, there is an important twist today that wasn’t in play back then –central banks’ swollen balance sheets. From 2008 to 2017, the combined asset holdings of central banks in the major advanced economies (the United States, the eurozone, and Japan) expanded by $8.3 trillion, according to the Bank for International Settlements. With nominal GDP in these same economies increasing by just $2.1 trillion over the same period, the remaining $6.2 trillion of excess liquidity has distorted asset prices around the world.

Therein lies the crux of the problem. Real economies have been artificially propped up by these distorted asset prices, and glacial normalization will only prolong this dependency. Yet when central banks’ balance sheets finally start to shrink, asset-dependent economies will once again be in peril. And the risks are likely to be far more serious today than a decade ago, owing not only to the overhang of swollen central bank balance sheets, but also to the overvaluation of assets.

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Will the Republican Tax Plan work?

That is particularly true in the United States. According to Nobel laureate economist Robert J. Shiller, the cyclically adjusted price-earnings (CAPE) ratio of 31.3 is currently about 15% higher than it was in mid-2007, on the brink of the subprime crisis. In fact, the CAPE ratio has been higher than it is today only twice in its 135-plus year history – in 1929 and in 2000. Those are not comforting precedents.

As was evident in both 2000 and 2008, it doesn’t take much for overvalued asset markets to fall sharply. That’s where the third mega-trend could come into play – a wrenching adjustment in the global saving mix. In this case, it’s all about China and the US – the polar extremes of the world’s saving distribution.

China is now in a mode of saving absorption; its domestic saving rate has declined from a peak of 52% in 2010 to 46% in 2016, and appears headed to 42%, or lower, over the next five years. Chinese surplus saving is increasingly being directed inward to support emerging middle-class consumers – making less available to fund needy deficit savers elsewhere in the world.

By contrast, the US, the world’s neediest deficit country, with a domestic saving rate of just 17%, is opting for a fiscal stimulus. That will push total national saving even lower – notwithstanding the vacuous self-funding assurances of supply-siders. As shock absorbers, overvalued financial markets are likely to be squeezed by the arbitrage between the world’s largest surplus and deficit savers. And asset-dependent real economies won’t be too far behind.

In this context, it’s important to stress that the world economy may not be nearly as resilient as the consensus seems to believe – raising questions about whether it can withstand the challenges coming in 2018. IMF forecasts are typically a good proxy for the global consensus. The latest IMF projection looks encouraging on the surface – anticipating 3.7% global GDP growth over the 2017-18 period, an acceleration of 0.4 percentage points from the anemic 3.3% pace of the past two years.

However, it is a stretch to call this a vigorous global growth outcome. Not only is it little different from the post-1965 trend of 3.8% growth, but the expected gains over 2017-2018 follow an exceptionally weak recovery in the aftermath of the Great Recession. This takes on added significance for a global economy that slowed to just 1.4% average growth in 2008-2009 – an unprecedented shortfall from its longer-term trend.

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Trumpian Economics

The absence of a classic vigorous rebound means the global economy never recouped the growth lost in the worst downturn of modern times. Historically, such V-shaped recoveries have served the useful purpose of absorbing excess slack and providing a cushion to withstand the inevitable shocks that always seem to buffet the global economy. The absence of such a cushion highlights lingering vulnerability, rather than signaling newfound resilience – not exactly the rosy scenario embraced by today’s smug consensus.

A quote often attributed to the Nobel laureate physicist Niels Bohr says it best: “Prediction is very difficult, especially if it’s about the future.” The outlook for 2018 is far from certain. But with tectonic shifts looming in the global macroeconomic landscape, this is no time for complacency.

*Stephen S. Roach, former Chairman of Morgan Stanley Asia and the firm’s chief economist, is a senior fellow at Yale University’s Jackson Institute of Global Affairs and a senior lecturer at Yale’s School of Management. He is the author of Unbalanced: The Codependency of America and China.

 

Why 1997 Asian Crisis Lessons Lost


December 7, 2017

Why 1997 Asian Crisis Lessons Lost

by Jomo Kwame Sundaran

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Various different, and sometimes contradictory lessons have been drawn from the 1997-1998 East Asian crises. Rapid or V-shaped recoveries and renewed growth in most developing countries in the new century also served to postpone the urgency of far-reaching reforms. The crises’ complex ideological, political and policy implications have also made it difficult to draw lessons from the crises.

Conventional wisdom

The conventional wisdom was to blame the crisis on bad economic policies pursued by the governments concerned. Of course, the vested interests favouring the international financial status quo or further liberalization also impede implementing needed reforms. Such interests continue to be supported by the media.

Citing currency crisis theory, the initial response to the crises was to blame poor macroeconomic, especially fiscal policies, although most East Asian economies had been maintaining budgetary surpluses for some years. Nevertheless, the IMF and others, including the international business media, urged spending cuts and other pro-cyclical policies (e.g., raising interest rates) which worsened the downturns.

Such policies were adopted in much of the region from late 1997, precipitating sharper economic collapses. By the second quarter of 1998, however, it was increasingly recognized that these policies had worsened, rather than reversed the economic deterioration, transforming currency and financial crises into crises of the real economy.

By early 1998, however, as macroeconomic orthodoxy lost credibility, the blame shifted to political economy, condemning ‘cronyism’ as the cause. US Federal Reserve Bank chair Alan Greenspan, US Treasury Deputy Secretary Lawrence Summers and IMF Managing Director Michel Camdessus formed a chorus criticizing Asian corporate governance in quick sequence over a month from late January.

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Paul Krugman, Joseph Stiglitz and Jeffery Sachs supported Keynesian counter-cyclical policies.

The dubious conventional explanations of the Asian crises were not shared by more independently minded mainstream economists with less ideological prejudices. The World Bank’s chief economist Joseph Stiglitz and other prominent Western economists such as Paul Krugman and Jeffrey Sachs supported Keynesian counter-cyclical policies.

Regional contagion and response

The transformation of the region’s financial systems from the late 1980s had made their economies much more vulnerable and fragile. Rapid economic growth and financial liberalization attracted massive, but easily reversible, footloose capital inflows.

New regulations encouraged short-term lending, typically ‘rolled over’ in good times. Much of these came from Japanese and continental European banks as UK and US banks continued to recover from the 1980s’ sovereign debt crises. But these gradual inflows suddenly became massive outflows when the crisis began.

Significant inflows were also attracted by stock market and other asset price bubbles. The herd behaviour characteristic of capital markets exacerbated pro-cyclical market behaviour, heightening panic during downturns. Fickle market behaviour also exacerbated contagion, worsening regional neighbourhood effects.

Japan’s offer of US$100 billion to manage the crisis in the third quarter of 1997 was quickly stymied by the US and the IMF. Instead, a more modest amount was made available under the Miyazawa Plan to finance more modest facilities, institutions and instruments.

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Much later, in Chiang Mai, Thailand, the region’s Finance Ministers approved a series of bilateral credit lines or swap facilities, conditional on IMF approval. Many years later, the finance ministers of Japan, China and South Korea ensured that these arrangements were regionalized, and no longer simply the aggregation of bilateral commitments, while increasing the size of the credit facility.

New International Financial Architecture

A year after the crisis began in July 1997, US President Bill Clinton called for a new international financial architecture. The apparent spread of the Asian crisis to Brazil and Russia underscored that contagion could be more than regional.

The collapse of Long-Term Capital Management (LTCM) following the Russian crisis led the US Federal Reserve to intervene in the market to coordinate a private sector bailout. This legitimized government interventions to ensure functioning financial systems and sufficient liquidity to finance economic recovery.

After the US Fed lowered interest rates, capital flowed to East Asia once again. The Malaysian government’s establishment of bailout institutions and mechanisms in mid-1998 and its capital controls on outflows from September 1998 also warned that other countries might go their own way.

Ironically, the economic recoveries in the region from late 1998 weakened the resolve to reform the international financial system. Talk of a new international financial architecture began to fade as recovery was presented as proof of international financial system resilience.

Coping with Foreign Direct Investment


December 6, 2017

Coping with Foreign Direct Investment

by Jomo Kwame Sundaram and Anis Chowdhury

http://www.networkideas.org/news-analysis/2017/11/coping-with-foreign-direct-investment/

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Malaysia has been named by Forbes as one of the top recipients of foreign direct investment, followed by Singapore, Vietnam, Indonesia and India.

Foreign direct investment (FDI) is increasingly touted as the elixir for economic growth. While not against FDI, the mid-2015 Addis Ababa Action Agenda (AAAA) for financing development also cautioned that it “is concentrated in a few sectors in many developing countries and often bypasses countries most in need, and international capital flows are often short-term oriented”.

FDI flows

UNCTAD’s 2017 World Investment Report (WIR) shows that FDI flows have remained the largest and has provided less volatile of all external financial flows to developing economies, despite declining by 14% in 2016. FDI flows to the least developed countries and ‘structurally weak’ economies remain low and volatile.

FDI inflows add to funds for investment, while providing foreign exchange for importing machinery and other needed inputs. FDI can enhance growth and structural transformation through various channels, notably via technological spill-overs, linkages and competition. Transnational corporations (TNCs) may also provide access to export markets and specialized expertise.

However, none of these beneficial growth-enhancing effects can be taken for granted as much depends on type of FDI. For instance, mergers and acquisitions (M&As) do not add new capacities or capabilities while typically concentrating market power, whereas green-field investments tend to be more beneficial. FDI in capital-intensive mining has limited linkage or employment effects.

Technological Capacities and Capabilities

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The National Bank of Cambodia’s decision in March, 2017 to raise the minimum capital requirements of financial institutions in order to strengthen and stabilise the financial sector has led to an increase in foreign capital flowing into the banking sector, according to industry experts. Underpinned by political stability  and business friendly policies, Cambodia is expected to register robust real economic growth in 2017 in excess of 7 per cent per annum.

Technological spill-overs occur when host country firms learn superior technology or management practices from TNCs. But intellectual property rights and other restrictions may effectively impede technology transfer.

Or the quality of human resources in the host country may be too poor to effectively use, let alone transfer technology introduced by foreign firms. Learning effects can be constrained by limited linkages or interactions between local suppliers and foreign affiliates.

Linkages between TNCs and local firms are also more likely in countries with strict local content requirements. But purely export oriented TNCs, especially in export processing zones (EPZs), are likely to have fewer and weaker linkages with local industry.

Foreign entry may reduce firm concentration in a national market, thereby increasing competition, which may force local firms to reduce organizational inefficiencies to stay competitive. But if host country firms are not yet internationally competitive, FDI may decimate local firms, giving market power and lucrative rents to foreign firms.

Contrasting Experiences

The South Korean government has long been cautious towards FDI. The share of FDI in gross capital formation was less than 2% during 1965-1984. The government did not depend on FDI for technology transfer, and preferred to ‘purchase and unbundle’ technology, encouraging ‘reverse engineering’. It favoured strict local content requirements, licensing, technical cooperation and joint ventures over wholly-owned FDI.

In contrast, post-colonial Malaysia has never been hostile to any kind of FDI. After FDI-led import-substituting industrialization petered out by the mid-1960s, export-orientation from the early 1970s generated hundreds of thousands of jobs for women. Electronics in Malaysia has been more than 80% FDI since the 1970s, with little scope for knowledge spill-overs and interactions with local firms. Although lacking many mature industries, Malaysia has been experiencing premature deindustrialization since the 1997-1998 Asian financial crises.

China and India

From the 1980s, China has been pro-active in encouraging both import-substituting and export-oriented FDI. However, it soon imposed strict requirements regarding local content, foreign exchange earnings, technology transfer as well as research and development, besides favouring joint ventures and cooperatives.

Solely foreign-owned enterprises were not permitted unless they brought advanced technology or exported most of their output. China only relaxed these restrictions in 2001 to comply with WTO entrance requirements. Nevertheless, it still prefers TNCs that bring advanced technology and boost exports, and green-field FDI over M&As.

Thus, more than 80% of FDI in China involves green-field investments, mostly in manufacturing, constituting 70% of total FDI in 2001. China has strictly controlled FDI inflows into services, only allowing FDI in real estate recently.

Although long cautious of FDI, India has recently changed its policies, seeking FDI to boost Indian manufacturing and create jobs. Thus, the current government has promised to “put more and more FDI proposals on automatic route instead of government route”.

Despite sharp rising FDI inflows, the share of FDI in manufacturing declined from 48% to 29% between October 2014 and September 2016, with few green-field investments. Newly incorporated companies’ share of inflows was 2.7% overall, and 1.6% for manufacturing, with the bulk of FDI going to M&As.

Policy Lessons

FDI policies need to be well complemented by effective industrial policies including efforts to enhance human resource development and technological capabilities through public investments in education, training and R&D.

Thus, South Korea industrialized rapidly without much FDI thanks to its well-educated workforce and efforts to enhance technological capabilities from 1966. Korean manufacturing developed with protection and other official support (e.g., subsidized credit from state-owned banks and government-guaranteed private firm borrowings from abroad) subject to strict performance criteria (e.g., export targets).

Indeed, FDI can make important contributions “to sustainable development, particularly when projects are aligned with national and regional sustainable development strategies. Government policies can strengthen positive spillovers …, such as know-how and technology, including through establishing linkages with domestic suppliers, as well as encouraging the integration of local enterprises… into regional and global value chains”.

(This article was originally published in Inter Press service (IPS) news on November 21, 2017)

Janet Yellen Was a Master of Thinking in Public. What About Jay Powell?


November 5, 2017

Janet Yellen Was a Master of Thinking in Public. What About Jay Powell?

by Adam Davidson

https://www.newyorker.com/business/currency/janet-yellen-was-a-master-of-thinking-in-public-what-about-jay-powell?mbid=nl_TNY%20Template%20-%20With%20Photo%20(55)&CNDID=49438257&spMailingID=12287533&spUserID=MTg4MDU2MzU5MDA5S0&spJobID=1280352236&spReportId=MTI4MDM1MjIzNgS2

Jay Powell, Trump’s nominee for Federal Reserve chair, is praised as a safe, consensus choice, but no one can be entirely sure what he is thinking. Photograph by T.J. Kirkpatrick / Bloomberg via Getty

Much of the time, the Federal Reserve operates a bit like a commercial pilot on a long, routine flight over the Pacific. The plane’s navigational system is taking care of nearly all the decisions, and the pilot is just there in case things go haywire. The central role of the Fed’s chair, governors, and regional presidents is to meet roughly every six weeks to decide on the Fed funds rate. Technically, that rate is the amount banks charge one another for overnight loans; metaphorically, however, it’s the central drumbeat of the economy. (Or should it be “the thrust of the airplane’s engines”? Too many metaphors.) The Fed funds rate ripples throughout our financial system and, in ways that are still not fully understood, helps determine inflation, unemployment, and, from time to time, the very structural soundness of the global economy.

On Thursday, President Trump nominated Jerome (Jay) Powell as the next chair of the Federal Reserve. By near-universal agreement, he’s a safe choice. For five years, he has been one of the little-known gray men at those regular meetings, always voting with the usually unanimous majority, never expressing dissent or an independent view. Journalists and Fed watchers have scoured his background and found virtually nothing to suggest a monetary Powell doctrine—some take on the world that would tell us how he might handle, say, a financial crisis or a sudden recession with a President screaming for the Fed to act. Bloomberg carefully studies each member of the Fed’s Open Market Committee (the body that determines that crucial rate), and has rated Powell as precisely “neutral,” meaning he is neither a “dove” (someone generally supportive of lower rates to increase employment) or a “hawk” (someone who is more worried about inflation and wants to use faster-rising rates to slow the economy down). The assumption is that he will continue the policies of the recent past, which is to say that he will encourage the Fed to very slowly, very carefully increase the Fed funds rate.

Our ignorance about Powell is partly because he is not an economist, so there is no trail of academic papers in which he has carefully laid out his views. Powell, who is sixty-four, is a lawyer. Early in his legal career, he represented banks; in the mid-eighties, he was hired by one, eventually becoming a vice-president of the investment bank Dillon, Read. Aside from a short stint in George H. W. Bush’s Treasury Department, he spent most of his career at huge global investment firms, including the Carlyle Group and a firm that he founded, Severn Capital Partners. He has made few public statements; those he has made are obscure even by Fed standards. This summer, for example, he said that he would have expected more inflation right now, given that the economy has been growing healthily and unemployment has fallen. He said that the lack of inflation is “kind of a mystery,” and offered no additional insight. The interplay between Federal Reserve policy and inflation is a central question of macroeconomics, and so it is crucial to understand how a Fed chair thinks through this question. By comparison, Janet Yellen, the outgoing chair, has recently also expressed surprise at the unusually low level of inflation, but she hardly left it there. She walked through several possible reasons for it, including global technological change (she pointed to online shopping, which encourages price cuts, as one potential cause), and lower-than-expected increases in medical prices. She additionally explained how continued surprises might influence her decisions about Fed policy. Yellen was candid and clear, so that anyone—or at least anyone who understands central bankers—could grasp what she is thinking, and how her thinking might change if the facts change.

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Dr. Janet Yellen is a master at thinking in public—continually sharing what she is doing, why she is doing it, and what she might do in the future. This was essential to the Fed’s role in stabilizing the global economy during its greatest modern crisis.–Adam Davidson

Like her predecessor, Ben Bernanke, Yellen is a master at thinking in public—continually sharing what she is doing, why she is doing it, and what she might do in the future. This was essential to the Fed’s role in stabilizing the global economy during its greatest modern crisis. It’s an odd feature of our modern economy that it requires the entire financial world to trust in a handful of monetary-policy wizards who meet in secret every six weeks or so. But it is true. The Fed funds rate is the platform upon which the global economy is built, and was tested so profoundly that Bernanke and Yellen (who served as vice-chair before her promotion) had to invent new suites of macroeconomic tools. If they hadn’t built such trust through decades of rigorous academic work and open communication while at the Fed, their experiments would surely not have been so successful.

If the economy continues as it has for the past three years or so—slowly, steadily growing, with minimal inflation or turmoil—there should be little reason to worry about Powell. A middle-of-the-road man of consensus will be able to guide the Fed well. Powell is a relief for those worried that Trump—who has made it quite clear how little he knows or cares about monetary policy—might put in place a fringe ideologue or a man like Arthur Burns, who, as the Fed chair, succumbed to President Nixon’s desire to goose the economy through lower rates right before the 1972 election, even if it increased the likelihood of long-term inflation.

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If, however, there is severe economic turbulence—a rougher-than-usual recession or a financial crisis that erupts, suddenly, somewhere else on the globe—the fact that few people know how Powell thinks will be a real problem. Hopefully, he will take after his predecessors and begin to tell us about himself. We need to know who you are, Mr. Powell—it’s possible our economy will depend on it.

  • Adam Davidson is a staff writer at The New Yorker