Horrible trade-offs in a pandemic: Poverty, fiscal space, policy, and welfare
We analyze how poverty and a country’s fiscal space impact policy and welfare in times of a pandemic. We introduce a subsistence level of consumption into a tractable heterogeneous agent framework, and use this framework to characterize optimal joint policies of a lockdown and transfer payments. In our model, a more stringent lockdown helps fighting the pandemic, but it also deepens the recession, which implies that poorer parts of society find it harder to subsist. This reduces their compliance with the lockdown, and may cause deprivation of the very poor, giving rise to an excruciating trade-off between saving lives from the pandemic and from deprivation. Transfer payments help mitigate this trade-off. We show that, ceteris paribus, the optimal lockdown is stricter in richer countries and the aggregate death burden and welfare losses smaller. We then consider a government borrowing constraint and show that limited fiscal space lowers the optimal lockdown and welfare, and increases the aggregate death burden during the pandemic. This is particularly true in societies where a larger fraction of the population is in poverty. We discuss evidence from the literature and provide reduced-form regressions that support the relevance of our main mechanisms. We finally discuss distributional consequences and the political economy of fighting a pandemic.
A Growth Diagnostic of Namibia
In the thirty years that have passed since independence, Namibia has been characterized by its over-reliance on its mineral resource wealth, procyclicality of macroeconomic policy, and large income disparities. After an initial decade marked by nation building and slow growth (1990-2000), the Namibian economy embarked on a rapid growth acceleration that lasted 15 years, within the context of the global commodity super cycle. Favorable terms of trade translated into an investment and export boom in the mining sector, which was amplified to the non-tradable sector of the economy through a significant public expenditure spree from 2008 onwards. Between 2000 and 2015 income and consumption per capita expanded at an average annual rate of 3.1%, poverty rates halved, and access to essential public goods expanded rapidly. As the commodity super cycle came to an end and the fiscal space was exhausted, Namibia experienced a significant reversal. Investment and exports plummeted, bringing GDP per capita to contract by 2.1% between 2015-2019. With debt-to-GDP ratios 3.5 times higher than those in 2008, the country embarked on a fiscal consolidation effort which brought the primary fiscal deficit from 6.8% of GDP in 2016 to 0.6% by March 2020. Along all these years, inequality has been endemic and is reflected across demographic characteristics and employment status. At present, a large majority of Namibians are unable to access well-paying formal sector jobs, as these tend to be particularly scarce outside of the public sector. Looking forward, the road to sustained inclusive growth and broad prosperity entails expanding the formal private labor market by diversifying the Namibian economy, while at the same time removing the barriers preventing Namibians from accessing these opportunities inherited from the apartheid.
The Growth Lab at Harvard University has partnered with the Government of Namibia to develop research that results in inputs for a policy strategy aimed at promoting sustainable and inclusive growth. The Growth Diagnostic is a cornerstone of the ongoing research engagement and is meant at providing an overview of the most binding constraints to Namibia’s economic performance and outlining how these relate in a systemic way to the concurrent challenges of growth, fiscal sustainability, and inclusion.
Inclusive growth in Namibia is currently facing a set of self-reinforcing constraints. The country is missing both the productive capabilities (words) and required skills (letters) to sustain longer periods of growth. The low degree of knowhow agglomeration that can be inferred from its current productive structure – as gathered by the Economic Complexity Index (ECI) – leaves very little opportunities of diversification that can be pursued by redeploying existing skills (low connectedness). Our analysis reveals that Namibia has been able to diversify differentially more that most of its peers given its current set of productive capabilities, but the problem is that the set of adjacent opportunities are neither complex nor plenty. As the marginal cost of acquiring new capabilities tend to be high, the government needs to take a more active role in sorting coordination and information failures associated to the process of productive diversification and self-discovery.
Relatedly, Namibia’s growth prospects are also constrained by a shortage of specialized skills. Three empirical facts derived from econometric analysis of Labor Force Survey statistics point in this direction. First, certain skill-intensive industries and occupations exhibit differentially higher wage premiums. Second, highly educated, and experienced workers face the lowest unemployment rates in the economy, by a wide margin. Third, skill-intensive industries tend to grow less than the rest of the sectors in the economy.
The demand for high skilled foreign workers is high – as proxied by their wage premium. This skill shortage may be constraining not only existing industries but also the development of new engines of growth, limiting access to opportunity for Namibians across all skill levels. Missing skills at the top of the spectrum tends to depress job creation at the bottom. These two constraints – low knowhow agglomeration with poor connectedness and skills shortages – seem to reinforce each other. Using the Scrabble metaphor, Namibia is missing the letters (productive capabilities) and the entire words (more complex products).
Knowhow, by definition, resides in brains of people and it’s embedded in the goods and services a country produces. A broad knowhow-enhancing strategy aimed at targeting efficiency-seeking foreign direct investment (FDI, firms bringing entire new words to Namibia), and migration regulation policies (specific letters needed by more complex industries) is required to ease the binding constraints. Investment promotion efforts shall be targeted to ‘efficiency-seeking’ firms, which tend to take advantage of a competitive factor in the country (efficient labor force, access to international financial markets, infrastructure, etc.) to produce and export to foreign markets. This type of FDI is essentially different from the ‘natural resource-seeking’ investments that have characterized the Namibian economy and pose additional challenges. At the same time, the country would benefit from a more open immigration policy targeted towards high-skill workers. The evidence we have gathered suggests that high-skill foreigners tend to function as complements – rather than substitutes – to Namibian workers: industries with larger shares of high-skill workers tended to pay lower skill workers significantly higher wages. Easing the existing restrictions t labor flows and incentivizing inflows of high-skill foreigners will likely trickle down into the rest of the labor force and enhance the knowhow agglomeration of the Namibian productive ecosystem.
A challenge to productive diversification broadly, and attracting foreign investment and talent more particularly, might be policy uncertainty. Existing levels of policy uncertainty – instability or absence of the adequate regulating environment, worries about potential issues for property rights, inexperience with respect to the efficiency of domestic courts – in Namibia might not be enough to deter investments in resource-based industries, but might be an important hurdle for other type of industries, especially the ones that have a choice regarding their international location. To attract these investments, a simpler and more transparent investment environment, coped a more comprehensive set of international investment treaties, might be necessary.
The report is organized in six sections, including this Executive Summary. Section 2 outlines the Growth Diagnostic methodology. Section 3 provides a summary of the growth trajectory of Namibia and the challenges facing inclusive growth. Section 4 covers the main takeaways of the analysis conducted in each of the branches of the Growth Diagnostics Tree, including those related to access to finance, low social returns, government failures and agglomeration of collective knowhow. Section 5 concludes by highlighting potential binding and providing inputs for a collaborative exploration of why these issues have persisted and become an equilibrium.
Macroeconomic risks after a decade of microeconomic turbulence: South Africa 2007-2020
This study analyses the performance of macroeconomic policy in South Africa in 2007–2020 and outlines challenges for policy in the coming decade. After remarkable economic growth in 1997–07, South Africa’s progress slowed dramatically in 2009 with the global financial crisis. Real GDP growth decelerated more than in other emerging markets and mineral exporting peers and never recovered pre-crisis levels. In addition, the budget deficit that provided counter-cyclical support to the economy was never reigned in, leading to a rapidly rising public debt load. The study assesses three accounts of South Africa’s post-GFC growth and fiscal slump: (1) an external story; (2) a macro story; and (3) a microeconomic story. Evidence of strong linkages between micro- and political developments and growth performance is provided.
Lack of progress cannot be solved by a redistributive strategy
Section II, “Policies for sustainable growth”, includes dialogues with Mauricio Cárdenas, Marcela Eslava, Ricardo Hausmann, Rodrigo Valdés and Alejandro Werner.
Returning to sustained growth is a key challenge for Latin American economies. This section discusses the causes of the dismal performance of Latin America and the post-Covid policies needed to change this reality. Contributors in this section suggest that the region will witness important rebounds during 2021-2022. The recovery that started in the second half of 2020 gained strength as the economies gradually reopened following rising vaccination rates. Some countries will be reaching 2019 GDP levels in 2021; others, in 2022. However, the concern is that these recoveries will be short-lived. And if global financial conditions become less supportive, the next decade could be quite demanding.
In the medium term, Latin America is expected to exhibit significant scars from Covid, as growth is expected to be permanently below the levels anticipated before the pandemic. But the severe problem of the limited growth potential of the region predates the crisis. And, even for countries that grew more than the Latin American average, the post-pandemic future looks bleaker. The contributors highlight several reasons behind this modest performance. The first and the most commonly cited is macroeconomic mismanagement (high inflation, financial fragility leading to balance-of-payments crises). However, even countries that successfully achieved macroeconomic stabilisation failed to achieve sustained growth. It follows that the forces behind low growth are more complex: the business environment has been feeble; there is a lack of appropriate governance; the natural resource curse applies in some countries, with weak institutions and short-sighted governments with the perception that there is no need for further effort; there are social, political and institutional factors that complicate the building of a consensus around an economic policy framework that sets the foundations for medium-term inclusive growth. In addition, relatively slow technological progress widens the region’s technological gap with the advanced world. Moreover, while the lack of social progress cannot be solved merely with a redistributive strategy, the region’s regressive income distribution and structural poverty are detrimental to growth through their impact on the expected sustainability of economic regimes, as well as, on occasions, pure expropriation risk arising from social tensions. In the meantime, local talent remains undiscovered and undernourished for lack of opportunities.
Most doubt the possibility of implementing successful industrial policies in the region, sceptical that Latin American policymakers could efficiently substitute for the right market signals and incentives, and propose that the development strategy should be largely based on horizontal policies. But some see a role for the state to address the many unexploited externalities, arguing that public goods do not possess the market’s invisible hand to signal where the information about what is needed, the incentives to provide these public goods, and the allocation of resources.
New Avenues for Colombia’s Internationalization: Trade in Tasks
One of the consequences of COVID-19 is the recognition that many tasks can be done from home. But anything that can done remotely, can be done from abroad. Given large salary differences between white collar workers across countries, it would make sense for value chains to try to exploit them. This opens an opportunity for Colombia to further promote its integration into the world global value chains and access new markets.
This paper explores the possibility of exporting teleworkable services from Colombia. The goal is to provide useful information to guide strategic interventions to speed-up the development of such service industries in Colombia.
We first introduce a definition of teleworkable jobs and describe its occupations and industries along different dimensions. We show that there are many teleworkable jobs in the US, representing a significant share of industry costs. Then, we show that many industries intensive in teleworkable jobs are currently traded across borders. To quantify Colombia’s advantage providing teleworkable services, we study the cost structure of industries and quantify the potential savings in overall costs if the tasks were performed by Colombians. Given Colombia’s current presence and the density around teleworkable industries we can calculate a proxy of the latent advantage in teleworkable services. We propose an index that summarize these dimensions and rank the potential gains from including telework from Colombia in an industry. We end with a set of policy recommendations to move this agenda forward.
Economic development as self-discovery
In the presence of uncertainty about what a country can be good at producing, there can be great social value to discovering costs of domestic activities because such discoveries can be easily imitated. We develop a general-equilibrium framework for a small open economy to clarify the analytical and normative issues. We highlight two failures of the laissez-faire outcome: there is too little investment and entrepreneurship ex ante, and too much production diversification ex post. Optimal policy consists of counteracting these distortions: to encourage investments in the modern sector ex ante, but to rationalize production ex post. We provide some informal evidence on the building blocks of our model.
On the determinants of Original Sin: an empirical investigation
Most countries do not borrow abroad in their own currency, a fact that has been referred to as “Original Sin”. This paper describes the incidence of the problem and makes an attempt at uncovering its cause. The paper finds weak support for the idea that the level of development, institutional quality, or monetary credibility or fiscal solvency is correlated with Original Sin. Only the absolute size of the economy is robustly correlated. The paper also explores the determinants of a country’s capacity to borrow at home at long duration and in local currency. It finds that monetary credibility and the presence of capital controls are positively correlated with this capacity.
Growth Accelerations
Unlike most cross-country growth analyses, we focus on turning points in growth performance. We look for instances of rapid acceleration in economic growth that are sustained for at least eight years and identify more than 80 such episodes since the 1950s. Growth accelerations tend to be correlated with increases in investment and trade, and with real exchange rate depreciations. Political-regime changes are statistically significant predictors of growth accelerations. External shocks tend to produce growth accelerations that eventually fizzle out, while economic reform is a statistically significant predictor of growth accelerations that are sustained. However, growth accelerations tend to be highly unpredictable: the vast majority of growth accelerations are unrelated to standard determinants and most instances of economic reform do not produce growth accelerations.
The long-run volatility puzzle of the real exchange rate
This paper documents large cross-country differences in the long run volatility of the real exchange rate. In particular, it shows that the real exchange rate of developing countries is approximately three times more volatile than the real exchange rate in industrial countries. The paper tests whether this difference in volatility can be explained by the fact that developing countries face larger shocks (both real and nominal) and recurrent currency crises or by different elasticities to these shocks. It finds that the magnitude of the shocks and the differences in elasticities can only explain a small part of the difference in RER volatility between developing and industrial countries. Results from ARCH estimations confirm that there is a substantial difference in long term volatilities between these two sets of countries and indicate that there is also a much higher persistence of deviations of the variance of the RER from its long run value when the economy suffers shocks of various kinds.