Wednesday, 17 December 2014

Linking Russia’s Crisis to Trade: Shall We Go Back to the Root of the Problem?

The latest crisis in a series of political events in Russia has shown that its economy is extremely fragile. Partly this is because Russia’s economy is hugely specialized in minerals and hydrocarbons, and its share in this industry has been increasing over the years from almost 50% in 1997 to more than 70% in 2013. This leaves little scope to diversify its economy.

Regardless of the precise trigger of the current chaos, Russia is faced with western sanctions in response to its actions in Ukraine, has a corrupt version of state capitalism, and has a government that maintains too close connections with a variety of large companies. All these issues are symbols of a weak domestic institutional system. Indeed, there is a close connection between the development of domestic institutions and economic growth, and trade.

Countries which are capable of delivering strong domestic courts, contracting enforcement mechanisms, and robust property rights will find themselves in a better position to export in those sectors which carry along higher value added. This will also benefit the Russian economy.

This is summarized in the figure below. The horizontal axis denotes the quality of domestic institutions for about 60 countries. The vertical axis represents the value added demanded by foreign countries in their final consumption. This indicator shows how industries export value both directly but also indirectly through other countries to the final consumer abroad. It can therefore be interpreted as “exports of value added”.

Looking at the figure one can see that countries such as Ireland, Belgium and Germany perform well compared what one could expect based on their respective levels of development. These countries are located in the upper-right corner. The vertical line represents the average value of domestic institutions based on all countries in the sample whereas the horizontal line is the average value of exports of value added for all countries.

Other countries such as France, Japan and the USA carry forward less value added in their exports as they are placed below the horizontal line in the graph, but these are larger markets and are more self-sufficient. This is, however, not the case for other larger emerging economies which are placed in the lower-left corner as these countries often have an export-led growth strategy which forms an important ingredient of their development package.

And what about Russia? Looking at the figure below one can see that Russia is at the far bottom-left showing low levels of export of value-added and extreme low level of domestic institutions. Obviously this greatly reflects Russia’s extreme lack of economic diversification and engagement in global supply chains which could, if improved, contribute to its domestic prosperity.

Does increasing the quality of domestic institutions in Russia form a panacea? No, certainly not. Creating domestic value added and earning them through exports depends on a whole battery of other factors such as traditional trade costs like tariffs, NTBs, transports systems and regulatory procedures. Yet, more than often these issues are inter-linked with a robust domestic institutional set-up. 

Monday, 8 December 2014

Should the European Union be inspired by Obama’s actions on immigration?

By Maria Salfi

President Obama’s recent executive order on immigration has triggered a big debate not only in the U.S. but also in Europe. The president did not propose an outright amnesty for illegal immigrants but proposed a new route for illegal immigrants already active in society to obtain a work permit and avoid deportation. Obama’s executive order gives a relief from deportation for 3 years to those that that can prove eligibility by showing that:

·         the person has arrived to the United States before 2010 and at the age of 16 years old or under or
·         the person has arrived before 2010 in the United States and has at least one child who is U.S. citizen or a legal resident (green card).

Eligible immigrants are entitled to legal status, through a work permit, but not to citizenship. They are just avoiding deportation for a temporary period. Although the president has been widely criticized by the Republican Party, the policy focuses on people who are already active in the U.S. economy and who often are already working (although in the shadow market). This will be an opportunity for them to move from the shadow economy to the real economy.

According to a recent report on immigration by the UCLA North America Integration and Development Centre (NAIDC), argue that the executive order will have positive effects on the economy:

·         In the short term, there will be a gain by US$ 6.8 billion in labor income, 160 000 jobs will be created and US$ 2.5 billion of taxes will be collected.
·         In the long term, there will be an increase in GDP by 0.4% to 0.9% corresponding to US$ 90 billion to US$ 210 billion.
In Europe, the situation is quite different. Italy is a case in point. A significant share of the immigrants that is coming to Europe usually enters through Italy. Due to its geographical position, Italy is the easiest way to reach Europe for people emigrating for troubled regions in Africa and the Middle East. However, Italy has not been able to manage the large number of people arriving in the country. Recent reforms seem to fight immigration rather than finding solutions. Italian lawmakers have sought to put harsh financial penalties (up to €10,000) and imprisonment to illegal immigrants. In early 2009, the Italian Senate approved a law authorizing physicians to report illegal immigrants who seek medical treatment. Landlords face jail terms up to three years for renting their properties to illegal immigrants.

Managing large inflows of immigrants to Europe should not only be addressed by the Italian government, or other governments that take grater responsibilities for the humanitarian crises by allowing high immigration. The European Union has far too often remained silent or inactive, especially in situations where burden sharing between EU states are necessary. Although there are European policies addressing rules for asylum seekers, Italy has not seen concrete help from the other Member States. Italy’s turn towards hostile polices towards migration, and those that try to help them, is deplorable, but the situation would likely have been different if other member states had taken greater responsibility.

Generally, Europe should welcome migration also for economic reasons. Europe is suffering from a decline in population occurring in the next 50 years. Italy, for example, will lose 28% of its population by 2050. Therefore, for Italy to maintain its working age population it will need to “import” more than 350,000 immigrants per year or, alternatively, keep its citizens working until they are 75 years old. Countries similar to Italy, rapidly aging at the same time as accumulated debts are too high for a sharp shift downwards in the number of people at work, also need to make their societies more attractive for migrants. Although the issue is quite severe, Europe is generally restrictive with visas to unskilled workers. Member States are rather trying to attract high skills workers: Germany, for example, is targeting 20,000 ICT workers from outside Europe, particularly software engineers from India.

By comparison, the United States has since the late 1990s; the U.S. has seen the entry of one million immigrants per year (730,000 legal immigrants, 200,000 illegal aliens and 100,000 refugees). Moreover, the U.S. immigration policy framework is composed by specific structure. The DREAM Act, for example, grant legal status to young adults from the age of 15 to 29 who came into the country when they were children and they have gone to school or served the military.

The European Union and the United States have approached immigration problems in different manners. The EU has not yet found a common policy accepted by all Member States. Therefore, illegal immigration remains an issue that is largely not addressed in Europe. The United States has had a strange policy of maintaining restrictive controls against migration but accepted the fact that illegal immigration is substantial and contributes to the economy – and hence seen repeated actions by various administrations to allow some illegal immigrants to obtain legal status. Would Europe be better off by adopting a similar approach, if the road to better reforms is closed?

Wednesday, 26 November 2014

China - regionalism and multilateralism

The history of international economic cooperation teaches us one important lesson: every form of cooperation will die – essentially if not formally – if it does not adapt to new conditions for its member states to cooperate and compete with each other. Now that China has risen to global power status, have these institutions adapted to the new conditions – or are they also on the verge of losing their relevance, perhaps even die, as their incumbent powers are reluctant to change?

The past twenty years have witnessed huge shifts not only in what issues that international economic cooperation should address, but also in the conditions for effective cooperation. Most international economic institutions carry a transatlantic identity. They were part of the post World War II arrangement.

Importantly, the Cold War, with its ideological conflict between two different ideas of economic and societal order, provided the glue that kept many of these organisations together after their initial post-war purpose had been achieved. The United States had strategic reasons to provide leadership for the global economy – and Europe conformed, sometimes reluctantly, to that leadership. They aimed to spread the principles of market economy and the role of free trade to generate peace and prosperity. Generally, under this era, warts and all, global economic institutions helped to give the world one of its mot successful period ever in poverty reduction and creation of wealth.

But that era is now over. The question now is rather one of finding mechanisms for old, new and future global powers to collaborate. So what should the progress report say on that development?

My answer is: It is not going well. Catastrophes have been avoided but on current trend, the world’s economic institutions are slipping into obscurity.

The good news is that key global powers managed to come together in 2008 and 2009 to avoid the global economy to slip into a new Great Depression. Even if the crisis response was far from optimal, countries did what was absolutely necessary – and they halted the crisis from spreading from the West to the East.

The not-so-good news is that there is no new formula for leadership in global institutions like the World Bank, the World Trade Organisation or the International Monetary Fund. All global powers share a responsibility for making these institutions effective, but in the past years there have been a neglect of that responsibility by most countries.

European governments have had great troubles accepting that shared responsibility for global economic institutions inevitably means diminishing power and influence for Europe – in fact, that European countries, not the United States, are the main losers of power in global institutions, if they are to reflect the real economic power balance in the world. Their role in the World Bank and the IMF will only decline farther as “shares and chairs” in these institutions reflect the shares that European countries have in the global economy.

The United States is crippled by ever increasing political conflicts domestically – and the country has had great difficulties getting accepting the fact that the end of the Cold War did not bring it the desired “dividend” of greater economic and financial support form other countries in underwriting these institutions. Now with China at the table of global economic leaders, the strategic imperative to provide financial support through global economic institutions have diminished as U.S. governments are hesitant about China’s future role in the global system.

Emerging markets and powers like China have not responded ideally either. They take part in global economic governance and some, like China, act as responsible stakeholders. But they shun the role of a responsible leader. In recent years it has rather been popular for many emerging powers to fashion new institutions alongside global economic institutions.

None of these new cooperative efforts are created to be alternatives to multilateral institutions. Most them like the Asia Infrastructure Bank can help to push economic development. There is a need for improved conditions for real investment in many developing and emerging countries. Likewise, institutions like the World Bank needs competition. Like in other parts of the world, regional cooperation in Asia is a necessary component to make national policies in Asia more effective. Increasing economic ties in the region entails that countries must become more effective in addressing common problems. Whether we like it or not, regional cooperation is yet the best form of cooperation the world has on offer to fix global problems.

However, some of these initiatives are soaked in a rhetoric that is hostile to global economic governance as an idea – or the practice of these institutions in their current form. The New Development Bank, or the Brics Bank, is a collaboration between countries that have greater differences than they have similarities. They are not naturally aligned in other ways than that they have reason to signal disappointment to Western leaders about the current mix of economic leadership.

Moreover, it has been sold as an institution that could rival Western leadership for development – and that would work to the benefit of the member countries rather than the diffused membership of global economic institutions. Fine. But that purpose is bound to be constrained by the internal differences of the members. As some of the founder countries also viewed the creation of the Bank as an expedient part of exporting domestic economic capacities, these internal differences are likely to exacerbate over time.  

China has a great role to play in global economic governance. It should be invited by other countries to assume a leadership position, but China also needs to articulate an idea what it wants to use its leadership for. As a global economic power, China is increasingly facing the same problems as other countries in its position have done before. With vast interests abroad, and with an ever growing number of companies and citizens operating abroad, it does not have the luxury to look the other way when its interests are challenged. To manage its own interests and policies, it will need cooperative institutions that extend beyond its own neighbourhood and that offer simple and transparent rules that countries should follow. Smaller collaborative efforts can do good – but their real effectiveness only comes if they are aligned with a larger policy strategy for the world.

The Juncker Gambit

Juncker is taking a gamble. Creating this new investment fund was a signature promise to voters in the European election, and now he is putting a proposal to EU member states that they may not like because of it arcane structure of funding. No one really knows if the new investment mechanism is going to work. There is an investment gap in Europe but it is smaller than the Commission thinks and it is not necessarily lack of capital that is the problem. Companies in Europe are well-capitalised but they are not investing enough because they doubt there is a payoff. They are not going to be persuaded to invest more just because the Commission is prepared to take the initial risk. They need to see a better outlook for general demand in Europe and for the conditions to do business. Investment usually raise the growth path of an economy but that is a process that works in the medium and long term, but not in the short term. What is needed in the short term is an injection of central bank money that help to lift demand – and structural economic reforms that improve the capacity of business to compete and generate new output.

It will also take a couple of years for the new investment programme to be rolled out. You sometimes get the impression that there are shovel-ready projects with high economic payoff just waiting around the corner, but that is not the case. The European Investment Bank is currently trying to finish the new injection of investments resources that were decided in 2011 – and even if the new mechanism should allowed to invest in projects that don’t come with top credit ratings, it will operate over three years. So don’t hold you breath for a quick recovery in Europe on the back of Juncker’s new gambit.

Juncker said in his speech today that Christmas is coming early. That gives false impressions. But the good news is that the plan just not envisage throwing a lot more investment money into the economy – it is also based of fast-pedalling necessary structural reforms in sectors that will be targeted for this new investment money, e.g. telecom infrastructure and energy inter-connectors between EU countries. While there is a risk that such investments may crowd out investments that the corporate sector would do, it is the right choice to combine investments with reforms. The economic payoff of new investment is much higher in competitive markets. And there will be a higher degree of support for new public investments if it also ushers in more reforms in Europe. Those countries that need investments, and that cannot find money for them domestically, are usually the countries that have the most regulated markets.

If it gets off the ground, the new resources should be invested in infrastructure and research and development. Juncker and his colleagues have been talking about support investment in small and medium-sized companies and in corporate innovation. That won’t work. Bureaucrats are not good at “picking winners” and the closer that government gets to the real life of companies and markets, the biggest the waste will be. However, improving the general conditions for business, through investments in transport infrastructure or in research, will lift Europe’s growth trajectory, not by much, but even small changes is needed now as the EU fights against stubbornly high unemployment and a public that is getting increasingly impatient with political leaders that don’t address the core economic problems of our time.

Tuesday, 25 November 2014

The Politics of TTIP - What are the Key Controversies, How to Address them?

by Maria Salfi

The recent conference organised by ECIPE on the Trans-Atlantic Trade and Investment Partnership (TTIP) that the EU and the US are currently negotiating led to a very stimulating debate. We had four panellists bringing different points of view. Matthias Bauer and Marietje Schaake, a Senior Economist at ECIPE and a senior MEP, respectively, presented the “European” perspective on TTIP while Chris Israel and Elena Bryan, a partner at ACG Analytics and the United States Trade Representative in Europe, brought to the floor the “American” viewpoint on TTIP.

Matthias Bauer presented the results of a forthcoming study on European’s opinions on TTIP. He analysed online media coverage on TTIP and how online media report the views of anti-TTIP groups, the European Commission and the business associations, and coalition groups in the European Parliament. Bauer reported some interesting results. First of all, the share of online media coverage on the agreement by anti-TTIP groups is larger than 60% while the Commission and business associations have less than 40% representation in online media. Second, the statements by EU Commission and business association are more present in online newspapers while anti-TTIP groups are very active on Facebook and twitter. Third, online media is heavily focused on selected aspects of the negotiations. Investment protection, or ISDS, is certainly the biggest one. Fourth, negative and positive sentiments have developed over time since TTIP negotiations started. Negative sentiments have accelerated since the first round, peaking during the 5th and the 7th rounds of the negotiations. Positive sentiments, on the other hand, have accelerated since the 6th round.

Moreover, European Parliamentarians are no cheerleaders for TTIP. All party groups have expressed more negative sentiments than positive sentiments in online media. Anti-TTIP groups are clearly more represented in online media than the European Commission or business associations. And in the EU member states, there are almost no political parties which are making positive statement about TTIP.

Marietje Schaake believes that we should not rely on quantitative estimates about online opinions alone. She finds TTIP negotiations complex and agued it is important for MEPs to get into the facts rather than broadcast populist opinions. Nor thus she thinks it is the job of MEPs to be cheerleaders or follow the line of the Commission; the role of the MEPs is rather to examine what the executive is doing. Furthermore, she argued that there is a disconnection between the hot-button issues in the debate and those that are the key to get a substantial TTIP agreement. She argued that other issues such as public procurement, the digital economy, patent, cultural services, agricultural products, and consumer regulations are essential for a successful TTIP.

Chris Israel presented a poll done by the Tarrance Group about U.S. opinions on TTIP and support for improved trade relations with Europe. The survey, conducted in 50 states, showed strong support among Americans for improving the commercial relations with the European Union. While there is little awareness among the public that TTIP is being negotiated, more than 50% of U.S. citizens strongly support the idea of promoting economic growth and jobs creation by trade and investment agreements. Furthermore, 56% agreed that the U.S. has benefited from previous free trade agreements. They also highly support (71%) a more unified trade relationship with the EU.

The full Tarrance Group poll also surveyed what issues that Americans would have problem with, should they become subjects in a trade agreement. The issue where the poll showed the sensitivities to be strongest is patents and trademarks. Chris Israel argued it is a reflection of the strong dependence on IP for the American economy and that Americans largely feel that erosions of IP such as patents and trademarks will have negative consequences for U.S. companies and jobs.

Elena Bryan argued that while there has been increasing political controversy around TTIP, the United States and the European Union are powerful traders that have enjoyed a long and positive economic relation. While the gains from TTIP are positive, the negotiations are complex since the two parties have different economies, different legal structures, different regulations, and often do things in different manners even if they come to the same end. Nevertheless, the parties are working together to develop a balanced agreement in order to get political support from both sides.

Wednesday, 5 November 2014

Why Europe needs to take TPP seriously

There's no point any longer in pretending: The geo-economic race over the Asia-Pacific is now on - and in the open.

Will the TPP coalition declare victory at the next week's APEC summit – and steal the show from the Chinese host? Is there enough time for Amari and Forman to resolve their issues? Could China mount a counteroffensive in the form of a "breakthrough" on RCEP (a jab at the US, who is not invited), or its own FTA with Korea (a jab by Premier Li and President Park, who are only united in their common animosity for PM Abe)? 

Beijing APEC media center canteen features two panicked deer butting heads. Somehow fitting. 

Pan-Asian trade deals are now high politics and prime time entertainment rolled into one. It's the burning issue for commerce ministers everywhere – except in Brussels, still deep in introversion and shellshocked over TTIP. But Europe always took TPP with a pinch of salt, questioning whether TPP is even feasible, having failed its own attempt for a pan-Asian trade deal. Indeed, it's far from certain that there will be any FTA entertainment in Beijing next week. But what if the Trans-Pacific Partnership (TPP) is not a doomed initiative – and what if it will actually make inroads into modern trade problems? 

Our new policy brief looks to this what if. The Asia-Pacific region is de facto the world’s centre of economic gravity, rapidly turning into the world’s fastest growing consumer market. TPP (or RCEP, if it ever comes into fruition) will indeed change the competitive relation between EU and US firms, as far as access to this market is concerned.

The negotiations now include Australia, Brunei, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore, the US, and Vietnam. Influential actors, including South Korea, Philippines, Taiwan, Thailand, (and even China) have formally or informally shown their interest in joining the negotiations. There is no reason to doubt that TPP is the new standard-setter in the Asia-Pacific region – current signatories represent 60% of world trade, which is the same level as GATT in the 1980s:
  • The TPP will be the first ‘competing’ economic integration large enough to make a negative impact on Europe. To put it rather bluntly – for every dollar the US economy gains thanks to TPP, the EU will lose a dollar (or 1.03 to be exact).
  • In the long-term, there will be further negative effects on the economic fundamentals – a drop in investment, productivity and competitiveness; TPP also presents a 'deadly threat' to EU agricultural exports to the TPP countries, as my friend Patrick Messerlin likes to puts it.
Europe negotiates bilaterally with some TPP countries, but has no strategy equivalent to the TPP. 
  • The ongoing EU negotiations with Canada, Japan, Malaysia, Vietnam and TTIP have been facing "difficulties" due to the political urgency and industry support given to TPP. 
  • The TPP even add pressure on EU’s existing FTAs with countries such as Mexico and Chile, with whom only old-styled FTAs are in place.
  • Australia and New Zealand are currently not being addressed at all, despite being part of both RCEP and TPP.
Obviously, EU trade policy (our ersatz foreign policy in Asia) cannot be underpinned by TTIP and plurilateral initiatives alone. 

#ECIPEdebates: ISDS in TTIP – Should it stay or should it go?

In his reply to our latest #ECIPEdebate, Simon Lester - trade policy analyst at Cato Institute - expresses the feeling that many of us share on the issue of ISDS.The inclusion of the mechanism in TTIP is likely to induce a surge in the number of cases across the Atlantic, given that currently only a handful of European countries have signed a BIT with US. Yet, the presence of ISDS in the agreement is essential to avoid “trouble”.

First of all, the inclusion of an investor protection mechanism in the TTIP negotiations falls under the Council mandate given to the Commission. Questioning its presence in the agreement, therefore, jeopardizes the Commission credibility as a trade policy negotiator.

Secondly, a golden opportunity for addressing the flaws of the current ISDS system would be missed. The European Commission has stated clearly that it wants to improve the system by making the investor protection rules clearer, more transparent and impartial than they are today. If the ISDS is simply excluded from TTIP, then the nine BITs between US and individual Member States would remain in force, and the problems emphasized in the public debate will not be addressed.

Thirdly, the exclusion of ISDS from trade and investment agreements would put additional pressure on national courts, which might not have the necessary expertise to deal with these cases. The arbitration tribunals are in fact constituted ad hoc for each individual case and comprise highly specialized arbitrators.

Fourthly, as stated in a recent ECIPE paper, bringing the case in front of a national court might put the national policy itself on trial, while arbitration does not require the State to withdraw or change the measure that violated the investment agreement.

Finally, the EU should be consistent in its request to include ISDS in the agreements it is negotiating. Excluding the mechanism from TTIP would put the EU in the awkward position of having to differentiate between countries whose quality of the legal system is considered sufficient to protect its investors and countries that it does not trust. Alex Berger - researcher at the German Development Institute – has replied to our debate by pointing out that such an exclusion from TTIP would not necessarily impede the EU from including the mechanism in the on-going negotiations of EU-China investment agreement.

This is probably true – given China’s interest to increase protection for its steadily rising investment in the EU –  but it does not necessarily apply to other third countries with whom the EU is (or plans to) negotiate. Moreover, the issue is not only about third countries, but also about those European countries that are brought to court under intra-EU BITs. Three quarters of all cases against EU countries since 1987 have been filed by another EU country, and in 2013 only one of the cases against EU countries was brought by a non-EU investor (from Turkey). How could it be acceptable that the same national courts of certain European countries are considered to offer “sufficient legal protection” vis-à-vis the United States but not vis-à-vis other European Member States?

German stubborn opposition to the inclusion of ISDS in trans-Atlantic trade agreements relies on the consideration that “US investors in the EU have sufficient legal protection in the national courts”. Quite surprising to hear such a statement from the country with the highest number of BITs in the world and which has led the opposition to Czech Republic request to terminate intra-EU BITs only few years ago. Germany is acting in its self-interest showing no willingness (and even opposition) to a modernization of the system and at the same time taking advantage of this mechanism – only in 2013 Germany has initiated four cases against Czech Republic.

These inconsistencies pose a serious threat to EU's credibility in the international trade policy arena. It is hard to expect the world to take Europe seriously if it accepts the request to exclude ISDS from certain agreements while at the same time the number of intra-EU cases keeps soaring. If Member States are not willing to cooperate for a serious improvement of the system, then they should terminate all their BITs with other EU countries.