Crisis Talk - The World Bank Group

Dutch Stimulus Package

Last week the Dutch government announced new anti-crisis measures, worth €11.5 billion. First, an increase of the retirement age from 65 to 67 years, to take effect in 2011. Second, a €5 billion cut in government expenditures, coming mainly from cutting the salaries of government workers and lowering benefits. This will take effect in the 2011 budget. Third, a reduction in the employer's share of social security. The announced cuts in social security payments by employers follow similar reforms in several other EU members: for example the Czech Republic and Germany. Fourth, €6 billion in incentives to build energy-efficient housing and scrap old cars. Fifth, €250 million will go towards fighting youth unemployment. Sixth, scrapping a tax on airline tickets, to help Schiphol airport. The rationale for this measure is that the environmental tax on airline tickets has undermined Amsterdam Schiphol airport's competitive position - with many passengers simply booking flights in neighbouring countries instead.

These come on top of a previous €6 billion fiscal package. That stimulus was designed to improve the liquidity of small companies, grant a temporary reduction of working hours for firms facing economic problems, and to speed up infrastructure projects, including the new Delta flood control works. It would also pay government bills charged by companies faster, which would be especially helpful for small and medium sized companies. In addition, the Dutch government established regional labor mobility centers to help prevent imminent layoffs.

Previously, the financial crisis had already forced the government to nationalize two major banks - ABN Amro and Fortis - in order to prevent their collapse. In addition, the economic stimulus package included €20 billion, which was injected into the money market to guarantee interbank transfers. Aegon, an insurance company, received €3 billion and ING, a commercial bank, has received €10 billion.

Trouble Brewing in the Balkans

In just a single week, Serbia got a $4.1 billion emergency loan from the IMF (see coverage from the BBC), and Romania got a $27 billion loan (see more coverage from the the BBC) from the IMF, the EU, the World Bank and EBRD.
 
Who is next? Turkey? Bulgaria? Croatia? FYR Macedonia?

An Alternative View of the Crisis

Or perhaps the definitive view of the crisis - from South Park?

China: Government Officials' Property Declarations Published

On February 17, 2009 the Chinese government announced that senior public officials in the Altai district, Xinjiang province, are the first in China to publish their property declarations on the Internet. This is the start of a pilot on officials' disclosure reform, which has been on the agenda for some time.

The 4 trillion RMB ($586 billion) stimulus package in China gives national and regional government officials greater powers to select projects for investment, thus increasing the risks of misuse of authority for personal benefit. "[In this context] the issue of publicity of officials' personal property raises a heated discussion in the whole society," reports China News, a major online agency.

The Chinese government is testing the disclosure reform in Xinjiang province before extending it to the whole country. The declarations published in the Altai district contain information on all types of material benefits received by officials, including salary, consultancy and author fees, gifts and sponsored holidays or celebrations. More than 1000 declarations by senior government officials at the district level are being made public. Information on assets, including real estate, vehicles, bank deposits, stocks and bonds, and liabilities, is also declared but kept confidential.

Li Chengrui, former Director of the National Statistics Bureau and one of the proponents of the reform, says that it "does not need preparation and re-preparation." The financial crisis, it seems, has become an opportunity for promoting greater disclosure by politicians.

Banking and the Leverage Ratio

The World Bank has just put out a helpful background note on Banking and the Leverage Ratio. The leverage ratio is a prudential tool that helps limit excessive leverage in a banking system. The note is quite a propos, as the Financial Stability Forum is expected to propose that a leverage ratio be added to bank-capital requirements at the G20 summit in April. So how exactly could a leverage ratio help?

• Limits balance sheet size: The current risk based capital measures (both Basel I and Basel II), encourage banks to assume exposures that attract a low risk weight, as the capital required to be set aside for these exposures is relatively small. As a result, in absolute terms bank balance sheets can become highly leveraged and can include assets that would be difficult to liquidate in times of need without incurring large haircuts. Hence, the prudential leverage ratio can serve as an additional measure to ensure that banks do not become excessively leveraged, as seems to have happened in recent years (see Figure 1).

• Reduces regulatory arbitrage: As described above, the more risk sensitive nature of Basel II can result in the perverse incentive to structure products to obtain a high credit rating, so that they qualify for lower prudential capital requirement. When this incentive is collectively exploited, the system is likely to end up with high concentrations of structured exposures attracting low prudential capital requirements. The prescription of a minimum leverage ratio, among other measures, can dampen this perverse incentive.
• Simplicity: The simplicity of the application and monitoring of the leverage ratio enables quick adoption without imposing high costs or expertise requirements on banks or their supervisors. Moreover, this can be applied irrespective of the capital adequacy regime implemented in a particular jurisdiction.
• Backstop against regulatory concessions: Reliance on banks’ own internal models for capital adequacy purposes, as mandated in Basel II, entails a significant element of judgment and may expose regulators to industry pressures for lenient treatment. A leverage ratio would thus act as a backstop against any creeping regulatory concessions.

In other words, a leverage ratio could be a very useful complement to the Basel capital adequacy ratio. However, the note points out that a leverage ratio is not without limitations - read the whole thing here.

Why Are Forecasters (Fairly) Positive about 2010?

While the forecasts for this year have gotten continuously darker, the numbers for 2010 mostly show a return to normality. Which has made me wonder what forecasters know that I don't.

Last week, I spent some time figuring out the answer. It is simple and sinister: forecasts use historic trends to map what the future will be. Forecasters will tell you that at best their "long-term" models see 2 years in the future. They use high frequency data - for example trade flows and credit flows to adjust the long-term models. Once in a while, the models snap. This is when the high-frequency numbers gyrate so much that the model can't calibrate. And guess what? This is happening now. International trade has fallen so much in the last 3-4 months that you can't get a reasonable forecast beyond the next few months.

Russian Stimulus Spending Debate: Opportunities for Greater Transparency

This last January the Russian Parliament adopted in a breakthrough vote the Law on Access to Government Information, which has been pending ever since… 1997! The context for this measure is a heated debate on the usage of stimulus money. If you Google “anti-crisis money” in Russian, you'll see what I'm talking about: all top results are about ensuring the transparency of spending.

Most importantly, the new Russian law, which will enter into force on January 1 of next year, reversed the principle of access to public information in the country. From now on, government information is presumed to be open. It is no longer the citizen who has to convince the official why s/he needs the information. It is the official who has justify why (if so) the information is not granted.

Being very high-tech minded, the authors of the law placed the responsibilities on the government agencies to proactively publish on the Internet their legislative acts and information on their structure, budgetary spending and activities. To ensure broader access, public Internet spots will be created in government premises and public libraries. Government websites will have email channels for submitting queries. Furthermore, for the first time ever, the law opens the door for citizens to attend meetings of government collegial bodies.

Access to public information is a crucial transparency area. Although critics say that the law may have weaknesses, Russia is definitely progressing in turning the financial crisis into an opportunity for greater transparency.

Stingy Europeans

I have wondered for some weeks why the Europeans are not more forthcoming with a bigger stimulus response to the crisis. Dani Rodrik's comment today (see this previous post) got me to thinking again.

Maybe it is all psychology, and not just in Western Europe. Simply speaking, the view is that the crisis started in the United States and therefore Obama and Geithner and Summers and Bernanke have to clean up the mess.

Even assuming that the origin of the crisis is 100% "Made in America," this is adolescent behavior. Imagine that you are an innocent passer-by who gets hit by a truck when crossing the road. You have two options: (a) lie prostrate on the road and shake your finger at the truck; or (b) do your best to get to the emergency room as soon as possible. What would you do? Option (b), right? Option (a) doesn't help and may even get you killed if another car comes along.

It's the same with a stimulus to get out of the crisis. Better do it quickly, and hope for the best.

There is also an asymmetry in the response (not that it is unusual for politicians to have asymmetric responses). When times were good, all the credit went to the politicians. When times turned bad, all the blame goes abroad.

New Blogroll

Our blog page has been updated to list other blogs that have interesting things to say about the crisis (see the Crisis Blogroll in the righthand column). One of the interesting things being said is a comment from Dani Rodrik's blog:

There are two things that can make a real difference to the world economy in the short run: (a) coordinated fiscal stimulus, and (b) massive increase in credit or liquidity facilities for the developing nations.  European obstinacy has taken off the table the first of these. And it is not at all clear that the second is being pushed hard enough by any of the rich countries (although the US proposal on the enlargement of the IMF is considerably more generous than what the Europeans have offered so far).

You can read the whole posting here.

Indonesia's Stimulus Package

The government received approval from the House of Representatives to launch the stimulus package on February 24, 2009. Of the total Rp 73.3 trillion ($6.3 billion) stimulus package, Rp 12.2 trillion is allocated to infrastructure projects and empowerement programs for people living in rural areas. Finance Ministry head of fiscal policy Anggito Abimanyu said the Rp 2 trillion increase (the government had initially asked for Rp 71.3 trillion) would be allocated to build roads in villages and municipalities, and irrigation schemes, which “can quickly generate employment." Another 4.8 trillion rupiah (400 million dollars) is dedicated to energy-saving investments.

Bambang Susantono, the deputy minister to the coordinating minister for the economy, in charge of infrastructure, said the government would launch the stimulus in early March, although it “still depends on the projects.” He said the government had also worked with the International Labour Organization (ILO) to generate more employment.

To reduce the burden of low- to mid-income workers, the government will also introduce an income tax cut to workers having a monthly income of less than Rp 5 million. Overall, the tax stimulus is worth 56.3 trillion rupiah and also consists of reduced corporate and value added taxes.

The stimulus package is expected to increase the 2009 budget deficit to 139.5 trillion rupiah ($11.62 billion) from 51.3 trillion rupiah ($4.27 billion), or to 2.5 percent of GDP.

Trade Protection: What's Good for the Goose...

A new note from the World Bank International Trade Department describes the recent growth of protectionist measures. Money quote:

G-20 leaders signed a pledge on November 15, 2008, to avoid protectionist measures. However, since then, several countries, including 17 of the G-20, have implemented 47 measures whose effect is to restrict trade at the expense of other countries.

So far, the measures haven't had a major impact on trade - major declines are largely due to falls in aggregate demand - but they lay the groundwork for a protectionist world in the not-too-distant future. What could precipitate this outcome? "...Once economic pressures to stimulate economies are replaced with inevitable needs to reduce deficits, this pattern may portend equally severe pressures to wall off trade competition." In other words, look for battles over trade once stimulus measures have run their course.

Also see the related press release from the World Bank and a write up by the Washington Post.

The Outrage Over AIG

A few days ago, AIG revealed the biggest beneficiaries of its rescue, with Société Générale, Germany’s Deutsche Bank, and Goldman Sachs near the top of the list. Public outrage over AIG's CDS counterparty payments and bonuses quickly followed, but all this could have been avoided had the company gone into bankruptcy - this would have turned both CDS counterparties with monetary claims and employees with guaranteed bonus packages into creditors and put them in line along with everybody else.

The excuse for not pursuing this option was allegedly the lack of a special bankruptcy regime for NBFIs and the negative repercussions of normal bankruptcy proceedings and the related shock to the financial system (as illustrated by Lehman). I don't know if there was a way for the government to intervene more aggressively/promptly, but I am sure that it will be debated in the future.

For those who have re-read Galbraith's book on the 1929 stock market crash, it is instructive to see the parallels (e.g. buildup of leverage - this was done via investment trusts back then, another version of the shadow financial system) and some of the same names implicated in the scandals.

Turkey's Stimulus

The Turkish government announced a comprehensive economic stimulus package on March 13, 2009. The package of economic measures amounts to 5.5 billion Turkish liras ($3.2 billion). New regulations will lower the private consumption tax rates (OTV) on the automotive sector and remove the OTV completely on home appliances, while the value added tax (VAT) on apartments over 150 square meters (1,614 square feet) in size will be lowered from 18 to 8 percent. The package also foresees measures to boost exports by allocating an additional 500 million liras ($296 million) to Eximbank, a state-owned bank geared to supporting exporters.

The new tax regulations seek to stimulate domestic demand in Turkey’s leading industries. Industry Minister Zafer Caglayan explained the details of the reduction of the OTV on motor vehicles and said that it might be implemented as early as March 17. For automobiles with engines of up to 1,600 cubic centimeters, OTV will be reduced from 37 percent to 18 percent, and for vehicles with engines of between 1,600 and 2,000 cubic centimeters, it will be reduced from 60 percent to 40 percent.

Representatives from other sectors also pointed out that given the three-month time limit on the tax cuts, the package would fall short of expectations and fail to stimulate the economy in the long run. Representatives of the housing sector noted that since only 5 percent of Turkey’s total real estate consisted of homes of more than 150 square meters, reducing the VAT on property was not likely to have a major effect. The VAT on houses with fewer than 150 square meters is already 1 percent.

Czech Stimulus Package

On February 16, 2009 Czech Finance Minister Miroslav Kalousek announced a stimulus plan worth 73 billion crowns (US$3.3 billion). The stimulus plan allocates 40 billion crowns (US$1.8 billion) in tax cuts, which is equivalent to 1.9 percent of the Czech Republic’s gross domestic product. "The main tasks we have set in an effort to eliminate impacts from an economic crisis include maintaining employment, and keeping public finances stable," Topolanek said.

The pro-export plan aims to preserve some 50,000 to 70,000 low-income jobs through welfare insurance cuts and stays away from directly handing out money to citizens. "We do not want to give people who lose jobs welfare pittance. The goal is to protect their jobs," Topolanek said. The measures include a corporate tax cut (already effective since January), more money for road construction and business loan guarantees. The government aims to encourage investment by relieving small firms and entrepreneurs of advance tax payments this year. Another measure is a value-added tax write-off for the purchase of new cars.

The government also expects to sell excess carbon-emission credits worth 10 billion koruny and spend the earnings on energy efficiency projects, such as heat-proofing public buildings and households, which should employ 12,000 people, Environment Minister Martin Bursik said.

The stimulus plan is based on the assumption that the economy will shrink by 1 percent or more this year, a darker scenario than the central bank's 0.3 percent recession forecast and the finance ministry's 1.4 percent growth outlook.

Interventions in Financial Institutions in the US and UK

Rafael Pardo, Haocong Ren, and I put together a table of the major ad hoc interventions in financial institutions (FIs) in the UK and US since the autumn of 2007. The table (available here in Excel format) summarizes the basic characteristics of FIs that underwent an intervention as well as whether those government interventions resulted in the protection of different types of shareholders and debtholders.

A few obervations can readily be made from the table:

1. Policy responses have been in some cases inconsistent, particularly in the US. The classic example is Lehman Brothers, which was not rescued by the government (unlike market expectations from previous experience) and had to file for bankruptcy in September 2008. This triggered a global wave of financial markets uncertainty whose effects we are still witnessing.
   
   
2. Governments have been generally keen to protect FI debtholders. This is not surprising in light of the size (bank debt represents one-fourth of all investment-grade debt in the US) and composition (mostly institutional investors and foreign governments) of such debt. The Lehman experience has made governments even more averse to upsetting debt investors, although it raises basic issues of fairness since taxpayers then become the first (as opposed to the last) line of support after shareholders for systemically important financial institutions. Going forward, subordinated and hybrid capital (trust preferred stock etc.) will likely become the next battlefield between government and private investors for loss sharing.
   
   
3. Nationalization comes in different shapes and forms. One can contrast the 'official' nationalization of Northern Rock and B&B by the UK government with the conservatorship of Fannie/Freddie, the OTS/FDIC intervention in WaMu, and the significant state ownership in Lloyds, RBS, AIG, and Citigroup. It remains to be seen whether the behavior across the latter group of FIs will differ substantially as a result of the fact that they still have a semblance of private shareholders. It is also interesting to note that important government interventions do not always trigger CDS contracts - compare the conservatorship case of Fannie and Freddie (CDS trigger event) with the nationalization of Northern Rock (no CDS event).

How Fast Do Currency Boards Adjust?

Editor's Note: Georgi Angelov is a senior macroeconomics researcher at the Open Society Institute in Sofia, Bulgaria.

It is an old debate. Some believe that currency boards – because of their fixed exchange rate – bring about adjustment of external imbalances very slowly. Currency boards cannot and do not depreciate the currency, and that is perceived as a problem.

Is this true? We can check fresh data. Because of the financial crisis in the post-Lehman world, East European countries cannot attract as much capital inflow as before – so their current account deficits should decrease quickly.

In the case of Bulgaria, the trade deficit started decreasing rapidly after October. Within three months the deficit decreased by two thirds. The decrease of the trade deficit year on year is 45% in January 2009 – and the current account deficit is also down by 45% year on year in January. Quite a substantial adjustment within just a few months. With this speed, the big current account deficit will be history very soon.

Summers at Brookings 2

In addition to the diagnosis of how the current crisis differs from previous ones (see my previous post here), last Friday's Brookings presentation by Larry Summers featured another important idea: what the country needs to have a sustained recovery. He called this Sources of Sustainable Growth: Exports, Healthcare, Energy, Education. (I have made a few cuts to make it relevant for more countries.)

If growth in the coming years is not to be driven by asset price inflation-induced consumption, other engines of growth must be identified. These forms of growth should be sustainable and shared by the majority of households.

Stronger exports are one sound foundation for sustainable expansion. These are issues both for global recovery - at a time when 2009 is likely to be the first year of negative global growth since the Second World War - and for a healthy, less debt-dependent US expansion.

Summers at Brookings

Yesterday (March 13), Larry Summers gave a lecture at Brookings. I recommend you read the whole text here. For me the most enlightening part was the description of how this crisis differs from others:

One of the most important lessons in any introductory economics course is that markets are self-stabilizing.

• When there is an excess supply of wheat, its price falls. Farmers grow less and others consume more. The market equilibrates.
• When the economy slows, interest rates fall. When interest rates fall, more people take advantage of credit, the economy speeds up, and the market equilibrates.

This is much of what Adam Smith had in mind when he talked about the "invisible hand." However, it was a central insight of Keynes’ General Theory that two or three times each century, the self-equilibrating properties of markets break down as stabilizing mechanisms are overwhelmed by vicious cycles. And the right economic metaphor becomes an avalanche rather than a thermostat. That is what we are experiencing right now.

What to Do with Rating Agencies

Willem Buiter, a former chief economist at the EBRD, suggests the following ideas for reform of the credit rating agencies:

• Rating agencies should be turned into single-activity or single-product line firms. They should provide just ratings, not any other products or services, including advice. The conflict of interest in combining rating activities with advisory services or the sale of other lucrative services or products to customers looking for the best possible rating is obvious and inescapable. Chinese walls don't work and are aptly named. The Great Wall of China did not keep the barbarians out or the Han Chinese in.
• The quasi-regulatory role of the rating agencies in Basel II should be eliminated.
• The customer wishing to have his company, country, or instrument rated should not pay the rating agency, ex ante or ex post. Instead, the customer should pay the regulator, who would then allocate/auction the individual rating activity among the population of competing rating agencies.
• Rating agencies should be paid in part in the securities they are rating. Such securities should be held to maturity and cannot be hedged by the rating agency.

The first two are straightforward, and I tend to agree. The latter two are strange and won't work. Keep thinking.

Has the Crisis Affected You? How?

The main Bulgarian weekly Kapital is running an open forum (in Bulgarian) on these questions. I read the answers to-date and found some expected and some unexpected things. Expected: one in five people complained about job losses or increased job insecurity; the construction sector is down significantly; planned vacations are scrapped; new cars are not purchased.

On the positive side: rents went up (says one rentier), as few people can afford mortgages; several small businesses said their larger rivals are in such trouble that there is more opportunity for them; stopped watching TV (as the news is so gloomy); less social divide - the nouveau rich are only nouveau now; more time to read; take more interest in the rest of the world. My personal favorite: find economics more interesting.

Finger Pointing at the Markets

These days, most people are terrified to put their savings in the plummeting stock markets. But big declines and volatility also breed future opportunity. Do you have what it takes to engage in high-frequency trading of fickle securities and make a handsome return?

Well, the answer might literally be in your hands. A study found that the length ratio of the index to ring finger (known in the peculiar jargon of this field as the 2D:4D ratio) of English financial traders predicts their long-term investment success and longevity in the business.

Traders in the sample with the highest 2D:4D ratio (0.99) "merely" made 61,000 Pounds per year on average. However, traders with the lowest 2D:4D ratio (0.93) made on average a whopping 680,000 Pounds per year! This gap persists even when the effects of age, experience, and non-overlapping trading periods of the traders are taken into account as well.

China's Stimulus

The stimulus package, announced November 9, 2008 and worth $586 billion, includes a $73 billion reduction in the tax burden on firms and individuals, mainly through a VAT cut; $173 billion for building low-income housing and upgrading the national railway and road system, and spends $130 billion on reconstruction in regions affected by last year's earthquake in Sichuan Province.

On March 17, the prime minister indicated that additional stimulus would be available if the economy needs it. "We have prepared contingency plans to handle greater difficulties. We have prepared enough ammunition and we can launch new economic stimulus policies at any time."

The New Credit Check

Credit checks aren't what they used to be.

(Hat tip: Simeon Djankov)

Trade Finance: Just an Excuse

Previous posts - see here and here - have raised doubts about trade finance being an important factor in the collapse of international trade. This hasn't cooled the enthusiasm of development institutions to pour money in this area. I have started wondering why.

A recent Financial Times article comes up with a good answer. Alan Beattie writes that "It could be easier politically to justify targeting government support on trade finance than boosting bank liquidity, but the effect of such subsidy is unclear."

That's it. If you go and say you are putting money into saving big banks, this may be frowned at. If, on the other hand, you say you are putting money into saving small exporters, that is ground for applause. Even if in reality the money goes to big banks, who sit on it.

Spain's Stimulus

The first package, announced in April 2008 and worth $13 billion, mostly focuses on faster VAT rebates for businesses and help with mortgages for poor families.
 
The second package, announced in August 2008 and worth $30 billion, has four main components:

1. Proposals to cut red tape to make Spanish firms more competitive;
2. Reforms in the housing, transport and telecommunications sectors;
3. A 400 euros rebate for 16 million workers and retired workers in the hope this would boost consumption; and
4. Help for the construction industry by awarding more money to construct subsidised housing.

The third package, announced in November 2008, is worth $21 billion. Of it, $12 billion is for infrastructure projects. Another $1.2 billion is for Spain’s ailing car industry. “We hope this will generate 300,000 jobs within a year,” Jose Luis Rodriguez Zapatero, the Spanish Prime Minister, told parliament. “These are urgent measures to generate jobs."

Time to Unite

Editor's Note: Charlotte Nan Jiang is an analyst on the Doing Business team and currently works on the Paying Taxes indicator.

The Washington Post published a timely op-ed last Friday, Recovery Rides on the ‘G-2’, by Robert B. Zoellick and Justin Yifu Lin, about how a strategic partnership between China and the U.S. could shed light during this dark crisis.

In their view, the two economic powerhouses must cooperate to drive the Group of 20 so as to help the world’s economy to recover. They pointed out that the broader international payment imbalances are fueled by both over-saving in China and over-consumption in the U.S. If the two countries join forces to launch stimulus packages and economic dialogues that address those imbalances, it will “go a long way towards reducing the risk of global economic turmoil.”

Italy's Stimulus

Italy has had three stimulus packages to date: One announced last November, worth 80 billion euro over 3 years (though some analysts say it recycles some money which would have been spent anyhow). The second, announced in February 2009 for 2 billion euro, targets assistance to the car and household goods industries. The third, announced in March and worth 1.3 billion euro, will build a bridge to the island of Sicily and increase welfare aid.
 
The first stimulus package highlights tax stimulus: "The package includes tax cuts worth 2.4 billion euros for poorer families and pensioners; tax breaks for companies; a delay in the payment of VAT; a reduction in advance tax payments and speedier reimbursements of excess tax payments." Also, underwriting bond issues for banks: "The Treasury can underwrite, at the request of the banks, financial instruments issued by listed banks that do not carry voting rights. These instruments may be bonds that can be converted into shares at the request of the bank. The banks can redeem or repay the bonds providing the Bank of Italy does not think such a move would impact the bank's solvency."
 
The second package offers discounts of up to €3,000 for drivers who scrap cars at least a decade old to buy new models with lower-carbon emissions. Also announced are incentives on washing machines and other home appliances.
 
Other industries are upset, for example the high-fashion industry. Why not us, they say? We are big exporters. 
 
Indeed, why not?

Summers on Global Imbalances

Larry Summers in the Financial Times: "The old global imbalances agenda was more demand in China, less demand in America. Nobody thinks that is the right agenda now. There's no place that should be reducing its contribution to global demand right now. It is really the universal demand agenda." See commentary here.

Assessing the Trade Finance Situation

It is difficult to find reliable information on how severe the trade finance problem really is. There are a lot of numbers circulating, all of questionable quality. Take, for example, the figure on the importance of trade credit. Recent news reports state that 90 percent of the US$14 trillion in world trade is financed by trade credit (see, for example, the International Herald Tribune, Forbes, and the WTO). But, where does this “90 percent” come from? I traced the number from various WTO documents, and it appears to come from a 1998 paper by Malcolm Stephens at the IMF. However, the statement in the paper is quite different: “90 percent of world trade is conducted on the basis of cash or short-term credit” [p.5, emphasis is mine]. 

An additional reason the number is suspect is because of the growing share of trade between a parent firm and its affiliate. This so-called intrafirm trade is unlikely to use external financing. The OECD reports that approximately one-third of trade for the US and Japan (countries for which data are available) is intrafirm. More than two-thirds of Austria’s imports from Eastern Europe are intrafirm. This makes the 90 percent even harder to swallow.

Another number that has been circulating in these articles is a $25 billion “liquidity gap” in financing by the private sector. This is the "market's estimate" - $25 billion is less than two-tenths of one percent of the value of trade, so it is quite small in the grand scheme of things. How can trade finance be a major issue in the stunning decline in trade (trade was down about 15 percent from the previous year in November and December, and available data for January looks worse) if the liquidity gap is just 0.16 percent?

In order to diagnose and improve the trade finance situation (if necessary), we must first measure it.  Given the market's failure at quantifying assets, liabilities, and risk, we cannot rely on its estimate of the trade finance gap without any supporting data. It is unfortunate that reliable data from banks working in trade finance have not been made available.

Korea Plans to Introduce More Labor Flexibility

Reading through the stimulus packages, one consistent theme (no, it's not bailing out rich bankers) comes out. Countries are trying to ease the environment for doing business.
 
Korea's package is quite explicit. "The government is to streamline and reduce excessive regulations regarding environment, land use, and labour issues." More specifically, "Revision bills on labour market flexibility to be submitted to the National Assembly soon, after consultations with stakeholders. The government aims to submit the amendment within this year."
 
Indeed, recent research has shown that flexible labor regulations reduce informality. See, for example, Djankov and Ramalho's paper in the latest Journal of Comparative Economics issue. No wonder the Korean government is trying to prevent a rush to informality as a result of the crisis.

Singapore's Stimulus Package

I spent the weekend looking through some stimulus packages, and was impressed by the clarity of Singapore's. The summary is here. I also like the name: the Resilience Package.
 
Main points:

• Jobs Credit: Companies will receive a 12 per cent cash credit against employee salaries, up to a salary of $2,500, which is the median income. This is paid out at the end of the quarter for all preceding months that an employee was salaried.
• Skills Upgrading and Resilience: The government will pay 90 per cent of retraining fees, as well as an hourly lost productivity rebate, to keep employment while new job training takes place.
• Corporate Tax: The main rate is being dropped from 18 per cent to 17 per cent, with the effective rate estimated at 15 per cent.
• S$4.4b will be spent on infrastructure, health and education improvements.

Sissies Only

This blog post has a couple of firsts worth noting. To my knowledge, it is the first World Bank-hosted blog post based on a Vanity Fair article. What's next - Cosmopolitan? Next, it is the first post that says going from a banker to a fisherman is good for the economy.
 
Michael Lewis has written an amazing article (Wall Street on the Tundra) about Iceland's meteoric rise in international banking in 2002-2008, and equally meteoric fall last year.
 
I have been to Iceland twice in the near past and remember the austere look of everything. And the history of the economy: fish, fish and fish. How did these people get into high finance?
 
Apparently, fishing and finance have a lot in common. They are not for the faint-hearted. A quote from Lewis's essay: “You don’t want to have some sissy boys on your crew,” says a sea captain, especially as Icelandic captains are famously manic in their fishing styles. “I had a crew of Russians once,” he says, “and it wasn’t that they were lazy, but the Russians are always at the same pace.” When a storm struck, the Russians would stop fishing, because it was too dangerous. “The Icelanders would fish in all conditions,” says Stefan, “fish until it is impossible to fish. They like to take the risks. If you go overboard, the probabilities are not in your favor. I’m 33, and I already have two friends who have died at sea.”
 
Herein lies one lesson for the future: regulate entry into banking - no fishermen, snowboarders, bungee jumpers and the like.

Heading for a Depression?

What are the odds of heading into a depression? One in five, calculates Robert Barro of Harvard. See his Wall Street Journal article here.
 
To remind you, a depression is defined as a decline in per-person GDP or consumption of 10% or more. Barro's new research classifies just two such U.S. events since 1870: the Great Depression from 1929 to 1933, with a macroeconomic decline of 25%, and the post-World War I years from 1917 to 1921, with a fall of 16%. He has also assembled long-term data on GDP, consumption and stock-market returns for 33 other countries, sometimes going back as far as 1870. The conjecture is that depressions would be closely connected to stock-market crashes (at least in the sense that a crash would signal a substantially increased chance of a depression).
 
Looking at all of the events from this 34-country sample, Barro and co-authors find that there is a 28% probability that a "minor depression" (macroeconomic decline of 10% or more) will occur when there is a stock-market crash. There is a 9% chance that a "major depression" (a fall of 25% or more) will occur when there is a stock-market crash. In reverse, the chance that a minor depression will also feature a stock-market crash is 73%. And major depressions are almost sure to have stock-market crashes (the data show the probability is 92%).

On the positive side, spring is just around the corner.

Will The West Bail Out the East (in Europe)?

Absolutely. No question. Over the weekend, the heads of European Union states met in Brussels to voice their unity against protectionism and to discuss a possible aid package for the badly-hit Eastern members. Neither goal was fully achieved. (Read the BBC article on the meeting.) 
 
On the aid package, there were vague statements of support but no specifics. This will undoubtedly come. Western European banks cannot afford to have a collapse in the East. Their exposures are too large. So lobbying will be intense. And in the grand scheme of European things, the aid package would not represent a large part of what has already become a year of dishing out money left and right. Might as well do it. It will be good for a united Europe, and it will be good for business too.
 
So the question is when, not if.

Black Swans and Banking Regulations

Editor's Note: John Nellis was a Senior Manager in the World Bank's Private Sector Development Department. He is now Principal of the consulting/research firm, International Analytics.

On February 24 I attended the first day of a two and half day World Bank conference on Markets and Crises: What Next and How? Two sessions were particularly interesting: the keynote address by Nassim Taleb, author of "The Black Swan: The Impact of the Highly Improbable," and a panel on "What has the financial crisis taught us about risk management?" with Mark Carey from the Federal Reserve Bank of the US, Stijn Claessens from the IMF, Martha Cummings from Banco Santander and Mark Zandi of Moody’s.

First, Mr. Taleb. He is wildly entertaining and delightfully iconoclastic; he left no one in or outside the room uninsulted. All economists are worthless. Certain central bankers are charlatans and fools. French bankers are the worst of all possible bankers. No professor of finance has ever been right about anything (especially those who for years kept rejecting his submissions to finance journals). No one on the staff of the New York Times knows anything about finance or economics or statistics. Regressions are useless; models are worse. "People who use history as a guide do not understand history."

Tax Stimulus Gathers Speed

As the crisis deepens, more and more governments resort to tax stimulus. On February 25th, China announced cuts in value-added taxes for metals exporters. This is in addition to the $17.5 billion in corporate income tax cuts announced last November. A week earlier, the Czech government announced cuts in social contributions (which are similar to payroll taxes), worth $1.3 billion. The goal is to save 70,000 jobs. The same week, Australia unveiled $3 billion in income tax cuts.

In January and February alone, 22 countries announced various tax stimulus measures: ranging from cuts in social contributions (Germany, Denmark, Finland, Norway, Vietnam, Latvia), cuts in value-added taxes (Israel, Singapore), tax rebates on payroll taxes (the United States), income tax reductions (Korea, Japan, Brazil, Chile, Mexico, India, Indonesia), and lower taxes for small businesses (Canada, the United States, Germany, Italy, Thailand).

The stimulus varies in relative size from country to country. In Finland, for example, 40% of the 2 billion euro package is slated for cuts in social contributions. In the US, 37% of the $787 billion package is tax stimulus. In Japan, it is 21% ($111 billion of $516 billion). In Brazil, tax stimulus represents about 7% of the $283 billion.