1984 in the UK
Boris Johnson has a problem – he just lost local elections, his attempt to divert attention from his Covid lockdown parties by smearing the leader of the opposition with having a beer during a work meeting are failing, and his approval rates are going the opposite direction as inflation rates. What to do – oh well, why not start another conflict with the European Union to pander to the right-wing in his own party and unionists (by now minority) in Northern Ireland. The vast majority of Northern Ireland voted against Brexit in 2016 and voted for parties in favour of keeping the Northern Ireland Protocol a few weeks ago. Supply-chain problems are fewer in Northern Ireland than in Great Britain and most of Northern Irish businesses want certainty, including the protocol, even though they might not like all parts of it. But this certainly does not prevent Boris Johnson to use the opposition of unionists in Northern Ireland (again: a minority of the electorate and in the assembly) to start a new conflict with the European Union. When the economy is in dire straits and popularity sinks, identify an outside enemy and declare a conflict. This is what the Argentine military junta did in 1982 when starting a war over the Falkland Islands – it did not end well.
Just to remind ourselves, the Northern Ireland Protocol is the result of the Northern Ireland trilemma. Theresa May wanted to solve this by keeping the whole of the United Kingdom in the customs union (as backstop, though it would probably have turned into a permanent arrangement) to prevent an Irish sea border between Great Britain and Northern Ireland. Boris Johnson dropped this idea in favour of the Protocol, which established the Irish Sea Border while preventing a border between Northern Ireland and the Republic of Ireland. What was acclaimed as great success and a great deal in late 2019 and used by Johnson to win the General Elections (the Tory manifesto clearly states: ‘no renegotiation’) is now described by the same people as having been signed under duress and imposed by the EU and should therefore be renegotiated. Other lies put forward by Brexiters include the idea that the Protocol was meant to be temporary until a trade agreement was signed (false) or that it violated the Good Friday Agreement (by avoiding a land border on the Irish island, it does the opposite).
Her Majesty’s Government has also announced (using its media outlets) that there will be a Brexit bonfire of regulations to jumpstart growth in the UK – in translation: take powers away from Parliament and allow the government to change law without parliamentary approval; certainly an interesting way to reclaim sovereignty. In the meantime, the minister for Brexit opportunities is still busy searching for such opportunities. Early successes include importing possibly radioactive meat, dumping shit into rivers (pardon my language) and allowing teenagers to drive HGVs.
In summary, the UK has moved to a phase of exclusively performative government. It very much resembles the double-speak in 1984: foster peace in Northern Ireland by taking the side of a party that just lost the elections, effectively creating space for new conflict and declaring the views of the majority irrelevant; a bonfire of regulations to jumpstart the economy that makes trade with Europe even more difficult and will further depress growth; taking back control of borders by allowing without controls the import of food even if this risks more diseases and animal and food safety. Given how miserably Tories have failed over the past 12 years in government in improving the economy, rather damaging it wherever they could, first with austerity and then with Brexit, they have turned to simplistic populist ‘solutions’ – send refugees to Rwanda, force civil servants back to the office instead of working from home, criminalise peaceful but noisy protests and classify anyone who questions them as ‘Remoaners’ or EU agents. Supported by the press that has been bought off with taxpayer money during the pandemic and having cowed BBC into not report anything too critical about the government, the Orbanisation of the UK is in full process. Political ideas and arguments replaced by slogans and smears! A sad decline for a proud and once strong European democracy!
13. May 2022
Confronting the past: Russia vs. Germany
Why do so many Russians support the Putin’s war against Ukraine? While it is hard to get a clear picture given the oppressive nature of the Putin regime, available data and anecdotal evidence suggest there is reasonably strong support for the invasion of Ukraine, with many even supporting aggression further West. A lot of reasons for this support have been given. One important point I would like to make in this context is the complete lack of Russia to address its 20th century history, large parts of which have been rather dark, very different from Germany after World War II, which did – as I will discuss in the following – address its very dark past, even if imperfectly. There is even a very German word for this process:“bewaeltigen”, translated as “to deal with or cope with”, but it has a much deeper meaning.
It is important to note that coping with genocide, war aggression and totalitarianism of the Nazis was not a linear process in Germany. After initial attempts by the Allied Powers in West Germany at denazification and confronting the German people with the Nazi crimes, the topic was not really openly discussed for two decades. My mother told me that the Nazi regime was not discussed in school and that history lessons (which in German curriculums start in Stone Age and then slowly proceed to 20th century over a couple of years of high school education) always stopped in 1914; ‘somehow the teacher always ran out of time to discuss 20th century history’, she told me. That certainly changed after 1968 and definitely in my generation. Starting high school in 1978, our classroom teacher made it his personal mission to teach us the horrors of the Nazi regime. Later during my high school years, the Nazi past was not only discussed in history lessons, but in political science, German, religious education etc. Part of my reserve officer training near Munich (in the late 1980s) was a visit to the concentration camp Dachau.
On the political level, it wasn’t until 1985 that the then Federal President Richard von Weizsäcker remarked on the occasion of the 40th anniversary of the end of World War II that this day was to be celebrated as day of liberation rather than defeat for Germany, but also that “there can be no reconciliation without remembrance”. While he also made clear that the young generation had no personal guilt for the Nazi crimes, there was thus an obligation for Germans to never forget. It is striking that it was von Weizsäcker giving this speech since as a young man he defended his father (a high-level diplomat during the Nazi regime) in a Nuremberg follow-up trial. One can argue that the fact that right-wing parties have not been successful until 2017 in federal German elections is this confrontation with its own history. It is also very different from the approach in East Germany, where the Nazi history was declared the responsibility of the capitalist West Germany, or Austria, which declared itself as victim of Nazi Germany, without properly confronting its own role during World War II (with Kurt Waldheim in spite of his Nazi past being elected as federal president in 1986), a tendency heavily criticised by the Austrian author Thomas Bernhard in his writings.
One might argue that by now Germany has again become a normal European country, at least to the extent that the largest country in the middle of Europe can be a normal country, and is not a military threat whatsoever to its neighbours (obviously, European integration and French-German reconciliation played a big role but went hand-in-hand with this process of Germany confronting its past. And that is the crucial difference to Russia, which has never addressed the brutality of the Communist regime, more generally, and the wide-spread violence if not genocide under Stalin, more specifically, as well as its history of aggression against its neighbours. The way World War II (when the Soviet Union was both aggressor and victim) is being used as rallying cry for the current aggression shows this lack of confronting history, as does the way Lenin and Stalin are being again acclaimed as national heroes.
After World War I, Germans did not cope well with their defeat, with one of the factors of the rise of the Nazi part being the denial of military defeat and a sense of victimhood (unfortunately being also fuelled by massive and unreasonably high reparation demands by the Western Allies). Similarly, after Russia and the Soviet Union lost the Cold War and following the economic decline and socio-political chaos of the 1990s, there was certainly a sense of victimhood and unjust loss in Russia, tendencies that Putin benefitted from to strengthen his powerbase. What was missing both in Germany post-War World I and Russia post-Cold War was a clear confrontation of the societies with the dark chapters of their respective past. Germany past-Word War II took a long time but did go through the process (and I hope it has become clear by now that I do not claim that the process has been perfect or complete).
Will Russia be able to accomplish something similar? I am rather pessimistic. It took Germany two generations to go through the process and only after a complete societal and political collapse and military occupation. Not something that one would want to wish for Russia! Which also means that even if and when Russia loses this latest confrontation with its European neighbours, there will be no easy path forward domestically and globally for Russian society and political system.
11. May 2022
Big techs, QR code payments and financial inclusion
How can technology allow the smallest of the small firms gain access to external finance? High risk (due to information asymmetries and lack of collateralizable assets) and high costs makes lending to the smallest firms prohibitively expensive for most banks. And unlike consumer lending (which might also entail small amounts), it might be harder to automatise the screening and monitoring process. Enters fintech! In a new paper with Leonardo Gambacorta,Yiping Huang, Zhenhua Li and Han Qiu, we gauge the effect of introducing the QR code as payment technology and how this allowed small traders to gain access to external funding. Specifically, we look at the example of Ant Group, which started providing payment services through QR codes, thus allowing offline merchants to access digital payment services. Ant Group uses the information collected through these services to decide on credit provision to merchants.
Based on a dataset of around half a million Chinese firm, we find that: (i) the creation of a digital payment footprint allows firms to access credit provided by the same big tech company, Ant Financial; (ii) transaction data generated via QR codes generate spillover effects on access to bank credit; and (iii) there are positive effects of access to big tech credit on sales, including during the Covid-19 shock. Gaining access to a more efficient payment technology thus allows these traders to signal credit worthiness and ultimately gain access to credit. Which also implies that the focus that we typically have in the financial inclusion literature on different financial services (payment, savings, credit, insurance) might not be always relevant, as they might actually hang together; in this case, payment and credit services from the same company – in other cases (as in my Kenya-focused paper on mobile money) from different providers.
4. May 2022
The real bank lending channel of exchange rate depreciation
In a new paper, Peter Bednarek, Daniel Te Kaat and Natalja von Westernhagen and I use German credit registry data to assess the effect of the sharp depreciation of the euro against the US dollar of more than 20% in 2014, thus testing directly for the role of banks’ foreign currency holdings in the transmission of exchange rate fluctuations to the real economy. This depreciation was largely unexpected for financial market participants and certainly exogenous to German banks and firms’ behaviour.
Our analysis provides three main results. First, the euro depreciation encourages larger banks with significant net foreign-currency asset exposure (and thus higher net worth following the dollar’s appreciation) to expand their credit supply. Second, this increase can be explained by growth in loan supply to export-intensive firms, not to riskier firms, and, even more important, by an increase in interbank market activity. In particular, large banks with significant net foreign-currency assets raise their interbank lending to small banks without significant foreign-currency asset exposure, but with a higher share of exporting firms in their credit portfolio, which in turn also allows small banks to expand their credit supply. Third, we show that exporting firms borrowing from smaller banks with higher interbank market dependence increase their investment following the exchange rate depreciation and that regions with local banks benefiting from this increase in interbank borrowing experience significantly higher GDP growth than less exposed regions.
While previous research (Agarwal, 2019) shows that exchange rate depreciations (appreciations) can lead to an increase (decrease) in domestic credit and higher (lower) aggregate growth when the domestic banking sector has high net foreign-currency asset exposure, our contribution is that with the use of granular bank-firm-loan-level data we can provide evidence for specific mechanisms through which exchange rate changes can affect loan supply, i.e., through direct lending and interbank lending, and link these mechanisms to real economic effects.
Here the link to the VoXEU column, with a longer discussion of the paper.
25. April 2022
Macro gagne de nouveau
Emmanuele Macron’s rather convincing victory gives a respite for us supporters of liberal democracy in the fight with autocratic-populist regimes and parties across Europe. Unfortunately, the same comments I made five years ago still hold; before the second round in 2017 I wrote: “the candidate of an open, tolerant and liberal society vs. the candidate of a closed, fearful and illiberal system” and after Macron’s win: “as much as we are supposed to celebrate Macron’s win tonight, this is the clearest warning signal yet that we cannot take the progress Europe has made over the past seven decades for granted. A wake-up call to make the gains from globalization and Europe”
Let’s make no mistake: there is a clear link between autocratic-populists such as Le Pen, Orban, Salvini, Trump and the Brexit movement, on the one hand, and Vladimir Putin. While the latter has killed and poisoned his enemies with impunity across Europe and has attacked a democratically governed country, while at the same time enriching himself and his oligarchs, the former have done everything possible to undermine democracy in their countries and – where they have had the opportunity such as in Hungary and the UK - enrich themselves and their chums through corruption. At the same time, these movements have been supported openly by Putin.
I am writing this as Europe prepares the celebrate the anniversary of the end of World War II. 77 years ago Europe emerged from a brutal war and genocide unleashed by the Nazis. Learning from history means standing up to anyone who threatens liberal democracy, be it by trying to undermine the system from within be it by threating war from outside! The battle lines have been drawn!
24. April 2022
Revisiting the drivers of remittance costs
In 2011, I published a paper with Sole Martinez Peria on the drivers of remittance costs across countries, with data on 119 corridors and for 2009. Thanks to amazing data collection effort of the World Bank on Remittance Prices Worldwide, Roland Kpodar, Mathilde Janfis and I expanded the previous exercise to a panel of corridors over time, even exploiting variation across different providers within a corridor, now published as IMF Working Paper as well as a summary on VoxEU.
We document a decline in remittance prices, with the median remittance fee decreasing from 7.7 percent in 2011 to 5.7 percent in 2020. Nevertheless, most of the corridors still have median remittance cost above 5 percent in 2020, far from the 2030 Sustainable Development Goal target of average fees of less than 3 per cent and no remittance corridors with costs higher than 5 per cent. The data also reveal significant variations in remittance fees within the same corridor (across firms), between the same sending country and different receiving countries, or between the same receiving country and different sending countries. Similarly, remittance fees vary with the payment instrument, the access point, and the speed of the transfer.
What factors explain the variation in remittance costs? Five results stand out:
Overall, these findings point to both cost- and risk-based constraints and market structure as barriers to lower remittance fees. Higher transaction costs as result of a more rural population in the sending country and lower scale can explain high remittance fees in some corridors. These factors are largely structural, implying a limit to the extent to which remittance fees can be lower with policy actions.
However, decisive policy actions are needed in areas that are directly under the control of policy makers and where the yield from reforms can quickly materialize. For instance, stronger competition through easing entry to the remittance market, especially for non-bank providers, and digitalization might help reduce remittance costs. Similarly, exchange rate stability (or better hedging possibilities) might contain remittance costs, more so because exchange rate margins (often not fully disclosed by remittance service providers) can make up a significant portion of the remittance fees in corridors where exchange risks are the highest. The one area where our analysis cannot really make any clear inferences (due to endogeneity concerns) is on the role of the regulatory framework in its direct effect on remittance costs.
18. April 2022
Ukraine’s struggle and Germany’s hesitancy
A lot has been written about the Russian invasion of Ukraine, the reaction of the West, including the sanctions, and the reshaping of European and global geopolitics. I’d like to pick up on a few themes where I have strong views, given my own history of having grown up during the Cold War and as economist.
First, as powerful as the initial response of the West has been in terms of sanctions, it has become clear that this is far from sufficient. And it is the German government, which has refused to take a more prominent role and has all but ruled out cutting its dependence on Russian gas in the short-term and providing the Ukrainian military with the necessary heavy arms to drive the Russian invaders out of Ukraine. One false argument is that as lesson of 20th century German history war should never be fuelled with German support. This is clearly a misinterpretation of German history as Ukraine’s fight is clearly defensive and Ukraine suffered disproportionately during World War II from the Nazi invasion. And if one takes the view that Putin should not be provoked further by supporting Ukraine too much with heavy arms, one clearly has not understood that Ukraine would not be the final stop for Putin. He has made it clear over and over again that he aims at restoring the old East bloc. So the political arguments are clearly fake and one has to look to economic reasons.
Second, an interesting and, in my opinion, very valid comparison has been made by Thomas Philippon on Germany’s reaction to the crises in euro periphery countries a decade ago and its behaviour during the current crisis. During the eurodebt crisis, German politicians were quick in telling Ireland, Greece and Italy that austerity policies were the necessary consequence of private and government overborrowing during the previous decade and thus to rectify macroeconomic policy mistakes by these countries. The same argument can be made now about Germany, which has increased its energy dependence from Russia substantially over the past decades, a decision that many criticised even before the current conflict and that is now indefensible. However, Germany is not really accepting the consequences of this wrong decision, which would require to cut itself off from Russian energy, even if this implies a heavy economic cost. As much as euro periphery countries imposed costs on the whole euro areas with imprudent macro policies, Germany has imposed security costs on all of Europe with its imprudent energy policies!
Third, this brings me to the important debate among German economists on the predicted economic damage that such an Russian energy import ban would imply. The first study, by Ruediger Bachmann and others has shown that there would be economic damage, but would be most likely to be limited to 3% of GDP. A lot depends on the assumption of elasticities of substitution and adjustment speeds. However, a lot also depends on the complementary policy actions taken by the government; importantly, keeping fossil energy prices high (rather than subsidise them) while focusing on income subsidies for poorer households. As much as this initial study has been criticised by other German economists, other studies have more or less confirmed this assessment. This makes the aggressive dismissal of these estimates by Olaf Scholz as “being theoretical” even more embarrassing. It is elected politicians who are to take such decisions, but dismissing serious research contrary to one’s priors is embarrassing and ultimately damaging for the political discourse and informed policymaking. At this stage it seems that the German government is listening primarily to industry lobbyists who refuse to internalise the costs that energy dependence from Russia imposes on German and European security. And pointing to economic costs in the light of ongoing Russian aggression and war crimes and the clear threat to European security and peace seems a rather cheap excuse anyway. In spring 2020 lockdown decisions were taken before any economic cost scenarios could be completed; why the hesitancy now?
Finally, the hesitancy of the German government to address the challenges immediately will simply kick the can down the road and increase the costs in the future. The longer Russia can rely on energy payments, the longer it can finance its aggression against Ukraine and the bigger the human and economic damage. Cutting off Russian energy keeps the West in control, waiting until Putin might decide to cut off energy supplies to the West leaves the West at his mercy. And not to speak of the long-run international reputation costs that Germany is currently incurring because of its hesitancy. Time for German leadership not hesitancy! Time to be on the right side of history!
15. April 2022
Have Western economists lost Russia?
There is currently a discussion on how Russia went from an almost ‘normal’ country to an authoritarian kleptocratic regime that is about to slip into a totalitarian dictatorship. Some argue that the reform shock therapy in the late 1980s and 1990s is at the core of this development, having caused significant socio-economic upheaval if not chaos, impoverishing large parts of the population, while at the same time allowing the emergence of oligarchs. When Putin came to power in 2000, his promise of stability was welcomed by many if not most Russians, which ultimately allowed his shift towards an authoritarian kleptocracy. So have the Chicago boys lost Russia for the democratic world? I am not convinced, as I will argue in the following.
There were two major schools of economic thinking about the optimal transition process in the late 1980s and early 1990s – the gradualist approach and the shock-therapy approach. The former has focused on a step-wise approach to the transition from a planned to a market economy, allowing for institutional experimenting and proper sequencing. Shock therapy, on the other hand, involves sudden and rapid introduction of market reforms, including ending price controls, stopping government subsidies and moving state owned industries to the private sector, with the objective of getting beyond the point of no return and overcoming entrenched opposition to reforms. Both Russia and Poland undertook reforms in the spirit of a shock therapy, while Hungary and China are often quoted as examples for the gradualist approach. Have different approaches to economic policy reforms resulted in significantly different economic and political outcomes? The examples above suggest that no and I am not aware of any academic evidence to this effect (happy to be contradicted, though!).
Enter the ”institutionalists” who argue that it is not about specific policies but about the quality of the underlying institutions that determine the consequences of economic reforms for economic and political development. So, for example, privatisation by vouchers can have very different long-term effects, as the experience of Russia, Slovenia and Czech Republic show (independent of the question whether this is per se the optimal form of privatisation or not). The transition started with the rapid destruction of the institutions supporting socialism in all transition economies. The building of new institutions supporting a broad-based market economy, however, varied significantly across transition economies, with societies taking sharply different paths during the first decade of transition and ultimately political and economic development.
In a paper with Luc Laeven, published back in 2006, we provide evidence for the institutional theory in explaining variation in growth across transition economies during the first decade after the fall of socialism. We also find no evidence for any significant impact of policy reforms for this sample of countries and time period, nor for a positive impact of future EU membership (although future EU membership helped the development of institutions during the 1990s and thus indirectly economic growth).
We also show that institutional development is based on the behaviour and the incentives of the elite during the transition period. In some countries, the elite actively fostered a transition to a market economy with a broad base of participants in the economic and political life through the provision of basic property rights and rule of law. In other countries, the elite was mostly concerned with securing for themselves property rights in the formerly state-owned enterprises to extract economic rents and thus securing economic and political power in the post-transition society. We refer to these two opposite transition experiences as “catalytic transition” and “extractive transition.” We conjecture that the behaviour of the elite during transition was largely determined by two main country characteristics: the endowment with natural resources and the entrenchment of the ruling elite during the socialist period.
First, given the surplus character of natural resources, the elite in resource-rich economies at the beginning of the transition period was most interested in securing the property rights over these resources that gave them a power base. It is generally easier to materialize short-term profits from natural resources than from fixed assets such as manufacturing plants, equipment and machinery, because proceeds from natural resources depend less on the creation of a functioning market economy, on human capital, and on R&D investments. This is a version of the natural resource curse, familiar to most economists. Second, one of the consequences of an extended time under socialism and the consequent centralization of power was the absence of any political opposition, or even civil society institutions and social networks, such as churches, political clubs, and trade unions to challenge the power of the political incumbents. These entrenched political elites are less inclined to share economic and political power during the transition process because they can use their political power to extract rents.
Interestingly, we used Belarus and Ukraine as example to illustrate this entrenchment: “Upon gaining independence, the communists remained in power in both countries. The Soviet economic and social structure had provided a social safety net, and the need for economic reforms was not apparent. Because of its strong historical link to Russia, Belarus remained a close ally of Russia and institutional development has been one of the lowest among all transition economies. Ukraine also made little progress in structural reform during the initial transition years and the business environment is still plagued by government interventions, weak property rights, onerous taxes, and corruption.” Interestingly, both countries fare somewhat better in terms of natural resource reliance (well below Russia, other FSU countries and some Eastern European countries). Obviously, time spent under socialism is not a permanent destiny as the difference between Belarus and Ukraine has shown over the past 8 years.
Returning to the initial topic, if economists have failed Russia it is not in providing wrong economic policy advice but not realising that without the proper institutional development participatory democracy and an open and competitive economy and society are not possible to develop. We are still trying to figure out how to overcome the curse of history and natural resources, but we know that institutional development is where the focus should be. Put differently: economic reforms without the necessary institutional underpnning can easily go wrong.
These findings should also make us sceptical about a democratic future for Russia after Putin. Yes, countries can break out of the cycle of entrenched elites, rent-seeking and extractive institutions, but an exclusive focus on economic reforms is not sufficient. The building of inclusive institutions that can underpin both participatory democracy and an open and competitive market economy takes time, the right incentives and good leadership. None of this has been in place in Russia over the past 30 years.
15. March 2022
JBF special issue on green and ethical finance
Following a virtual conference in September 2020, jointly organized by Asian Development Bank Institute (ADBI), the Journal of Banking & Finance, and the Singapore Management University’s Sim Kee Boon Institute for Financial Economics, we issued a call for papers on green and ethical finance, with five papers now published in a special issue. The papers are discussed in more detail in this editorial, but below a quick run-down
Climate change poses new risks for financial intermediaries and an important question is to which extent these risks are being priced properly. Combining syndicated loan data with carbon intensity data (CO2 emissions relative to revenue) of borrowers across a wide range of industries, Torsten Ehlers , Frank Packer and Kathrin de Greiff find a significant “carbon premium”, but only since the Paris agreement in 2015. The question to which extent banks internalise climate risks in their loan pricing has been also explored in many other papers, as well as the question whether markets or banks are better in terms of addressing climate change (some of this discussed in my paper with Yung Chul Park).
What turns firms’ attention to ESG scores? Mark Shackleton, Jiali Yan, and Yaqiong Yao show that worse stock market performance increases firms’ efforts on environmental and social (ES) activities, using a panel vector autoregression to control for endogeneity. So, there seems to be a certain investor discipline!
Do retail investors really incorporate social considerations into their investment decisions? Philipp Kollenda analyzes 70,000 transactions by retail impact investors on a peer-to-peer lending platform that intermediates loans to firms in low-income countries and finds that financial returns significantly influence investors’ decisions, while expected social impact has no or limited influence on investors’ funding decisions.
Ann-Christine Brunen and Oliver Laubach gauge whether people behave consistently when it comes to sustainability, using a financially incentivized choice to study the non-investment-related sustainable behavior of the clients of three German robo advisors and relate it to their investment decisions with a digital wealth manager that offers both conventional and sustainable investments. They find that households with more sustainable consumption patterns are also more likely to choose a portfolio following a sustainable investment strategy, but that self-reported sustainable consumer behavior not backed up by pertinent actions is not significantly related to sustainable investment choices
Mikael Homanen gauges whether depositors react to negative non-financial and climate related information about their financial institutions, studying the case of the highly controversial Dakota Access Pipeline and shows strong negative depositor reaction to the banks funding the pipeline. I have discussed this paper before and given that Mikael was my PhD student, the paper was handled by a different editor.
These five papers show the importance of climate change and ESG concerns for firms, financial institutions and households, but also that there are limits to the extent to which these risks are properly priced. Green finance is certainly a growth area in research and policy importance!
11. March 2022
The battle lines have been drawn
Putin’s invasion of Ukraine has redrawn geopolitical frontiers in Europe and beyond, but also within Western democracies. What according to an US intelligence report from 2011 was only the first step in restoring the old Soviet Union and Soviet bloc in Europe has finally revealed the true face of Putin and his imperialist ambitions. It is also, as described by the courageous Carole Cadwalladr part of a 8-year long Great Information War that Putin has unleashed against the West, including misinformation campaigns through Russian media outlets and political interference, as in the Brexit campaign and the US elections of 2016. I will not dwell on Brexit here, but if anyone still doubts it, Putin certainly celebrated on 24 June 2016 when he saw the win of the Leave campaign not just as a personal win in the Great Information War but also as start of the decline of the European Union. Little did he know…
The European Union has taken a clear stance against Putin! There are only two groups left that currently openly argue against such a clear stance. On the one hand, the intellectual children of the 1980s peace movement who think one can stop autocrats with roses and kind words. Part of this group are also those who still think one can come to an agreement with Putin, like Chamberlain thought in 1938 in Munich. As described above, it is very naïve to think that Putin would be satisfied for long with any agreement in the Ukraine. It would not be before long that he would push further; next stop: Baltics!
On the other hand, there are the Putin apologists, like Nigel Farage and Yannis Varoufakis in Europe and Jair Bolsonaro and Donald Trump in the Americas. It is thus far more than a geopolitical conflict we are seeing emerge, it is a struggle between democratic liberalism and autocratic populism. What unites extreme left and right parties in Europe is their distaste for representative democracy and their love of autocratic populism a la Putin. And given that one of the two main parties in the US is still clearly aligned with autocratic populism, Europe certainly can no longer rely on assistance from the US, even with NATO links being strengthened.
And this is where the positive news comes in; Putin’s invasion has reinvigorated the European project. Rather than agreeing on the smallest common denominator, the 27 EU governments ultimately agreed on a rather strong package of sanctions, at least much stronger than initially expected by most observers. Even more surprising was the complete U-turn of the German government, which for the past 73 years has refused to play any leading role in European defence (even as part of NATO), had reduced their defence spending rather dramatically over the past 30 years and were (rightly) ridiculed for sending nothing but 5000 helmets to Ukraine. This U-turn towards substantially higher defence spending and modernisation of the German army (under a social democratic chancellor, in coalition with the Green party, child of the 1980s peace movement) is nothing but historic and will by itself change the geopolitical structure of Europe. For those who are afraid of a strong German military in the heart of Europe, one can only point to the close political and economic integration of Germany into Europe, courtesy of the peace project European Union.
As the former Finish PM (and my EUI colleague) Alex Stubb noted, this could be the 1989 moment for this generation. Back then, we all thought that democracy and the market-based societal order had won, there was a spirit of optimism across Europe. Over the past decade, this has deteriorated significantly, with the rise of Orban in Hungary, the rise of Five-Star Movement and Lega in Italy, the rise of Marie Le Pen in France, and Brexit and Johnson in the UK; and all these movements funded and supported (with misinformation campaigns) by the Kremlin. The courageous fight of the Ukrainians has shown us what is at stake. We can no longer take democracy as granted; it is not something assured for eternity but has to be defended by each generation. If we want to prolong the 75 years of peace, prosperity and freedom in the heart of Europe, we have to take a clear stance, both towards outside and inside threats!
2. March 2022
Prospects of the Global Economy after Covid-19
It is hard to concentrate on other issues given the brutal aggression that Putin is unleashing on Ukraine, but CEPR has just published an eBook “Prospects of the Global Economy after Covid-19” with three forward-looking articles on the future of institutions, global cooperation and financial systems that I co-edited with Yung Chul Park from Korea University. The three papers are by Daron Acemoglu, Maurice Obstfeld, and Yung Chul Park and I and are based on presentations at the 30th Anniversary Conference of the Korea Institute of Finance in November 2021 in virtual format. An introductory Vox column is here.
Daron Acemoglu focuses in his paper on recent trends in income inequality, arguing that the rise in inequality has been driven by globalisation but even more importantly, by new digital technologies such as specialised software and robotics, automating work previously performed by low- and middle-skill workers. These trends have been exacerbated by an increasing focus on corporate profits and weakening of unions, the rise of global big tech firms without the necessary oversight, and capital being taxed less than labour. These trends are intensifying with the rise of artificial intelligence technologies, which are not just continuing the automation trend but have also contributed to the retreat of democracy and steep falls in trust in public institutions (and have allowed for mis-communication campaigns, if I may add, resulting to Brexit, Trump and ultimately Putin’s invasion of Ukraine) . To counter these trends, Acemoglu calls for the rebuilding of domestic and global institutions capable of harnessing the power of large corporations and significantly redirecting technological change. He also calls for a welfare state 3.0. As I mentioned in my panel discussion contribution, many of these ideas remind me of Martin Sandbu’s policy agenda in The Economics of Belonging. It certainly calls for a rethinking not only of specific policies and institutions but more broadly the social contract.
Maurice Obstfeld chronicles the evolution of the global financial markets since the Global Financial Crisis focusing on changes in the markets' domestic impacts, the strains that have emerged due to the COVID-19 crisis, and risks that may lie ahead. He points to a volume of global financial transactions disproportional to any fundamental economic need or activity, yet producing a system prone to fragility, as well as the increasing importance of the Global Financial Cycle. And as monetary policy is being tightened in advanced countries, there are important risks ahead for emerging markets. He points to four important areas policy reform: expanding the regulatory perimeter to non-bank financial intermediation; extending the scope of bilateral central bank swap lines as part of the global financial safety net; revisiting the use of capital flow measures as part of a larger toolbox to enhance stability in small open economies; and a new architecture of sovereign debt restructuring, which might be needed in the wake of rising sovereign debt burdens in many emerging markets.
Yung Chul Park and I discuss the shorter- and longer-term challenges for the financial sector, both related to the exit from the pandemic and consequent economic crisis and to the challenges posed by economic transformation, digitalisation and climate change. As I have discussed in another occasion, sequencing of exit strategies from government support is important to avoid cliff effects and scarring on the one hand, but also in terms of how quickly the economy can recover and manage the necessary resource reallocation process. Beyond the exit from direct support measures for corporate and financial sectors are the challenges of monetary policy normalisation and fiscal consolidation, with different countries and regions of the world facing different challenges and needs for policy normalisation (and further complicated by Putins’ aggression against Ukraine). Beyond the short-run challenges, the financial system has undergone structural changes over the past decades. Most importantly digitalisation has been an important disruptive force, as we also discuss in this recent ASC report. A final challenge that we discuss is that of climate change, which both poses problems for the financial system and relies on the critical function of the financial system for the necessary resource reallocation. However, tentative evidence has shown that banks might have limited incentives to support such a transition (especially when compared to public capital markets), which puts the focus on the regulatory response to the climate change challenges but also the question of the relative roles of different segments of the financial system.
The debates around these topics reinforce the critical contribution that economists can and should make to the current challenges that humanity as such and advanced, emerging and developing economies face as they exit from the pandemic. This exit poses many challenges for policymakers across the globe but also the opportunity to address fundamental risks for humanity and move towards a safer and more sustainable world. Obviously, the geopolitical tensions following Putin’s aggressions add another important challenge for societies and economies across the globe and will make addressing the already existing challenges not easier.
28. February 2022
Covid – nobody gets it completely right
If one looks across countries, the heroes of yesterday are often the villains of today. Take Germany, praised for its low incidence and mortality during the first Covid wave in spring 2020, now (together with fellow-German speaking Austria and Switzerland) falling behind due to vaccination hesitancy. Take the UK – a disaster during the first wave, due to arrogance (“we are not Italy”), but then an early success story in vaccination.
Having lived in two countries during the pandemic has also helped me reassess popular prejudices about countries. Common sense and rule-abiding British – well, not so much; rule-ignoring Italians, well, not at all. On the London tube, up to 50% of passengers somehow seem to be exempt from mask-wearing (obviously, they are not), on the buses and trains in Italy I still have to find a single person not wearing a mask. There are other national characteristics I learned about during the pandemic: British people do not, in general, like to confront rule breakers, whereas Italian (and to a certain extent Germans) do, at least when they realise that this rule breaking also affects them negatively (by spreading the virus).
There has been much discussion on what rules and policies worked and did not work during the pandemic. Recent research has shown that countries with populist governments have performed worse during the pandemic; the authors identify less severe restrictions and communication downplaying the threat from the pandemic as mechanisms. Maybe in addition to this is the rule breaking by populists themselves, such as by Boris Johnson in the UK, with his excessive partying (oops, sorry work meetings with wine and cheese) and refusal to wear a mask, even in a hospital; this does not exactly set the best example.
There was quite some divergence in lockdowns and travel restrictions across the globe, with some countries imposing a complete travel stop and imposing lockdowns with only a few cases and other countries relying on common sense. With the Omicron wave having been relatively mild and widespread lockdown-fatigue, there has been a convergence towards limited or no restrictions, with the notable exception of China. The question is whether dropping even simple and non-intrusive restrictions (such as wearing masks on public transport or crowded indoor spaces and vaccination passes) is really advisable or whether they rather constitute political manoeuvring of the worst kind (as one suspects in the UK). With the same token, however, one wonders whether continuous or repeated lockdowns and closed borders can be maintained forever, as in the case of China.
Almost all countries have imposed restrictions and defined Covid policies on the national or state level. An interesting outlier is the US, where in the absence of clear political leadership, private actors have stepped in, such as universities imposing testing and vaccination requirements. One can see that as a strength of private institutions or as weakness of a common polity.
Over the course of the pandemic, there were often cross-references to the previous global pandemic of this extent, the Spanish flu in 1918-20. While history does not repeat itself, it certainly rhymes. One can only hope that we will learn some lessons out of this pandemic and that they will not be forgotten by the time the next global pandemic comes around, be it 20, 50 or 100 years.
26. February 2022