Zardari’s China policy

By Shahid Javed Burki
Tuesday, 13 Jul, 2010


BY the time this column appears in print President Asif Ali Zardari would have concluded his fifth visit to China since taking office less than two years ago. The Zardari visit came at a time when Pakistan faces a difficult economic situation and while China is engaged in the process of redefining its economic objectives.

In a long paper I had written a few months ago for the Institute of South Asian Studies at Singapore, I had argued that under China’s leadership Asia — or most parts of the large continent — was catching up with the more advanced countries in the global economy.

Some time during the course of 2010, China will overtake Japan as the second largest economy in the world after the United States. China’s rise, I had argued, would be different for Asia from the earlier rise of Japan. While Japan had anchored its economy in the West, China was focusing to a much greater extent on leading the rest of Asia towards modernisation.

I discussed this finding with some of the senior leaders of the Chinese ministry of finance. They found the conclusion interesting and plausible. This discussion took place in Beijing while President Zardari was in China. It raised in my mind the question of whether the discussions the Pakistani team was having recognised the importance for their country of the massive structural change that was occurring in China. This will be of great consequence for the future of the Chinese economy, its position in the global economic system and its relations with the countries in its immediate neighbourhood.

How should Pakistan respond to China’s evolving situation in the global system given the long relationship between the two countries is a question that I will take up in a later column. Today my focus will be on the symbolism of the latest Zardari visit to China and the role he would like to see China play in helping his country deal with the energy crisis that has already taken a heavy toll on the economy.

This time President Zardari was escorted to the Great Hall of the People in Beijing by his two daughters. China Daily covered the Pakistani president’s visit quite extensively. It carried his picture alongside President Hu Jintao on the first page of the newspaper. It quoted the Pakistani president telling the Chinese leader that his daughters wanted “very much to see you in person” hoping the meeting would inspire the younger Pakistani generation to continue its “all weather and time-tested friendship with its Asian neighbour.” The Chinese press was touched by this gesture carrying the story of the meeting under the title, ‘Children lead the way into the meeting’.

It was reported that since the Pakistani president assumed his present office the two countries had concluded 60 agreements, opening up a number of new avenues for Chinese investment in Pakistan. The Hu-Zardari meeting on July 7 lasted for 100 minutes and witnessed the signing of six deals in the areas of law, housing, agriculture and media cooperation. These were all new areas of collaboration between the two countries. The visit and the associated meetings also covered some of the traditional areas in which the two countries have been involved. The most important of these is the development of Pakistan’s energy resources.

The Pakistani president told Chinese business heads in Beijing that “Pakistan was facing an acute power shortage and intended to add tens of thousands of megawatts of power to its national grid in the next 25 years through combined hydro, coal, gas, nuclear and renewable energy resources”. The Chinese response was encouraging. According to China Daily “an executive of China’s Three Gorges Corporation which runs the huge hydropower dam in central China, … agreed to invest more than $100bn in two hydropower projects in Pakistan”.

The question of China’s support for developing nuclear power in Pakistan also came up. This issue had acquired some significance following questions raised by the American administration about the understanding China and Pakistan had reached earlier in the area of nuclear power development.

The China National Nuclear Corporation had signed an agreement with the Pakistani government in February of this year to finance the construction of two new reactors. Washington was concerned whether the promised assistance by China to add to the nuclear capacity already built at Chashma in the Punjab was in accordance with Beijing’s international obligations.

Beijing gave repeated assurances to the international community that its current and future nuclear commerce would be in total compliance with its commitment to the Nuclear Non-Proliferation Treaty. This assurance was repeated to the Indian adviser on national security adviser, Shiv Shankar Menon, who left Beijing the day the Pakistani president arrived in the Chinese capital.

Menon spent several days in China during which he met Prime Minister Wen Jiabao. He said before leaving China that he had discussed China’s assistance to Pakistan in the nuclear area. “They told us that what they are doing will be in accordance with their international obligations. We will wait and see where this is going,” he said while talking to the press before leaving for India.

Ye Hailin of the Chinese Academy of Social Sciences spoke on the controversy and said that the Chashma project was legal and also had nothing to do with other countries. He said that China has always been supervised by the International Atomic Energy Agency and future nuclear cooperation with Pakistan would depend on the demand of that country for using nuclear power to meet its large energy shortfall.

“Our cooperation is not a show, not a demonstration. It is decided by our need.” The expression of concern by New Delhi and Washington about the cooperation between Beijing and Islamabad was surprising since they themselves had concluded a deal which was clearly outside the NPT framework. The Americans had used considerable political muscle for the international community to accept their agreement with India.

From the perspective of Pakistan’s current economic needs the Zardari visit seems to have been a success. Whether it will put Pakistan in a position from which the country could draw benefit from China’s changing situation will be discussed later.

Fragile recovery, double-dip, or depression?

By Shahid Javed Burki
Monday, July 19, 2010


IN recent months, economic policy around the world has taken a major wrong turn and, according to some economists, the global economy may be heading towards another recession.
If that were to happen the Great Recession of 2008-09 may turn into the Great Double-dip Recession of 2008-11. This may degenerate into a depression, the first since the late 1930s.

The impact of this on emerging economies is already being felt. India has reported a sharp decline in the rate of increase of industrial output in May. Pakistan will also be affected as some of its export markets lose their dynamism. The main reason for this unhappy turn in events is the policy-induced weakness in aggregate demand. This is more evident in Europe but may also happen in the United States.

Deep political divisions in the United States are preventing the Obama administration from assisting the unemployed as their benefits run out. Republicans in the Senate, with some help from conservative Democrats, have blocked $77 billion in aid to the unemployed proposed by the administration.

The German government has pledged $100 billion in tax increases and spending cuts even though the economy continues to operate well below capacity. The newly installed Cameron-Craig government in London has also opted for austerity. The French are pulling back sharply.

Perhaps most troubling of all is that the G20 governments that recently met in Toronto failed to agree on a common framework for guiding the world economy back to full recovery.

We know from the history of the world economy that when national governments are left to work on their own they are likely to work against each other rather than in support of one another. That happened in the period before the Second World War and produced the Great Depression.

Does this mean that the world is headed not only towards a double-dip recession but perhaps a full-fledged depression? The answer is probably no because the large economies of Asia have not – at least not yet – joined the politically popular austerity drives in the countries on both sides of the Atlantic. Asia may come to the world’ rescue and in the process acquire greater economic heft.

Economic downturns – their depth and duration – are exceedingly hard to predict. This is especially the case when governments actively intervene to shorten their duration and reduce their depth. The 2008-09 downturn, the first since the Great Depression and by far the most severe of the several that have hit the global economy over the last six decades, was supposed to have ended by the time the year 2009 was in its third quarter.The conventional measure – two successive quarters of growth – when applied to this recession seemed to suggest that the recession was over.

According to Christina Romer, the chair of President Barack Obama’s Council of Economic Advisors, the Great Recession will only end when the rate of unemployment in the United States declines to 5.5 per cent of the labour force. That may not happen for many quarters.

On the other hand Larry Summers, the other important economic policymaker in the Obama White House, and US Treasury Secretary Timothy Geithner prefer the conventional interpretation.They believe that the aim of the policymakers should now be to manage the recovery, determining the time when the governments should begin the process of reducing the amount of stimulation used to prevent the economies from going through a free fall.

President Obama’s challenge is to balance three different types of advice he is receiving from the people who work in the White House. The most vocal are those who watch politics, among them Rahm Emannuel, his chief of staff, and David Axelrod, his senior advisor. Both are worried that given the sharp increase in the levels of public debt and associated fiscal deficits it would be politically costly – perhaps suicidal – to continue to stimulate the economy by using the printing press.

Already, the “tea party” movement has gained a great deal of political ground. It has developed its campaign by suggesting that the mountain of debt the United States has built up will have a severe impact on the future generations as they begin to pay off the accumulated debt through higher taxes and reduced consumption.

Summers and Geithner are the sources of the second line of advice to the president.They are not averse to continuing with some stimulation and providing compensation to the millions of people who remain unemployed – both positions are unpopular with the Republicans – but to focus attention on reforming the financial system through better regulation.

According to them the president needs to spend his political capital on bringing about structural changes in the economy so that the economy does not go through another spin as it did in 2008-09.

The third advice comes from people such as Romer who fear that by exiting more rapidly than the current situation warrants the economy may head towards a double dip recession rather than continued recovery. This group has the support of some private economists with powerful credentials. The most prominent among these is Paul Krugman, a Nobel Prize winning Princeton professor and a columnist at The New York Times.

“Many economists, myself included, regard this turn to austerity as a huge mistake’, he wrote in a recent article. “It raises memories of 1937, when F. D.R’s premature attempt to balance the budget helped plunge a recovering economy back into severe recession. And in Germany, a few scholars see parallels to the policies of Heinrich Bruning, the chancellor from 1930 to 1932, whose devotion to financial orthodoxy ended up sealing the doom of the Weimar Republic.” While both the EU and the United States are projected to see growth of only one per cent in their respective GDPs, the Asian countries are expected to do much better. Led by China, Asia is becoming the engine of global growth and may save the world economy from plunging into a double-dip recession. Asia’s help is coming in many ways.

Recent German data illustrates the deep structural changes that are taking place in the global economy would not have been possible without economic expansion in Asia.

Since May last year when continental Europe was in the midst of the worst economic downturn in the post-war period, German exports have risen 28.8 per cent. Sales to nonEuropean markets buoyed the trend; they increased by 39.5 per cent. “Without China we would have hardly seen this recovery” said Hannes Hesse, managing director of the VDMA engineering associates.

According to Deither Klingelnberg, a maker of machine tools, Asian and emerging markets demand is the main driving force for the ongoing recovery of the German manufacturing and exports.

“It’s China, China, China by a long way, then India, Brazil, then Russia – and the US remains weak as do many of our European markets”, he said. While China may begin to slow down the unsustainably high rate of growth of recent months, it will remain close to 10 per cent. Some other large Asian economies may step forward. For instance, there is a lot of life in Indonesia which could begin to spend more by relying not just on taxes but also on borrowing.

Emerging Asia as whole, with a quarter of the world’s gross domestic product, has less than eight per cent of its outstanding bonds. Increasing the ratio will help not only to increase domestic demand, it could also put a floor under which the global economy would not fall.

Asia then has become the economic area that will begin to carry a great deal of water for the global economy. But for that to happen, the West must not turn totally away from expansion and move towards austerity. To use another metaphor Asia is developing broad shoulders but they can carry only so much burden for the moment.

__________________
No signature...

Development partners

By Shahid Javed Burki
Tuesday, 20 Jul, 2010


BEFORE gaining independence in 1947, what was to become Pakistan was part of the larger economy of British India. This ceased to be the case over a two-year period following independence. The main reason for this was a series of hostile moves by New Delhi to cripple Pakistan economically.

The intention probably was that the men who had led the fight for the creation of a separate homeland for the Muslim community would realise the folly of their actions and seek re-entry into the Union. India would thus become whole once again. That did not happen and Pakistan survived economically through a combination of sacrifice and some luck — the Korean War produced a boom in the prices of several commodities in which Pakistan had large tradable surpluses.

Jute produced entirely in East Pakistan came to be called the ‘golden fibre’ and earned huge amounts of foreign exchange. Cotton, leather and wool — mostly the products of West Pakistan — also did well. The earnings from the exports of these commodities were able to pay for the first industrialisation effort Pakistan launched in order to develop an economy that was not dependent on that of India.

With economic links between independent India and Pakistan severed, Pakistan went looking for partners in development. The first choice was the US which had its own strategic interests in the area of which Pakistan was an important part. After the signing of a defence agreement in 1954 Pakistan became a large recipient of American military and economic aid. This relationship lasted for a decade, from the mid ’50s to the mid ’60s. The India-Pakistan war of 1965 resulted in a pullback by the United States.

Pakistan responded by developing close relations with China, a country that was isolated from the rest of the world partly because of the ideology it was pursuing but also because of the US effort to contain the communist state. China-Pakistan ties withstood changes in Pakistani regimes as well as a major ideological change in China.

The leaders of both countries have identified their relations as an all-weather friendship. This was reaffirmed by both sides during the recently concluded visit by President Asif Ali Zardari to Beijing and Shanghai. It was the fifth visit by the Pakistani president to China, the subject of this column last week.

In between the approaches to America and China, Pakistan also developed close relations with the Middle East. This was based on a number of considerations, among them the Middle East’s need for workers which Pakistan could supply and Pakistan’s need for external capital flows which was partly provided by the oil-exporting countries in the region. But there was a negative side to this relationship as well. It exposed Pakistan to a highly conservative interpretation of Islam which was to have profound consequences for the country’s social development.

Saudi Arabia, at the urging of the US, paid for the establishment of Islamic seminaries located in the border area between Afghanistan and Pakistan. They taught not only Islam to the young who lived in the refugee camps that housed more than 3.5 million Afghan refugees, they also taught ‘jihad’ and trained them to fight the Soviets in Afghanistan. Thus were laid the foundations for the rise of the Taliban.

Pakistan is now at a point at which it needs to define its external relations in terms of its economic and development needs rather than in terms of promoting Islamic ideology or becoming part of a new Great Game. This is being played out as the large economies in the world reposition themselves to accommodate the rise of China and the impressive increases in the rate of growth of that country’s economy.

While I have been urging the need to develop close economic relations with India I am cognisant of the fact that India is not an easy country to love. This is not only Pakistan’s experience. It is also the experience of other countries in India’s immediate neighbourhood. This places Pakistan in a similar position as Turkey that has been seeking close relations with the European Union only to be repeatedly rebuffed. Perhaps Turkey and Pakistan could work together to create another economic region focused on the development of the Central Asian region with which both have strong historical ties.

Turkey’s recent economic rise has surprised most observers of the country. According to Landon Thomas Jr of the International Herald Tribune, “today Turkey is a fast-rising economic power, with a core of competitive companies turning the youthful nation into an entrepreneurial hub, tapping the cash-rich export markets in Russia and the Middle East and attracting billions of dollars in return”.

Turkey has recently reported a stunning 11.4 per cent economic expansion in the first quarter of 2010, second only to that of China and better than that of India. The European Union is not likely to grow at a rate of more than one per cent in 2010.

Turkey’s performance is astounding given that just 10 years ago it had a budget deficit of 16 per cent of GDP and an inflation rate of 72 per cent. The great irony is that Turkey will meet the criteria set by the Europeans to enter the Union more fully than some of its present members. Its debt to GDP ratio is only 49 per cent and it could well get its budget deficit below three per cent by next year. Judging by the spreads on credit-default swaps, Turkey at 192 is way ahead of Greece at 980 and marginally better than Italy at 194.

The new generation of Turkish entrepreneurs has left the aggressive European type of secularism espoused by Kemal Ataturk, the founder of modern Turkey. Most of them now at the forefront of the Turkish economy are practising Muslims and have no qualms about their faith. They are also the followers of Prime Minister Recep Tayyip Erdogan who has been successful in combining social conservatism with sound economic management. His Justice Development Party is now the most dominant political movement since the early days of the republic.

In other words, Turkey is pointing the way Pakistan could go. It could partner the country and create a bloc of non-Arab Muslim states that could also accommodate Afghanistan as the US engagement in that country begins the phase-out period.

__________________
No signature...

Get ready for an urban revolution

By Shahid Javed Burki
Monday, July 26, 2010


ONE of the most important changes in economic landscape is under way. Unfortunately, neither the government nor the private sector is ready to deal with it.

In the next one decade 50 per cent of the Pakistani population – perhaps an even greater proportion – will reside in cities of many sizes and shapes. By that time the population will have grown to 230 million. This means that 115 million people will live in towns and cities. These people will need goods and services the economy does not produce in adequate quantities at this time.

The gap will increase unless the government – and within the government the Planning Commission – takes a careful stock of the emerging situation and does adequate planning for the future.

The McKinsey Global Institute has, over the years, studied urban development patterns in the developing world and identified how governments can and should deal with them. The latest report to be published by it pertains to India.

In India’s urban awakening: Building Inclusive Cities, Sustaining Economic Growth issued in April of this year, the institute paints a grim picture of what is coming to that country. “Even today, India’s cities are failing to provide a basic standard of living for their residents. But life could become much tougher as cities expand”, write the authors of the report. “Demand for every key service will increase five to seven times in cities of every size and type.” Among the many shortfalls that have to be provided for, McKinsey pays special attention to housing and infrastructure. Indian cities will need to add 700-900 million square meters of residential space in order to cope with the expected demand. This is equivalent to adding a Chicago every year. As much as $1.2 trillion worth of investment is needed to close the current supply-demand gap and cover the expected demand for the future.

Reduce these numbers by about a tenth and you have a picture for Pakistan. However, there is no equivalent base of information available in Pakistan on which the government and the private sector needs to act. Why so much emphasis on the private sector? There are many reasons for this of which two are particularly important. The government is short of resources needed to meet the current and coming demand. The extreme shortage in the availability of electric power is an example of both lack of public resources to supply what is needed as well as the absence of long-term planning.

The second reason is that the coming rate of urbanisation will increase the demand for goods and services only the private sector can provide. There is money to be made by those who begin to invest now for meeting future demand. This means that the private sector needs to reorient its production to meet the needs of the people living in towns and cities.

The United Nations Population Division has estimated the pattern of growth of Pakistan’s urban population over the next couple of decades. It sees the urban population more than doubling between 2000 when it was estimated at 48 million to more than 104 million in 2025. At the start of this century a bit more than 33 per cent of the population lived in the country’s towns and cities. That proportion will increase to over 46 per cent in 2025.

There will be a steady decline in the rate of growth of rural population. The rate is likely to decrease from 1.3 per cent in 2005-10 to only 0.28 per cent in 2020-25. In 2025-30, the number of people residing in the countryside will actually decline.This means that the number of people migrating from the rural to urban areas will outnumber the natural increase in rural population.

There will be some change in the distribution of urban population among cities of different sizes. Karachi will remain the largest city with its population increasing from an estimated 13 million in 2010 to 19 million by 2025. By then Lahore will join Karachi as a mega-city defined as those with populations of more than 10 million people. Lahore’s population will increase from seven million in 2010 to 10.5 million in 2025.

However there will be a slight decline in the proportion of these two cities in the total urban population. It will decrease from 32.3 in 2000 to 28.5 per cent in 2025. This is in keeping with the trend the United Nations believes will be followed all over the developing world.The earlier belief that a few mega-cities will dominate the urban landscape has been abandoned in favour of the suggestion that secondary cities – those with populations of one to five million – will become the dominant form of urban presence in the emerging world.

The McKinsey report on India finds that that will indeed be the case for that country. However, the projections by the United Nations don’t see that trend for Pakistan. In Pakistan, the share of smaller cities in the range of 0.5 to 1.0 million more than doubles in the quarter century between 2000 and 2025 increasing from three to seven per cent. The number of cities in this category will increase from only two to eleven during this period.

Demographers and development economists recognise five dimensions of a policy aimed at urban management – funding, governance, overall planning, sectoral planning, and urban shape.The resource constraint the country faces is well recognised. The government’s approach to overcome this is to go hat-in-hand to groups such as the Friends of Democratic Pakistan that held yet another meeting in Islamabad on July 17 to which Islamabad presented its energy policy and asked the “friends” to finance it. This approach is not viable over the longrun.

The friends are prepared to turn up at these meetings since Pakistan today is regarded as the epicentre of global of terrorism. They have concluded that one important step to deal with this situation is to stabilise Pakistan and develop its economy.

That way the vast armies of youth produced by an unrelenting increase in population will get occupied with the economy. But for a long-term approach to one aspect of the country’s demographics is not to postpone the important task of finding a solution that depends on domestic structures rather than on foreign help.

This will require both policy and structural change to raise resources internally for building urban Pakistan. What the planners must be committed to is not preparing another strategy for financing by the Friends of Pakistan.

What is needed is a viable urban policy.The first step in that direction is to hold a population census which was due in 2008 if the ten-year rule for the time between two censuses were to be observed or in 2010 if Pakistan were to be brought in line with other countries. And with the census should come a household survey that will tell us how much people earn and spend and what are the various categories of expenditure.

This information is required in order for the government to provide services to the people living in urban areas and for the private sector to produce goods and commodities for their.

__________________
No signature...

Our India predicament

One way of dealing with the Indian conundrum is to change the basis of the dialogue. It is high time that we put history on the back burner and let economics take centre stage.

By Shahid Javed Burki
Tuesday, 27 Jul, 2010


A NUMBER of stories in the Dawn issue of July 17 provide an interesting insight into the state of play in India-Pakistan relations. Two stories on discussions between the foreign ministers of the two countries suggest that Pakistan’s expectation of progress, following the statement issued at Thimpu that played host to the Saarc summit earlier this year was not realised.
Instead of taking two steps forward and perhaps one backward, that is frequently the case in a dialogue between two parties with a long history of animosity, the Islamabad talks only served to push back the relationship. The opti mists saw some hope in the declaration that Pakistani Foreign Minister Shah Mehmood Qureshi had accepted the invitation issued by his counterpart to visit New Delhi at some future date. That was practically laid to rest by the Pakistani foreign minister’s meeting with the press a day after he concluded the discussions with the Indians.

The foreign minister indicated with a palpable show of irritation that he would not go to India unless there was indication that Pakistan’s neighbour was prepared to discuss the substantive issues that remain to be resolved. His assertion that the Indian foreign minister had arrived in Islamabad with a highly restricted mandate from which telephone calls from New Delhi, while the meeting was in progress, ensured he did not depart caused considerable displeasure in India. There is now considerable bad blood between the two sides. This is where the United States enters the picture.

Another Dawn story provided some background to Pakistan’s preparation for the second round of the strategic dialogue between Islamabad and Washington begun a few months ago in the American capital. It was revealed that the Pakistani side planned to focus on two issues in their talks with their counterparts from Washington. They wanted the Americans to pressure India not to compromise Pakistan’s situation with respect to the availability of water.

A World Bank study issued a couple of years ago had suggested that Pakistan was fast approaching the situation in which countries are classified as ‘waterstressed’. This threshold is placed at 1,000 cubic metres per head of the population. Availability in Pakistan has already declined to 1,500 from as much as 5,000 cubic metres in the early 1950s.

Increase in the size of the population is only one reason that this decline has occurred. Pakistanis believe that some actions by India in the upper reaches of the rivers that were allotted to the country by the treaty signed in 1960 is also a cause. Stopping India from pursuing that line was regarded as sufficiently important for Islamabad to seek American help but Secretary of State Hillary Clinton in her two-day trip to Islamabad recently refused to allow America to get involved.

Another story was about the discovery of a large gas field in Kohat which would, when developed, deal with energy shortages that Pakistan has to contend with — this one pertaining to the availability of natural gas, a fuel on which Pakistan is heavily dependent for meeting its growing energy needs. At the second session of the Pakistan-US strategic dialogue and also at the Friends of Pakistan meeting that preceded it, Pakistan asked for help in developing the energy sector.

Putting together these stories creates a picture that Pakistan should observe carefully in order to tackle a difficult diplomatic and economic situation. India is able to adopt what Pakistan sees as a hard line in its relations with its neighbour in part because of its economic strength. For the last quarter century the Indian economic growth has been twice that of Pakistan’s. When we factor in Pakistan’s higher rate of population increase, the income gap between the two countries has widened considerably.

In the mid-1980s when India began to reform its economy, per capita income in Pakistan was higher than that of its neighbour. Now the Indian income is 20 per cent greater. Pakistan is dependent on the largesse of its foreign friends to keep its economy from falling into a deep abyss. It is appealing to the Americans and the Chinese for greater help than the two countries are prepared to provide. India, on the other hand, with $250bn of accumulated foreign exchange reserves — the fifth highest in the world — is in a very comfortable position. Given these economic disparities it is not surprising that the Indians are reading from a script that calls for a hard line towards what it views as a troublesome neighbour.

This was not always the case. There was a time when Pakistan was held out as the model of development which other countries could follow. It had man aged to build a strong economy by having the public and private sectors work for the common good. India, on the other hand, by putting the state on the commanding heights of the economy, was managing to grow at what its own economists called the Hindu rate of GDP increase.

There are no permanent trends in the way countries move forward; Pakistan should be able to reverse the trend. It needs to do that in order to be treated with some respect by the international community, in particular its neighbours.

I have suggested in this space before that one way of dealing with the Indian conundrum is to change the basis of the dialogue. It might be time to put history on the back burner and let economics take centre stage. Some problems are too intractable to be resolved through dialogue.

The best way to deal with them is to change the circumstances that surround them. That is exactly what the Chinese did regarding their claim over Taiwan. Once a senior Chinese leader told me that time was on their side. He was not measuring time in months or years but decades. In the meantime they were going to change the nature of the relationship with the island, to have it develop a strong economic vested interest in the mainland. We could try the same approach with India.

__________________
No signature...

New economics of systemic risk

By Shahid Javed Burki
Monday, August 02, 2010

THE development of economics as a discipline has moved a long way since the time of Adam Smith, widely regarded as the founder of modern economics. Much of what the Scotsman said two centuries ago in The Wealth of Nations, generally regarded as the bible of the discipline, was based on reflection and intuition.
Smith neither came up with mathematical equations to lend credence to his observations nor did he scientifically gather information to prove that he was on the right track. That was left to later economists such as Alfred Marshall and Paul Samuelson.

Intuition is no longer the source of many new developments. Many of the new insights in economics are based on empirical work. In development economics, most of what we have come to believe is based on the econometric analysis of the data gathered by such institutions as the World Bank, the Asian Development Bank and the International Monetary Fund.

Many of the more important advances in economics have come during and after major crises. It was after the Great Depression that John Maynard Keynes, generally considered to be the greatest twentieth century economist, came to lay the foundations of what came to be known as macroeconomics. His main contribution was to suggest that markets were not totally rational in the way they behaved. They did not automatically adjust to the changes brought about by such external events as new inventions and natural or man-made disasters.

Economies thus disturbed needed the intervention of governments, using their ability to tax and spend as well as the ability to create money. Thus was born what the Nobel Laureate Paul Krugman calls, “depression economics.” The new crisis that produced the Great Recession of 2008-09, is also leading to new developments in the discipline of economics. In studying how to respond to the upheaval that has occurred and create a more stable system, financial officials, central bankers, international experts and academics have been focusing on a concept known as “systemic risk”.

This manifested itself in “falling domino” problem that led mortgage defaults and in the United States to lock up the global financial system because of the complex connections among banks, investment companies, insurers and other firms around the world. The phenomenon is not well understood in spite of all the work that has been done in recent months.

“We sort of know vaguely what systemic risk is and what factors might relate to it. But to argue that is a well understood science at this point is overstating the fact,” says Raghuram Rajan, former Chief Economist of the IMF and the author of a highly influential book, Fault Lines, which explored the role of the United States’ real estate and credit bubbles in the crisis that peaked in 2008-09 but is still not fully over.

It was Rajan – along with some other contrarian economists – who first suggested that the United States was heading towards an economic disaster. This was done in a paper delivered in the summer of 2005 at Jackson Hole where central bankers from around the world and economists working in the field of monetary economics gather every year to reflect on the current economic situation.

Ragan challenged the Efficient Market Hypothesis that had begun to dominate academic thinking as well as the working of the institutions such as the Federal Reserve Bank and the US central bank. Under the leadership of Alan Greenspan the Fed believed that the markets were better left to their own devices to the point of self-regulation.

Before the crisis there was a widespread belief that the prices charged by the market for various kinds of assets reflected the information available to those who buy and sell. Markets with large numbers of people with enough information and the ability to move money freely could assess the risks of different types of investments and protect themselves. That, of course, did not happen.

Watching the herd instinct that developed many economists abandoned the “rationality” principle and began to look at the way consumers and investors behave. Thus was born “behavioural economics” which has begun to invite considerable amount of attention. Its most notable practitioner is Robert Shiller, the economist from Yale University.

What is the relevance of all these ongoing developments for a country such as Pakistan? The answer to this question should perhaps begin with a bit of history. In early 2006, at a seminar organised by the Washington-based Woodrow Wilson institution, I incurred the displeasure of Shaukat Aziz, the then prime minister, by suggesting that his policies had allowed Pakistan to become a “casino economics”. My observation was based on what I had observed was happening in the real estate market. There was an enormous amount of speculative behaviour in the market as investors bought and sold what were called the “files”.

These were claims to yet-to-developed plots of land in housing communities that were being built in most of the important cities around the country. Some of the files that were bought and sold did not even identify the location of the plots. The purchases of the plots created an enormous real estate bubble which, like all bubbles, was bound to burst.

Like all bubbles this one was also based on the availability of easy money. This had become available for three reasons: lowering of lending rates by the State Bank of Pakistan, tons of black money created by corruption and taxdodging by the rich, and loads of finance that was coming in from abroad as remittances being sent by the people of Pakistani origin living and working abroad.

It was not unusual for the price paid for some of the files to double or triple in a matter of months. It was legitimate for me to call this “casino economics” since the real estate bubble began to affect all parts of the Pakistani economic system.

The returns available in this type on investment could not be replicated in other parts of the economy. Accordingly a great deal of money was sucked into the real estate sector depriving more important parts of the economy with the finance they needed. Had the administration then paid attention to the casino economy that had begun to dominate the Pakistani system, some ameliorative actions could have been taken. Tightening of money supply and heavy taxes on real estate transactions were two of the several measures that would have stopped the bubble from developing and spreading.

Taxes could have been specifically directed to curb speculative behaviour. For instance, a transaction tax could have been levied if the period between the purchase and sale of a “file” was very short, say less than a year.Transactions of files could have been discouraged by mandating that the properties they represented had to be clearly specified. None of this, of course, was done and the real estate market came crashing down. It has still to recover.

The lesson to be drawn by the policymakers from the experiences of various economies round the globe and their own experience with the collapse of the real estate market is that they should always be mindful of developments that cannot be justified on the basis of rational expectation.They must step in with appropriate policies to puncture the developing balloons.

Left to inflate they will do a lot of damage not only to the sectors that were directly involved but also to those that were somehow linked with them. Once their work is done those working on systemic risks will have a great deal to teach the policymaker including those in Pakistan.

__________________
No signature...

Will the war be affected?

The documents released to the press were not authenticated by those who were in the know or corroborated by independent reviewers. So, they cannot be relied upon as the true story of the war.

By Shahid Javed Burki
Tuesday, 03 August, 2010

A FAIR amount of water has already flowed under the bridge since an organisation calling it self Wikileaks made available tens of thousands of documents to three left-leaning newspapers in Europe and the United States. These pertain to the ongoing war in Afghanistan.
Much has already been written and said about the significance of the leaks for the conduct of the war in Afghanistan. The Pakistani press and TV commentators have rightly focused on the impact the release of these docu ments might have on the American pub lic perception of Pakistan and US Pakistan relations. These had been im proving as a result of strenuous efforts made in the last one year by the capitals of the two countries. The momentum will be hard to maintain especially in the more impressionable US Congress.

Hussain Haqqani, Pakistan’s ambassa dor to the US, demonstrated the right take on the leaks. In many appearances on television news shows and radio talk shows the ambassador emphasised that most of the documents were ‘situational’ reports filed by thousands of people who were observing what was happening in the field. He likened them to ‘911 calls’ so called in the United States since that is the telephone number used by people in distress to report to the authorities when they need assistance.

The documents released to the press were not authenticated by those who were in the know or corroborated by independent reviewers. In other words they cannot be relied upon as the true story of the war. There was a great deal of logic in the ambassador’s argument but the intention of Julian Assange, the man behind the leaks, was not to write an unvarnished history of the war while it was still in progress. His purpose was to change American public opinion about the war and reduce the amount of support it was receiving.

The period covered mostly by the papers was 2004-07 before President Barack Obama became president. What was reported in the documents, therefore, was the chaos and confusion that existed during the time of President George W. Bush. The mission Wikileaks had adopted was to persuade President Obama that little political purpose would be served by carrying on his shoulders the burden that was left behind by his predecessor. In that respect it was wrong to put these leaks in the same league as the Pentagon Papers that changed the course of the American war effort in Vietnam and in doing so shook the country’s political establishment.

But the Pentagon Papers were not raw documents as is the case with the Wikileaks exposé. They were the official history of the events leading up to the Vietnam war and the war itself prepared by the Pentagon under the title of United States-Vietnam Relations, 1945 67; A Study Prepared by the Department of Defence.It was a top secret study conducted by the US Department of Defence of the American involvement in Vietnam from 1945, the year the Second World War ended, to 1967 when the war in Vietnam was entering a decisive phase. The study was commissioned by Secretary of Defence Robert S. McNamara in 1967 and completed in 1968. Daniel Ellsberg was one of the contributors to the study and the man who leaked it to the press. The study in draft form was turned over to The New York Times which began publishing excerpts from it in a series of articles that started appearing from June 13, 1971. By that time President Johnson, having decided not to stand for office, had been succeeded by President Richard Nixon and McNamara was already at the World Bank as that institution’s president.

The publication of the Pentagon Papers led to political controversy, lawsuits and the extended trial of Ellsberg. In an article published in 1996 to commemorate the 25th anniversary of the publication of the Pentagon document, The New York Times wrote that the Pentagon study “demonstrated, among other things, that the Johnson administration has systematically lied to the public but also to Congress about a subject of transcendental national interest and significance”.

To determine whether this leak will have the equivalent effect on the Afghan war as the Pentagon Papers did on the war in Vietnam we should first look at the story behind the leaks.

Last month, The New York Times committed five pages worth of space to report on the content of the 91,000 reports leaked to it and two other newspapers pertaining to the current war in Afghanistan. The two other newspapers were Britain’s The Guardian and Germany’s Der Spiegel. The timing of the stories was the result of an agreement with the Germany-based Wikileaks.org that had painstakingly gathered the material. The organisation provided the documents to the three papers on the condition that the stories based on them be published on the same day it was plan ning to post them on its website.

Each paper did its own analysis of what the documents showed, what impact their release might have on the conduct of the war, what would be the consequence of their release on relations between the US and Pakistan, how would they affect relations between Afghanistan and Pakistan. There will be consequences on all these fronts but the main purpose is not to achieve any of these ends. The purpose, as clearly indicated by the Wikileaks founder, is to provide a way out for the Obama administration to reduce the scope of its mission in Afghanistan and to head for the exit door.

It was natural for commentators in Pakistan to dwell on the references made to their country, or the role attributed to the ISI in the Afghan affair, or to what retired Lt Gen Hamid Gul was doing and saying with respect to the war in Afghanistan. To use military parlance the blow to Pakistan’s reputation as a partner the United States could trust is simply collateral damage inflicted by this episode. We should not get terribly concerned.

__________________
No signature...

How is the economy shaping up?

By Shahid Javed Burki
Monday, 09 Aug, 2010

WE should get ready for another poor year for the economy in terms of the rate of growth in national product, pace of job creation, and interpersonal and inter-regional income distribution. The government’s prediction that the GDP in 2010-11 would increase by 4.1 per cent now seems extremely optimistic.

Given some of the shocks the economy has received in the last few days, it appears that the national product will not increase by more than 2.5 to 2.8 per cent this year This will be about the same as the revised rate of growth in 2009-10.

If that came about, Pakistan’s current economic expansion will be less than one half that of Bangladesh and one third that of India. Pakistan today is South Asia’s sickest economy and will remain that way unless the policymakers move decisively. They have taken some important decisions recently but I believe they were not the right ones. I will come to this discussion at the conclusion of the article.

There are several reasons for being so pessimistic. The first is the damage inflicted by the floods in the last few days. By the time this appears in print, the number of people killed by the floods will have probably exceeded 2,000 and the worst is perhaps still to come as flood waters flow down the rivers and into the more densely populated parts of the country. The areas already affected in the country’s northwest have suffered enormously.

This is the worst flood in this part of the country in the last 80 years. The areas that have been hit were already suffering because of the war against terrorism that brought the military into the Malakand division. The number of people displaced by that conflict exceeded two million. The same people are on the move again. Most of those who have hit the road have no houses to go back to, no jobs to which they can return, and nothing to look forward to in the future.

The military has moved back in once again, this time to provide relief and from the accounts I have seen in the western press that has journalists in the area it is doing a credible job. But a larger effort will be needed to bring life back to these areas and that will need both resources and organisation, neither of which is available at the provincial and central levels.

There will be further damage as water reaches the lower parts of the Punjab and both the upper and lower parts of Sindh. Unless action is taken immediately there will be further loss of life; destruction of agriculture, irrigation, and communication infrastructure; and further loss of confidence in the government’s ability and effectiveness in delivering basic goods and services to the people.

How much all of this will cost the economy in terms of rate of growth? At this point only rough guesses can be made but I would be surprised if the rate of growth of GDP is not reduced by one percentage point. This alone will bring down the rate of GDP increase to not much more than three per cent in 2010-11.

To this lowering of the estimate we should add some other negative developments. One of them is what The New York Times recently described as “aid fatigue” in the case of Pakistan. The mush hyped Friends of Democratic Pakistan has pledged large sums of money but delivered only a small fraction of the promised amounts. The pledges were factored into growth projections by the government. Only the United States has moved some distance in implementing its aid programme.

During the recent visit of Secretary of State Hillary Clinton, projects were identified that will require $500 million of external assistance. This will be provided by the United States. During President Asif Ali Zardari’s most recent visit to Beijing – his fifth since taking office – the Chinese also promised assistance for a number of projects in the communication and energy sectors.

Development of both sectors is vital for the Pakistani economy and will lay the basis for future growth. Project assistance will also come from Japan and the multilateral development banks. However, the recent standoff with Britain on the issue of the unfortunate comments made by that country’s new prime minister, we can expect a slowing down in the large aid effort that was made in the past by DFID, the UK aid agency.

However, all these – and several other moves – will materialise over the medium and long-term. But Pakistan’s needs are immediate and here the country’s prospects don’t look very good. The multilaterals are not happy with Pakistan’s policy performance. The IMF will want more to be done on the fiscal mobilisation front before it gets ready to lend again from its augmented resources.

Dr Hafiz Sheikh, the new finance minister, will argue the country’s case in late August during a visit to Washington. But the Fund will be looking for some concrete achievements in terms of the tax mobilisation effort. There, as is well known, he has run into political difficulties including the resistance by the two largest provinces, Sindh and the Punjab.

The fast moving developments in Afghanistan and the rapid loss of interest on the part of the United States in committing itself to a long stay in that country will have major economic and security consequences for Pakistan. The release of tens of thousands documents by WikiLeaks has further sullied Pakistan reputation in the West and cast a deep shadow on the country’s relations with the UK.

Rapid withdrawal by the United States from Afghanistan – an outcome that is now very much on the cards – will seriously affect Pakistan’s situation. It will certainly reduce the willingness of western companies to invest in the country. Even the Pakistanis residing abroad are becoming cautious; they will be less eager to invest in the homeland, waiting for the investment climate to improve.

It is the investment climate improvement that is by far the most important task before the government and it is here that a great deal of effort needs to be put in. This is where I have some doubts about the wisdom shown by the State Bank of Pakistan in tightening money supply by raising its rate by 50 basis points.

The central bank is rightly concerned about rising inflation but, as John Maynard Keynes emphasised decades ago, an economic slowdown is not the time when monetary authorities should try to control aggregate demand by making money more expensive.

There is a raging debate on this issue in the world with the Keynesians calling for additional stimulation of the economy and postponing for a while the exit from easy money policies that have marked the policy response by most governments across the globe. The conservatives, on the other hand, are asking for greater attention to be given to the need for reducing the burden of debt.

The monetary authorities in Pakistan have opted for the conservative course. China and India have also begun to tighten money supply in their countries but the situation there is very different from the one prevailing in Pakistan. Both the Chinese and the Indian economies are moving forward at a rapid clip; in Pakistan the economy is still very sluggish. This is certainly not the time to tighten the supply of money.

__________________
No signature...

Change in Afghan focus

By Shahid Javed Burki
Tuesday, 10 Aug, 2010

AS Washington edges towards the tipping point — the start of the pull-out of American troops from Afghanistan in July 2011 — the debate in the US has perked up on a number of issues.

The issue became intense after a little-known organisation called WikiLeaks.com presented the world with tens of thousands of documents providing details about various aspects of the Afghan war.

From Pakistan’s perspective, the most damaging information was the claim on the part of several people who had written the dispatches included in the leaks that the country was playing a double game. While supporting America’s fight against the Taliban, it was said to be in deep conversation with sections of the insurgents about tactics and strategy.

In the light of this development a number of questions are being asked. Several of these are worth discussing in order to understand what lies ahead for Pakistan. Is the current American war effort in Afghanistan now Barack Obama’s or is it a continuation of what his predecessor, George W. Bush, started right after 9/11? It was suggested by Michael Steele, chairman of the Republican National Committee, that what is now going on in Afghanistan is Obama’s war, very different from what Bush began almost nine years ago. How is Obama’s effort different from that of Bush’s?

The new president is clearly more interested in nation-building in Afghanistan than his predecessor. This includes strengthening the government in Kabul, creating credible military and police forces that can be deployed, and putting in place development programmes aimed at improving the lives of people. Is America winning or losing the war? Michael Steele suggested that the going was not good for the US and there was no sign that after the expenditure of so much treasure and spilling of so much blood, America had gained anything in Afghanistan. Steele was roundly criticised for making these assertions, most notably by his Republican colleagues.

In view of this debate and the uncertainty it has created about America’s purpose in Afghanistan, in which direction is President Obama likely to go? And which of the several ways he could choose would suit Pakistan’s strategic purpose? Let us take the first question first. Obama has ordered another review of his options to be completed by December 2010. This will be the third review. The first was undertaken soon after Obama took office and led to a change in command of the American troops — Gen Stanley McChrystal was brought in to replace a less activist and more cautious commander — and the deployment of another 17,000 troops, augmenting the 30,000 that were already in place. The reading at that time was that the Taliban were gaining ground and the momentum they were building up needed to be broken.

The second, the more intensive review, was carried out in the three-month period from September to November 2009. It resulted in Obama telling the world that he was sending another 30,000 American troops to Afghanistan. He was requesting Nato countries to dispatch 10,000 soldiers which would bring the total of US-allied troops to 100,000. On both occasions it was clear that the young president had come under the pressure of the senior army commanders. This increase in the presence of foreign troops was to achieve two results. It would check the advance the Taliban continued to make. It would also ensure that Al Qaeda would not find a haven in Afghanistan, moving in from Pakistan where it had allegedly sought refuge after the 9/11 attacks.

Obama would have wanted to wait until the end of 2010 before deciding the further course of action. He was, however, presented with a situation he could not have foreseen: grave indiscretion on the part Gen McChrystal in which he showed a total lack of confidence in his civilian bosses. The moment Rolling Stone published an article based on several interviews with the general and his colleagues, it was clear that he could not keep his job. It is generally recognised that Obama played his hand well by immediately firing the general and appointing the highly acclaimed Gen David Petraeus in his place. These moves led to the start of the debate on America’s strategy in Afghanistan.

It is believed that before taking the job Petraeus must have received the go-ahead to pursue what has come to be called the counter-insurgency strategy he had authored in a widely read document and then applied it to Iraq. It appears to have succeeded in that country. COIN, as the strategy is often referred to, has two aspects. It uses military force to free a particular area of insurgents and then brings in good governance to provide the citizenry the goods and services it needs. This strategy was put to test in the town of Marjah in the troubled province of Helmand. The military was successful in quickly clearing the area of insurgents but the government failed to move in with a credible programme to provide what the people wanted. The man appointed to govern the city had a chequered history and had served time in a prison in Germany. He and his associates could not possibly win the confidence of the people. The Taliban came back.

It was the experience in Marjah that led Gen McChrystal to postpone the promised operation in Kandahar, a much larger city, where COIN was to be put to a real test. McChrystal’s dismissal and his replacement by Petraeus changed the entire American approach. It was in this environment of uncertainty that WikiLeaks provided the world with a detailed account of the war in Afghanistan.

From Pakistan’s view a quick pull-out by America would create a series of problems with which the country cannot cope. It would strengthen the Taliban and make it possible for them to begin to influence developments in Pakistan’s border areas. From there they will begin to reach out to other areas in Pakistan.

__________________
No signature...

Focus on inequalities

By Shahid Javed Burki
Tuesday, 17 Aug, 2010

IT is only recently that economists have begun to concern themselves with inequality. For decades development economists devoted their energies to understanding how economies grow.

Later in the early 1970s poverty became a concern and many academics working in the field of development began to appreciate that something more than growth was needed to better the lives of the citizens who were poor. This led to the concern with the ‘bottom 40 per cent’ of the population.

Several analysts concluded that the state had to intervene directly to lift this segment of the population out of poverty. But the phenomenon of inequality remained understudied and, therefore, did not become the subject of state action.

For several years before economists became interested in the subject, political scientists had come to the conclusion that inequality matters and that it can influence the way various segments of society behave towards one another and their rulers.

In a celebrated work published more than four decades ago, Harvard University’s Samuel P. Huntington studied the impact of economic growth on political development. Although he came to be better known for his later work on the clash of civilisations, the work on political backwardness in societies going through rapid economic change was much more profound.

Huntington’s work received support from Albert O. Hirschman, another Harvard professor, who in his book Exit, Voice and Loyalty speculated on how people behave when they become very unhappy with their environment. If the attachment with the rulers is very strong, they remain loyal; if there are institutions that can help register discontent, they give voice to their grievances; if there are no such institutions as is the case in weak political systems, they may exit and find some other way of expressing their unhappiness.

Huntington knew Pakistan well and had studied the changes the country went through during the period President Ayub Khan was in power. According to him in countries with similar experiences, policymakers had to worry about what he called “relative deprivation”. This will not show up in measures economists normally use to analyse inequality but is important in terms of the impact on political development of rapid economic change.

Even if incomes had increased for all segments of the population, if they had risen at very different rates for some segments, the impact on politics could be severe. Although, Huntington’s work was published before Ayub Khan’s government was brought down by political agitation, what happened in Pakistan in 1968-69 in a way followed what he had anticipated in his seminal work.

For obvious reasons, democracies are more affected by people’s perception about various forms of inequality. India offers an interesting case study of a country where policymakers did not fully understand how people’s perception of their relative economic situation can affect politics. In 2004, the government led by the Bharatiya Janata Party (BJP) was confident that the excellent overall performance of the economy would help it to win another term. The election of that year was fought on the basis of a slogan — ‘shining India’ — that celebrated the high rates of growth of the Indian economy.

However, the BJP and its allies did not realise that several segments of the population were very unhappy that the benefits of rapid economic growth had not trickled down to them. This was especially the case with the millions who lived in the vast Indian countryside. They voted against the government and voted the Congress party back to power in New Delhi.

With Manmohan Singh as the prime minister, the new government went to work to deliver some benefits of growth to the country’s poor. An employment guarantee scheme was launched that ensured that if the economy failed to create enough jobs that could accommodate all those who were unemployed the state would step in and provide at least 100 days a year of temporary employment. This was an expensive programme but it delivered political results.

When the country went back to polls in 2009, it re-elected the Singh government. This was an unusual development in the sense that there was a history in India of voting out the incumbents. Not prepared to take chances, the Singh government forgave the loans small farmers had taken from various state-owned financial institutions. This was another way of keeping the poor in the countryside on the side of the government.

Something similar happened in Pakistan in the elections of 2008 when the political party that had supported Gen Musharraf did poorly compared to the parties that had opposed the military-led government. During four out of the almost nine years that Musharraf was in power the economy grew at a high rate but the bulk of the rewards went to a small segment of the population. Although firm estimates are not available there was a significant increase in inequality. As Huntington and Hirschman had predicted, the rulers paid a heavy political price for their indifference towards the political consequences of economic inequality.

The PPP-led government has been more mindful of having the poor benefit from the small amount of growth that has taken place since it took office in Islamabad a couple of years ago. The Benazir Income Support Programme has grown in size and is reported to be working well. However, there have been a number of missteps in handling the current crisis with almost 14 million people in the poorer parts of the country suffering enormously as a result of the unprecedented floods. It did not help the government’s image that the head of state chose to leave the country while millions of people were already affected.

Unless the government organises a credible relief and reconstruction effort it will pay a price at the next polls. What makes the problem even more acute for Pakistan is that the available alternative is in the form of extremists’ politics. Already some of the organisations associated with militant groups have shown greater agility in responding to the growing crisis than any of the parties that are in the various government coalitions.

__________________
Be shak, Main tery liye he jeeta hoon or tery liye he marta hoon.....!(Baba Fareed)
____________Punjab Police Zindabaad____________