The State of Banking

The Banker has released its annual report of the world's top 1000 banks. Despite the fact that profits collapsed over 85% from 2007 to 2008, the ranks are mostly unchanged from previous years. The Tier 1 capital rankings have also changed little as banks have raised massive amounts of public and private capital to off-set capital losses from the crisis, and aggregate Tier 1 holdings by the top 1000 actually increased in 2008. Perhaps more surprisingly, when government injections of capital are subtracted the rank order still changes very little, indicating that many of the top banks were not actually insolvent in the worst days of the credit crisis, but rather illiquid (this was Robert Rubin's argument back in September). Government-provided liquidity gave banks a window to raise more capital, unwind some of their positions, and make it through the crisis relatively unscathed. Now that the worst is (hopefully) past, banks are paying back the TARP money as fast as the government allows them.

This massive worldwide effort to raise capital has been largely successful: in aggregate, new capital has almost exactly off-set writedowns and losses for the year. In Europe and Asia, new capital is actually greater than the total losses. This is not to say that there haven't been significant losses; there have been, and they've been disproportionately concentrated in the U.S. and U.K. But the public and private efforts to recapitalize the international banking system appear to have been largely successful.

IR Theory and Rap Music

(Great song, but some explicit lyrics, so NSFW. You've been warned.)

Marc Lynch watches the beef between Jay-Z and The Game and ponders the lessons from IR theory:

See, Jay-Z (Shawn Carter) is the closest thing to a hegemon which the rap world has known for a long time. He's #1 on the Forbes list of the top earning rappers. He has an unimpeachable reputation, both artistic and commercial, and has produced some of the all-time best (and best-selling) hip hop albums including standouts Reasonable Doubt, The Blueprint and the Black Album. He spent several successful years as the CEO of Def Jam Records before buying out his contract a few months ago to release his new album on his own label. And he's got Beyonce. Nobody, but nobody, in the hip hop world has his combination of hard power and soft power. If there be hegemony, then this is it. Heck, when he tried to retire after the Black Album, he found himself dragged back into the game (shades of America's inward turn during the Clinton years?).

But the limits on his ability to use this power recalls the debates about U.S. primacy. Should he use this power to its fullest extent, as neo-conservatives would advise, imposing his will to reshape the world, forcing others to adapt to his values and leadership? Or should he fear a backlash against the unilateral use of power, as realists such as my colleague Steve Walt or liberals such as John Ikenberry would warn, and instead exercise self-restraint?

Rappers have never shied from IR themes. In fact, Tupac Shakur studied Niccolo Machiavelli while in prison and took the nom de plume "Makaveli" as tribute. The concept of anarchy is central to both IR theory and the rap world, as is the realist doctrine of "might makes right" (or, as Thucydides said, "The strong do what they can, the weak suffer what they must").

The recent history of rap follows some IR themes as well. In the 1990s, the West Coast rappers balanced against the East Coast rappers, touching off the feuds that led to the murders of Tupac Shakur and Biggie Smalls. Following these deaths the rap community sought to put a permanent end to large-scale violence, instead seeking economic arrangements from which they could mutually benefit. This L.A./N.Y. Consensus made rap into a very big business, and in the past decade the scene mostly repudiated violent turf wars in favor of embracing commerce.

While this new cooperation has certainly been Pareto-improving, there have been some distributional concerns that have led to minor squabbles (like the present one between The Game and Jay-Z). But even these have often led to new cooperations; see, e.g., Jay-Z's past feud with Nas that led to multiple collaborations (one example is the song posted above). While there has been some shifting of standing in the new system, the locus of power has remained with the Def Jam/Rocafella coalition, which has provided stability and security to the system.

The new era of cooperation has led some to worry about the homogenization of rap culture as the reach of the L.A./N.Y Consensus spread. In reality the opposite has been true. The growth of rap culture and commerce has created new space for regional and international movements to thrive, from the ATL scene and reggaeton to the Bay-area Anticon collective and favela blasts. Rap now comes in every language and flavor.

In other words, there's more to the IR/rap nexus than just the recent spat between Jay-Z and The Game. These roots run deep.

Now that I think about it, this sounds like a good topic for a dissertation.

FDI, Regulation, and Shifting Power Centers: China and Rio Tinto

On July 5th, without warning or explanation, Chinese officials arrested four Rio Tinto employees, one of them an executive and Australian citizen.  Later, China's state run media reported the arrests were connected with allegations that Rio Tinto obtained confidential documents revealing China's bargaining strategy for negotiating iron ore prices with the multinational mining firm.  Australian officials are particularly concerned since the detainees were given no access to outside communication and Chinese officials did not divulge any information about their whereabouts or the charges they face to Rio Tinto or the Australian government.

The ensuing diplomatic breakdown between China and Australia illustrates two points about the nature of foreign direct investment (FDI) today.

1) Power asymmetries are shifting.  

Most academic work on FDI treats developed (read OECD) countries as price makers and developing countries as price takers.  In other words, highly developed countries act on behalf of their multinationals by securing legal protection for multinationals' FDI in other countries.  This is mainly done through the use of Bilateral Investment Treaties (BITs).  The literature treats developing countries (China included) as grateful for whatever FDI they can get, and therefore willing to submit to OECD standards of legal protection for businesses.  

The problem with this view is that FDI sourcing patterns are shifting.  As the Chinese economy can support regional trade and FDI growth as well as export FDI to Africa and elsewhere, China doesn't need to cower to western demands for business protection.  Indeed, China never really has.  

Bottom line: predictions of convergence towards one standard of FDI legal protections depends upon the preferred regulatory level of key players.  China's rise underscores the possibility of multiple and competing regulatory regimes.

2)  The link between home country and multinational must be tested:

The focus on regulatory regimes like BITs assumes that home countries act as agents for their multinationals and that home countries discriminate against multinationals based on the multinational's home countries.  Talk that the recent events in China will lead to a backlash against Chinese multinationals looking to directly invest abroad depends upon the idea that countries will retaliate against Chinese-owned firms as well as the Chinese government.  And, the Chinese experience is an easy test of this link because many Chinese firms are in part owned by the Chinese government.  It is not entirely clear that this link holds more generally or consistently.

How Not to Conduct Diplomacy

Via Ackerman, I see that the foreign minister of the new Honduran government has some opinions of President Obama:

"I have negotiated with queers, prostitutes, leftists, blacks, whites. This is my job, I studied for it. I am not racially prejudiced. I like the little black sugar plantation worker who is president of the United States."

Well, there went that coup. Zelaya will be back in power within a month.

The Pope on Development

[Ed.: This is a guest post by Christopher R. Dittmeier, a fellow graduate student at UNC]

Two weeks ago, Pope Benedict XVI released his latest encyclical, Caritas in Veritate (Charity in Truth), his first high-level document on social doctrine since becoming Pontiff in 2005. The theme of this encyclical is development, particularly "integral human development." While the bulk of Caritas in Veritate had been completed by 2007 (the 40th anniversary of Paul VI's treatise Populorum Progressio, which focused social doctrine away from European industrialization and toward global development issues), Pope Benedict revised it to take into account the current economic crisis. Here are a few key points from the encyclical that have bearing on IPE:

- Inequality is a systemic risk. "Through the systemic increase of social inequality, both within a single country and between the populations of different countries (i.e. the massive increase in relative poverty), not only does social cohesion suffer, thereby placing democracy at risk, but so too does the economy, through the progressive erosion of `social capital': the network of relationships of trust, dependability, and respect for rules, all of which are indispensable for any form of civil coexistence." Development, if it contributes honestly to the betterment of a state's poor, is connected to democratization, pacification, and global integration.

- Given global interdependence, getting out of the economic crisis will require not only restructuring of the market in terms of regulation, but also a rethinking of the nature of the state. "Today, as we take to heart the lessons of the current economic crisis, which sees the State's public authorities directly involved in correcting errors and malfunctions, it seems more realistic to re-evaluate their role and their powers, which need to be prudently reviewed and remodelled so as to enable them, perhaps through new forms of engagement, to address the challenges of today's world." Several important issues, including social security, labor mobility, and migration, are no longer national issues, but require transnational attention. Benedict appears to support a more vibrant interpretation of the theory of responsibility to protect, to include endowing states positive (and not only negative) humanitarian responsibilities.

- International organizations are key to the international stability and development, but current institutional arrangements lack effective agency and have strayed from their intended purpose in practice. "In the face of the unrelenting growth of global interdependence, there is a strongly felt need, even in the midst of a global recession, for a reform of the United Nations Organization, and likewise of economic institutions and international finance, so that the concept of the family of nations can acquire real teeth." The Church has for most of the twentieth century been a proponent of subsidiarity (now most well-known as the operating principle of the European Union's organization), so the proposal of investing both authority and power to supranational entities indicates skepticism of both state-centered and market-centered methods of development. The encyclical points to the role of civil society at local, national, and international levels as the primary innovators of development.

- There is no one right methodology of development. "Technologically advanced societies must not confuse their own technological development with a presumed cultural superiority, but must rather rediscover within themselves the oft-forgotten virtues which made it possible for them to flourish throughout their history." This attack on the Washington Consensus is part of Benedict's larger opposition to the ideology of technology. He specifically attacks the effects of austerity measures on social security, noting that in committing to foreign lenders, governments in developing countries often sell their own people short, weakening the long-term sustainability of their development.

- The Pope gave official blessing to microfinance. "`Ethical financing' is being developed, especially through micro-credit and, more generally, micro-finance. These processes are praiseworthy and deserve much support." Traditional banking has tended to shy away from ground-up development projects in favor of larger (and supposedly more sound) top-down projects, which are nonetheless more prone to corruption and the creation of dependency. Microfinance, on the other hand, establishes firm links between capital in developed countries and entrepreneurship in developing countries, allowing for internal capacity-building, institutionalization, and sustainable economic development.

While a Papal encyclical is unlikely to make waves in the IPE community (at least outside of Italy), the Church's position--one that transcends normal academic and partisan schools of thought--provides a fresh perspective on development theory that can prompt greater discussion on how to approach economic and political development in the 21st century.

[Ed.: For more on the encyclical, see Tyler Cowen in the WSJ. The text of the encyclical itself is here.]

Some Things Get Better, Some Things Get Worse

Some interesting data came out recently. First, the U.S. trade deficit is declining, mostly because imports have declined faster than exports, but also because exports have fallen at a lower pace than many expected. This is a partial win. Still, unemployment continues to rise and wages earned have continued to decline, once again giving reason to guard against deflation.

Despite that, it looks likely that the economy may be technically out of the recession:

Now that we have the May trade figures, the modal forecast is (i) an economy that was flat in the second quarter relative to the first quarter, (ii) an economy that starts to grow relatively slowly in the third quarter, and (iii) an unemployment rate that keeps rising for another one and a half to two years--like it did in 1992 and 2002--as the old-fashioned business-cycle productivity-employment pattern is broken once again. Bob Hall's NBER committee is likely to proclaim that recovery began sometime in the second quarter, but it won't feel like a recovery to workers (as opposed to asset owners) for quite some time to come.

How is this happening? It's partially because employers are laying off their least productive workers first, and hoarding the top talent. Therefore, measured productivity has jumped:

With labor input falling at a rate of 6% per year in the second quarter, that suggests a productivity growth rate in the economy as a whole of some 6.2%--which is really weird. It used to be the case that businesses hoarded labor in recessions because they did not want their skilled workers to wander off and to have to train new ones....

Now it is really beginning to look as though businesses take recessions as opportunities to greatly slim down their workforces without making the workers they retain too angry and depressed. We saw this in 2002-2003. We saw it before in 1992-1993. The fact that productivity is no longer strongly countercyclical in recessions is good news in the long run--it means that our average long-run rate of productivity growth is higher than we used to think.

So we now face a "jobless recovery" in which the economy technically moves into the black, but job growth lags for a year or two. In exchange we get higher productivity in downturns which can help keep recessions somewhat short. This is a mixed blessing at best, but the outlook is certainly better than it was in January.

In other news, Krugman thinks that all economists that disagree with him are motivated solely by ideology. I guess if you are convinced of your own infallibility then that is the only possible conclusion.

Obama's Summer Vacation

There is no doubt that Obama is media-savvy, so when he chooses a somewhat curious venue for a major speech, it is worth examining why. His speech at the New Economic School in Moscow on Tuesday is no different. A professor at that university speculates about Obama's reasons for choosing NES over more high-profile sites:

First, it is important that NES is a new institution, founded in 1992. Similar to the way Obama represented a new political paradigm for Americans who voted for him, NES also represents a new paradigm for the modern study of economics.

Second, Obama is the first U.S. president in many years to have built his political career not by dividing voters into separate ideological camps, but by searching for pragmatic and nonpartisan solutions. After 70 years of ideological domination by the state, the NES is continuing the traditions begun by such great Russian economists as Yevgeny Slutsky, Nikolai Kondratyev and Nobel Prize winner Leonid Kantorovich, whose work rose above ideological or national boundaries, as it should be in any scientific field.

More at the link, but maybe a more simple explanation is that Obama wasn't invited to a more prominent stage. After all, Obama has not shied away from grandiose settings for past speeches, and the Russians didn't seem interested in attracting a wide domestic audience for Obama.

Via Joshua Tucker at The Monkey Cage, who has more reactions to and context for Obama's trip to Russia.

Link Dump

-- Reconsidering Asia's inevitable takeover of the world.

-- IMF says things are getting better, but are still very, very bad.

-- Capital adequacy requirements under Islamic banking law [pdf].

-- Anil Kashyap's research page.

-- A Boston Review forum on Paul Collier's newest book -- Wars, Guns, and Votes -- featuring Krasner, Easterly, Birdsall, Diamond, McGovern, Miguel, and Collier himself. The debate spills over onto Easterly's turf.

-- Asking the dumb questions about financial reform:

No G-8 Climate Change Deal

They couldn't even reiterate what they decided last year, when Bush was negotiating for the U.S. and the Waxman-Markey had not yet been thought of: to cut emissions by 50% by 2050. Why? Because the entire developing world opposed the plan:

The failure to establish specific targets on climate change underscored the difficulty in bridging longstanding divisions between the most developed countries like the United States and developing nations like China and India. In the end, people close to the talks said, the emerging powers refused to agree to the specific emissions limits because they wanted industrial countries to commit to midterm goals in 2020, and to follow through on promises of financial and technological help.

“They’re saying, ‘We just don’t trust you guys,’ ” said Alden Meyer of the Union of Concerned Scientists, an advocacy group based in the United States.

Why don't they trust us? Hmm:

China, India and the other developing nations are upset that commitments to provide financial and technological help made during a United Nations conference in Bali, Indonesia, in 2007 have not translated into anything more tangible in the interim.

Mr. Meyer estimated that the United States, Europe and other industrial nations need to come up with $150 billion a year in assistance by 2020 to help develop clean-energy technology for developing countries, reduce deforestation that contributes to rising temperatures and help vulnerable nations adapt to changes attributed to greenhouse gases.

In other words, the developing world is saying "show us the money".

I thought Waxman-Markey was supposed to make it easier to get international cooperation. Instead, the richest countries in the world can't even re-commit to the plan that President Bush signed on to last year, which had no direct requirements but rather a vague target 40+ years in the future. Imagine what actual negotiations would be like.

The Data Do NOT Show the Paradox of Thrift

I'm seriously beginning to think that Krugman doesn't care about making sense any more. Instead, he'd rather use vaguely economic-sounding arguments and cherry-picked statistics to support his normative priors, and then scream "Treasury View! Treasury View!" whenever somebody questions him. Earlier this week, Krugman willfully misread a graph in order to argue in favor of a second stimulus. In today's example, Krugman misreads the graph below and says that it shows incontrovertible proof that the Paradox of Thrift is real, therefore Keynes was right, therefore Krugman is right, therefore we should have a second stimulus. Look at the graph:



What does it show? It shows that net national saving has gone down since the recession began. This is what an advocate of the paradox of thrift would predict. But why has it gone down? Because the government has spent a ton of money! Personal savings is way up, and corporate savings are only down a small amount (likely due to reduced investment caused by excess inventories and the credit crunch; this could reverse within the next few quarters) and not nearly enough to off-set the rise in personal savings. If you take the government out of the picture, then net national saving has gone up and the paradox of thrift is wrong.

Of course that's a huge "if". It's not clear what the personal savings rate would be if the government were not spending in deficit. But Krugman rejects the rational expectations story (Treasury View!) that individuals react to government deficits by saving for future tax increases. If that is true, then the reverse must be true as well: individuals should not react to fiscal neutrality by lowering savings. And if that is true, then the above graph actually shows that in the absence of government deficits net savings would still go up, so the paradox of thrift is wrong, Keynes is wrong, Krugman is wrong, and the case for a second stimulus is weakened*.

Krugman can't have it both ways: either people alter their behavior in response to government deficits or they don't. If they do, then the stimulative effects of deficit spending are at least partially off-set by reduced demand from individuals (Treasury View!). If they do not, then the paradox of thrift does not exist in the present situation.

Like the Laffer Curve, the paradox of thrift is definitionally true at some margin. But it is not clear that we are at that margin or even anywhere near it.

*Though not destroyed; personal consumption is still negative, so Krugman could still argue that stimulus is needed to boost aggregate demand. This demand-side argument is the crux of Keynesianism. But the supply-side argument doesn't support his case, and actually works against it since some of the demand-side effects will be negated by supply-side responses.