Political Instability and Commodity Prices

I've been pondering this from Yglesias for a few hours:

Think of a world in which there are two kinds of growth. One is leap-ahead growth in which technologically advanced societies dream up even more advanced technology. The other is catch-up growth in which technologically backwards societies learn to use the advanced technology that already exists in the advanced countries. In the twentieth century we saw some instances of catch-up growth, but leap-ahead growth accounted for the majority of global growth in output. One result of that is that we got much much better at extracting natural resources (energy, food, metal) from the fixed supply of land, and commodity prices generally went down. But over the past ten years, catch-up growth in India, Brazil, and (especially) China has been the majority of world growth. Consequently, the rate of stuff-utilization is going up higher than the rate of stuff-production, meaning we’ll see rising commodity prices rather than falling ones.

For rich countries, that’s inconvenient but we’ll deal. For China, it’s fine—the whole point is that incomes will be rising faster than prices. But for poor countries that aren’t growing rapidly, it’s potentially a disaster. This kind of trend is what’s driving the current instability in North Africa and will probably be a major story for years to come.

My first thought was "This sounds plausible" and then "But why just North Africa?". A quick glance around the region gives me pause. Yemen is growing at over 5%, yet there is instability. Tunisia has had solid growth for years, and has a GDP/capita of nearly $10,000, among the highest in the region. Egypt has had high growth rates (5-7%) as well. Lebanon has been growing from 7-9% per year, and has a GDP/capita of over $16,000. Obviously there has been instability in all of those places lately. But also in Iran, which has had anemic growth. Sudan has obviously had lots of conflict, but has it always corresponded with rising commodity prices? The current peace has occurred at a time when energy prices have been relatively high. I'm less familiar with the rest of North Africa, but I don't see an obvious pattern here.

This new research (ungated pdf here) seems to support Yglesias' position:

We examine the effects that variations in the international food prices have on democracy and intra-state conflict using panel data for over 120 countries during the period 1970-2007. Our main finding is that in Low Income Countries increases in the international food prices lead to a significant deterioration of democratic institutions and a significant increase in the incidence of anti-government demonstrations, riots, and civil conflict. In the High Income Countries variations in the international food prices have no significant effects on democratic institutions and measures of intra-state conflict. Our empirical results point to a significant externality of variations in international food prices on Low Income Countries' social and political stability.

But Paul Collier's research suggests that conflict is more likely when commodity prices fall. (More precisely, when prices are volatile.) Many low-income countries are commodity-exporters, so their incomes go up when global commodity prices rise. Does this imply that if commodity prices rise conflict is less likely? Does it depend on which commodity? Does it depend on how the income gains are distributed? Surely there is some research on these, but I'm not familiar enough with the civil war/development literature to reach any firm conclusions. The Blattman/Miguel survey of the civil war econ literature indicates that poverty and slow growth is the most consistent factor, not necessarily commodity prices.

My provisional takeaway is that it will depend on which commodity prices are rising and which countries are producing those goods. Prices of different commodities do not necessarily covary (or has that changed?), so the effects will not necessarily be homogenous across countries.

Arms Sales and Why Economic Decisions are Political

A report regarded as the most detailed evaluation of unclassified global arms transactions data released over the weekend by the Congressional Research Service found that the "Great Recession" has dramatically affected state-to-state arms transactions, with arms sales dropping to $57.5 billion in 2009, a drop of roughly 8.5% from 2008. (It looks like the actual report hasn't yet been released to the public, only to members of Congress, but here is an analysis of US arms sales from the CRS released last December and last September's CRS analysis of conventional arms sales to the developing world).

The United States remained well ahead of all other states with arms sales totaling $22.6 billion which comes out to about a 39% market share, but down from total sales of $38.1 billion in 2008. The report tells us that the largest arms selling states are the most powerful states, as is expected, with Russia, France, UK, Germany, Italy and China trailing the United States. The largest purchasers are middle income countries, with Brazil, Venezuela and Saudi Arabia as the three largest consumers, and Taiwan, the UAE, Iraq, Egypt, Vietnam, India and Kuwait following closely behind.

What effect do these arms sales have on the international arms market? Well, those countries that are purchasing new equipment surely aren't going to destroy their "dated" equipment but rather are going to transfer this old equipment legally or illegally down the income chain to less developed states. In one way, this is a good thing. These poorer countries are able to increase their capacity for self-defense and internal policing and these arms should help consolidate their monopoly on the use of force within their borders at a cheaper price than they otherwise would pay in a market where middle income countries weren't selling their old equipment. The int'l arms market expands, and prices on second-hand arms should decrease. These lower prices should allow states to allocate the savings from arms sales to providing services to their domestic populations.

But, what about the rest of the money that states use to purchase weapons and arms? Is this a productive use of state resources? What effect do these arms transactions have on economic growth, violence and development in these countries? Military/arms purchases tend to be non-productive in terms of direct effects on growth and development; they don't tend to add points to GDP. These purchases could be indirectly growth improving if they increase a state's capacity to ensure peace and stability, thus having a positive effect on investment and production for a variety of reasons (investors face less uncertainty, production and consumption aren't affected by armed conflict, etc.).

Many people argue that these funds should be invested in more efficient and productive sectors such as education, health, and infrastructure instead of on arms purchases and that they don't understand why countries waste money on arms. They argue that developing countries need to maximize growth and help their struggling and poor citizens. So the question is why aren't funds being allocated to their most efficient use? Shouldn't the market reward efficient and productive asset allocation? Why are states leaving percentage points of economic growth on the table and instead investing in arms purchases? Politics.

If there is one thing that this blog tries to make clear it's that politics matters, that politics affects decision-making and that you can't analyze economic transactions unless you bring the politics in. Politicians use arms sales to buy the support of their militaries by providing them with new equipment in order to ensure loyalty. Voters tend not to like it when they perceive their militaries to be ill-equipped, underfunded and not ready to defend their borders or counter an invading force, thus incentivizing politicians to spend on arms. Politicians and states use military spending as a signal to opposing states regarding their military intentions, capabilities and power. Politicians use arms to combat domestic insurgencies, uprisings and other domestic civil unrest. Politicians use arms sales to establish ties with powerful arms-selling states (who also have the world's largest domestic markets and influence in international financial organizations and other IGOs), and they hope that individual arms sales will be coupled with other aid, military ties or inducements in the future. These are all politically-based reasons for why states spend money on arms. Asset allocation in domestic economies is a political act, and that's why we don't always (rarely?) see efficient outcomes.

A Test of "Soccer Violence"

Danny Mwanga was the first overall pick in the recent MLS soccer draft. He is also the son of Belmand Mwanga, an adviser to Joseph-Desire Mobutu, the former dictator of Zaire the Democratic Republic of Congo. When Mobutu was overthrown, Mwanga senior went missing and is presumably dead. The effect on Danny was surely profound:

"I miss him. I wish he were here today," Mwanga said in French. Although his English is excellent, Mwanga still jumps at any chance to speak his mother tongue. Those who doubt that Mwanga is 18 -- and some do -- have but to look at his boyish looks and his pronounced cheekbones, which punctuate a face he hasn't quite grown into yet. He's coy and soft-spoken. If you want to be able to hear what Mwanga has to say, you need to sidle up to him. Whenever his father is mentioned, he lowers his gaze to the ground and turns the volume down even further. "I don't like to talk about it," he said.

After his father's disappearance in 1998, Mwanga's mother fled to America. They hadn't seen each other in five years when Danny, whose given name is Jean-Marie Daniel, was awarded refugee status and followed.

Why is this interesting (other than on a human level)? Because if this study [pdf] is to be believed, Mwanga will soon be one of the most violent soccer players in MLS. It will be interesting to see if that's what happens, or if the effect of "cultures of violence" is not present in MLS.

(edited for clarity in language)

Big Win for Russia? Nyet.

(red line: U.S. stock index S&P 500; blue line: Russian stock index RTSI)

The Russia/Georgia conflict has gotten a lot of attention from IR scholars and public commentators. Some have noted that Friedman's "Golden Arches Theory of Conflict Prevention" has now been definitively disproved, others have questioned whether or not "democratic peace" theories should also be cast aside. Still others see a return to the Cold War on the horizon, and think that the redux may be a bit hotter than the original.

But not very many people are talking about the economic consequences of the conflict for Russia and Georgia. They are... not good. The Financial Times has been doing a lot of good reporting on the Russian side, and things are not going well:

An exodus of foreign capital is forcing Russian banks to slash lending as the international reaction to the country’s military standoff with Georgia starts to affect the real economy.

Bankers say Russia is facing its worst crisis since the August 1998 default. The Russian stock market has plummeted more than 40 per cent since May. A flight of capital estimated by analysts at up to $20bn (€14bn, £11bn) since the start of the conflict is drying up liquidity. The Russian Trading System index fell another 7.5 per cent on Tuesday to its lowest level since June 2006.

The rouble fell to its lowest point since the Russian financial crisis of 1998. Putin and Medvedev are in a public squabble over whether this trouble is related to the Russia-Georgia conflict, but I know of no neutral observer which doesn't think that some, not all, of the recent financial and economic trouble in Russia can be blamed on a lack of investor confidence caused in part by the Caucasian Conflict.

What's striking is that this is going on while the price of oil is still fairly high and while there are major concerns about the safety of U.S. bonds and securities. Russia, along with other commodity-rich countries, should be benefitting from the U.S.'s troubles. Indeed, some of them are, but Russia isn't. Georgia isn't doing very well, either.

What does it all mean? Daniel Drezner thinks that a more globalized world makes war more costly, and therefore less likely. Russia and Georgia both acted belligerently, and both are paying a big price, despite the fact that there have been no economic sanctions placed on either. It is true that wars are more costly if the opportunity costs (i.e. lost trade and investment) are greater, but is that enough to prevent wars that might otherwise occur? A wiser man that I will have to answer that question.