The 'Asian Model' Is No Alternative

So says William Easterly:

Suppose we have a group of drivers leave New York at the same time to drive to Washington, and we interview the first 5 drivers who arrive in Washington. We find that they drove Lamborghinis at 150 mph, weaving in and out of traffic down the New Jersey Turnpike and I-95, out-running Highway Patrol cars who tried to stop them. Are they models for success getting from New York to Washington?

No, because since we only studied the “successful” first 5 drivers to arrive, we didn’t know about the vast majority of Lamborghini “failures” – the drivers who got into fatal accidents or were caught by the Highway Patrol and jailed for insanely reckless driving. On average, this approach was a disaster. On average, soccer moms driving mini-vans outperformed the Lamborghini drivers, if we study BOTH successes and failures.

So Asian success either happened in spite of statist industrial policy, not because of it, or industrial policy was an incredibly risky strategy that usually fails but occasionally has big successes, possibly in East Asia.

Either view would help explain why a huge amount of effort spent imitating East Asian success stories has NOT successfully replicated that success anywhere else.

One general problem with social sciences is that the counterfactuals aren't always obvious: everything we study has selection bias, because we can only analyze events that have actually occurred; we look into an alternate universe to see how things would be different if we tweaked this input or that structural alignment. So it's one thing to look at the meteoric economic rise of countries like China in recent decades and conclude that state-run economies present a viable alternative model for market-run economies. But we can't know the counterfactual: China may have grown faster without so much government interference*.

At least that's what Easterly is saying. For another view, Blattman suggests this essay by Dani Rodrik [pdf].

*In any case, one must only look at the economic degradation during Mao's reign to see how much an economy can collapse if a government gets it wrong.

Revisiting Microfinance

Tim Harford has an excellent article on the subject in FT:

This seems mysterious. How can a loan at 200 per cent APR help people to stay out of poverty? One answer is that most people turned down for a 200 per cent APR loan would be able to get one at 300, 500 or over 1,000 per cent from an informal moneylender. More important is that these loans were not used to start businesses but to help people keep jobs that they already had. If a smart new blouse or a spare part for the family moped is what it takes to stay in work, then who is to say that an expensive loan isn't a wise investment?

There is also a discussion of the battle for the soul of microfinance, with commercial interests on one side and charitable interests on the other. Many of the results discussed in the article are similar to those found by Karol Boudreaux and Tyler Cowen earlier this year:

For better or worse, microborrowing often entails a kind of bait and switch. The borrower claims that the money is for a business, but uses it for other purposes. In effect, the cash allows a poor entrepreneur to maintain her business without having to sacrifice the life or education of her child. In that sense, the money is for the business, but most of all it is for the child. Such life saving uses for the funds are obviously desirable, but it is also a sad reality that many microcredit loans help borrowers to survive or tread water more than they help them get ahead. This sounds unglamorous and even disappointing, but the alternative— such as no doctor’s visit for a child or no school for a year— is much worse.

In other words, microfinance may be a force for good, but not in the ways popularly imagined.

Looks Like America's Got A Credibility Problem

The United States, the champion of the free market, "the beacon of unfettered, free market capitalism", has implemented a policy "that the most liberal Democratic administration would [have never implemented] in its wildest dreams," says Ron Chernow, a leading American financial historian in today's NY Times. Interesting observation. But even more interesting is the effect that this bailout policy may have on global perceptions of American free market capitalism and America's ability to dictate a global economic response to a future international financial crisis. 

I was in the process of putting together a post on the American paradox of nationalization and its effect on the global economy, when the NY Times stole the idea from my head and beat me to it by posting an article highlighting this effect on their website. I sat thinking earlier this evening about the financial policies that the United States has currently implemented in its financial market when facing a crisis, while at the same time prescribing to developing nations facing financial panic/crisis, a radically different approach. Essentially, the United States has instructed the developing world to deregulate, privatize their financial markets and not intervene during financial crises, even in the face of financial disaster. For example:

In parts of Asia, the bailouts [yesterday of AIG] stirred bitter memories of the different approach the United States and the International Monetary Fund adopted during the economic crises there a decade ago.

When the I.M.F. pledged $20 billion to help South Korea survive the Asian financial crisis of the late 1990s, one of the conditions it imposed was that the Korean government allow ailing banks and other companies to collapse rather than bail them out, recalled Yung Chul Park, a professor of economics at Korea University in Seoul, who was deeply involved in the negotiations with the I.M.F.

If the United States is not going to follow its own advice of not intervening in its own financial market to bail out failing domestic firms when staring down one of the biggest financial crises in its history, why should/would any other nation follow the non-intervention policy when a similar financial panic occurs in their economy?

Has the United States lost all credibility to prescribe strict free-market, non-interventionist solutions to financial panic around the world? Has it lost its ability to place conditions, including massive privatization and deregulation, on its development loans even though it seemingly nationalizes and regulates when it deems it necessary? It sure looks like it. 

Who Exactly are the Vultures?

To read on vulture funds, check out a recent piece in Foreign Policy. More on this topic in a later post. If you wish to read more, check out Felix Salmon's spirited defense of vulture funds.