"What is this Land Rover of which you speak?"

In his April 2009 article for Vanity Fair (no longer fully available), Michael Lewis told the story about how Iceland's banking system basically imploded during the financial crisis. One of my favourite stories from the article is the one he tells about the fate of the country's many Land Rovers.

Presumably because they are a great tool for hauling fish across the Icelandic tundra, Land Rovers were a popular item for the small island nation. They were even more popular as the result of the availability of cheap financing during the pre-crisis boom in credit. The problem was, this cheap financing was provided in foreign currency; the interest rate for euros, pounds and dollars was far lower than that for the domestic currency, the krona. This is all fine and good if your salary is paid in euros, pounds and dollars, but in fact most people in Iceland are paid in krona. 

When Iceland's economy went down the crapper, the value of the krona went with it. Since the value of their income had just plunged relative to the value of their debts, many civilized citizens of Iceland were forced to make one of two choices:

1. Attempt to pay back their car loans in salted cod
2. Do something crazy

Many chose the latter. There follows a brief representation of what I assume was a typical telephone call between an Icelandic bank and its client on the subject of overdue car payments in 2008:

"Icelandic Bank: Dear Mr. Ragnar Hjalrnarsson, the monthly payments on your Land Rover are 3 months overdue."


Mr. Hjalrnarsson: *panting furiously, having just run for cover*


"Iclelandic Bank: Mr. Hjalrnarsson?"


*KABOOOM*


"Mr. Hjalrnarsson: Land Rover? What is this Land Rover of which you speak?"

FIN

The fine folks in Iceland had resorted to blowing up their Land Rovers to avoid paying them back. Seriously. This is a country that, in 2008, still had a GDP-per-capita of over $52,000.

Why am I re-telling this story? Because the exploding Land Rover is a great metaphor for a currency mismatch: the situation wherein debts are denominated in a different currency than the income used to pay down those debts. Currency mismatches can exist not just for individuals, but for entire economies at the macro level. But since economies can't go around blowing up Land Rovers whenever it comes time to rollover their debts, the consequences can be quite severe. 

~~~~~~~~~~~~~~~~~~~~~

The most recent example of this phenomenon was in parts of Eastern Europe, particularly the Baltic states, way back in 2007-8. Countries like Latvia, Estonia, Hungary, etc... had a large number of loans outstanding to European banks (i.e. denominated in euros). Many of these debts were also short-term and needed to be rolled over right smack in the middle of the financial crisis (see a more detailed explanation in this old post). That proved problematic, to say the least. As a result, parts of Eastern and Southeastern Europe were among the hardest hit economies in an economic crisis that originated somewhere else.

The currency mismatch is not a problem specific to our most recent financial crisis, however; here is economist Morris Goldstein, speaking in 2007: 

".... [S]erious currency mismatch has been a feature of every major emerging-market currency crisis of the past dozen years. It was there in Mexico in 1994–95, in the Asian crisis countries in 1997–98, in Russia in 1998, in Brazil in 1998–99 and 2001–02, in Turkey in 2001–02, and in Argentina in 2001–02.... [C]urrency mismatch provides the best explanation we have for why large exchange rate depreciations in emerging economies have had such costly growth effects. When financial liabilities are mostly denominated in dollars or in other reserve currencies while assets and revenues are mainly denominated in local currency, then a large depreciation of the local currency will result in balance sheet problems that ultimately cause economic growth to nosedive."

Here is Brad DeLong:

"The decade of the 1990s was marked by the sudden emergence of international financial crises. In a typical such crisis, a sudden loss of confidence in the value of a country’s currency by international currency speculators was followed by a rapid rise in the value of foreign currency—in the exchange rate—the threat of large-scale bankruptcies of banks and firms, financial panic, and a sharp severe recession. These crises hit in the Mexican peso crisis of 1994-1995. Then followed the far-reaching East Asian crisis of 1997-1998. The decade ended with crises in Brazil, Turkey, and Argentina."

The currency mismatch is not merely a modern creature - oh no. In the period of unfettered capitalism that characterized the late 19th and early 20th centuries, "hot money" was flowing into what we would now call emerging markets: Southeast Asia and South America. There were quite a few financial blow-ups involving currency and maturity mismatches - the Barings crisis of 1890 being the most famous.

In other words, we need to recognize that the risk of a currency mismatch contributing a major financial meltdown is present in just about every period in which we see capital flowing easily across borders. This leads me to ask one simple, juvenile, question:

Why why why why WHY?

~~~~~~~~~~~~~~~~~~~~~

With all this history, why hasn't anyone learned their bloody lesson? Why do we continue to see, to this very day, the potential for instability caused by currency mismatches present - and growing - in a variety of markets. I can think of several factors that play a role:

 1) Access - pretty straightforward: you need easy access to international capital markets. This has been easier during certain periods of time (pre-1914, the Great Moderation of the 1990s-2000s, etc) and in certain regions (for instance, small EU members have direct access to foreign lending from other EU members due to the membership requirement for open capital accounts).

2) Import requirements - it is unlikely that many exporters or banks will accept the Papua New Guinea kina in an exchange for the sale of goods & services, for instance. Small economies with non-reserve currencies need to use foreign currencies to purchase the things they need, or borrow the funds they need. This can lead to debts in those same foreign currencies.

3) Lack of trust in the local currency - often domestic borrowers will seek outside financing if the local currency has a history of high inflation, political meddling, or exchange rate volatility.

4) weak domestic capital markets - sometimes domestic borrowers simply cannot raise money domestically. There are any number of elements to this, including: restrictive local banking regulations, lack of expertise, or lack of appetite (see #3).

5) Behavioural/psychological element - it is hard to resist cheap money. Look at the subprime real estate crisis in the United States and you can see how difficult it is for people to resist borrowing irresponsibly (often from irresponsible lenders). The people in Iceland basically did the same thing, and got burned when interest rate on the loans shot up. People tend to overestimate their ability to predict future events. 


6) ...what have I missed?

One argument I'm not buying is lack of awareness. As illustrated above, the challenge of currency and maturity mismatches is not new. Policymakers know and appreciate the dangers associated with a country (or many of its citizens) borrowing in foreign currency, particularly for the short-term. But sometimes the problem is an inability to stop hot money inflows & outflows - see the point about access above - and the costs associated with markets who are perceived to have overly-restrictive measures in place for investments.

~~~~~~~~~~~~~~~~~~~~

Why am I bothering with all of this? It is because, even though the crises I've mentioned above are mostly old news, the challenge posed by hot money inflows is as topical as ever. This is part due to the expansionary monetary policies adopted by the United States and other large developed economies to stimulate recovery. I discussed this back in April with this atrociously-titled post, but if anything the trend has become more pronounced in the period since then.

The recent IMF global markets monitor suggests that capital inflows to emerging markets continues to surge, led primarily by portfolio flows to liquid debt and equity markets. In many parts of the world (including parts of Latin America and Asia), the levels of inflows are reaching pre-Lehman levels. It is important to emphasize that this is not foreign direct investment (i.e. the money isn't there for the long-haul).

India is seeing heavy capital market inflows, again mostly in equities and mostly portfolio inflows. China is also trying to keep a lid on domestic credit growth and just recently capped the amount of lending by domestic banks.

In fact, many emerging markets are toying with capital controls as a way to limit volatility. Brazil has done so, and there is speculation (so far un-founded) that Malaysia will follow suit. Brazil was even somewhat successful in getting pro-capital control language in the G20 communique from Korea ("practical tools to overcome sudden reversals of flows," anyone?). The large exporters will also continue to keep large foreign exchange reserves as a buffer - a policy that turned out to be rather justified in recent years, despite the distorting effects it has on global imbalances and the huge opportunity cost.

All of this suggests that the dangers associated with currency mismatches and rapid capital inflows have not gone away. Quite the opposite. Large inflows may be justified in the current environment of strong emerging market performance, but our ability peer into the future is limited. We do not know what is coming next.

We do not know who will be blowing up their Land Rovers next.

Discouraging Thought of the Day: Perception vs. Activism

David Brooks, writing in the NYT on the centennial of Leo Tolstoy's death:

"As a novelist, Tolstoy was an unsurpassed observer. But he found that life unfulfilling. As he set out to improve the world, his ability to perceive it deteriorated. Instead of conforming his ideas to the particularities of existence, he conformed his perception of reality to his vision for the world. He preached universal love but seemed oblivious to the violence he was doing to his family."

Well. THAT's discouragingly accurate.

You can have clarity of observation, or you can set out to change the world, but not both simultaneously. It's the quantum physics of social activism.

Of course this applies not only to activists but do-ers of all kinds. As Cohen rightly suggests, the memoirs of political leaders tend to be skewed not (simply) because of attempts at whitewash, "but because they’ve been engaged in an activity that makes it impossible for them to see it clearly. Activism is admirable, necessary and self-undermining." Go watch The Fog of War if you doubt this.

This is also what occasionally makes business leaders very poor judges of economic policy (see here, for example).

But this is very bad news indeed for newly-minted grad students who are setting out to change the world.

Hmmm...

Best to start a blog instead.

Readables

- About a week old, but this is one of the best pieces I've read in a while. Follow-up is here.

- The, um, wanker-bankers have conned the Biffo Bunch

- Quantitative easing, explained. The Ben Bernank does not come off well

- Here is a better explanation of QEII. Here is another

- In related news, core inflation falls to record low.

Go Timmy! Go Timmy! Go Timmy! Go Timmy!

US-China monetary policy rap:

Yeah, What Brad DeLong Said

In case you missed it, Bob Zoellick, the head of the World Bank, was pontificating in the FT this week about the merits of returning to some sort of gold peg for currencies. DeLong, in his typically understated fashion, shoots him down hard.

Without passing any particular judgement on Zoellick's mental faculties, I think it's fair to say that suggesting a return to the gold standard in any format is a bad idea no matter who is suggesting it. But like some form macroeconomic acne, the idea of the gold standard keeps popping back up in periods of stress. For example, see my comments on Gillian Tett's misguided op-ed in the FT last year.

At the time I argued that, using the same logic, an economy run by squirrels would use an acorn standard. Why? Because they like nuts, silly. This analogy is even more apt that I had initially realized: much like humans and gold, squirrels spend a lot of time and energy scurrying around gathering up acorns - only to promptly bury them back underground.

Where the analogy breaks down is that acorns actually have an intrinsic value (nutrition), whereas gold does not have much intrinsic value at all. Its skyrocketing price is the result of investors (and here I'm quoting DeLong again) "using gold as a speculative asset and a hedge. They are not using it [as] a medium of exchange, a unit of account, or a safe store of nominal value."

As if this weren't damning enough, a return to a gold peg wouldn't even address the global imbalances problem. It would merely shift it around: US and European central banks own some 50% of the world's gold reserves. Hmmmmm. One suspects that if Saudi Arabia was the dominant world economy, we might be hearing ideas about an oil standard. This at least would have the added benefit of being a highly liquid asset. (HA!)

Seriously folks: this is gauling. All the more so because the gold standard is one of those rare phenomena in economics where it's not a theoretical debate. We've tested it out. It doesn't bloody work.

With so many potentially bad ideas floating around about how to fix the world economy, there's absolutely no reason why we need keep discussing the one we know for sure will be a disaster. 

UPDATE: Zoellick clarifies his comments: "Gold is now being viewed as an alternative monetary asset. This is not the same as a gold standard,” said Mr Zoellick. “Gold has become a reference point because holders of money see weak or uncertain growth prospects in all currencies other than the renminbi, and the renminbi is not free for exchange. So, in relative terms, gold is appealing to people who ask where should I put my money. It is a hedge against uncertainty.”

Well alright. Nevermind then, Bob: I forgive you. But just so we're clear: "a hedge against uncertainty" is not the same thing as an alternative monetary asset, mmk?

Hayek's Road to Serfrom

One of the hot topics of the week is evaluating the merit of Hayek's Road to Serfdom. I read this book about two years ago now, and I have to say I agree almost entirely with Tyler Cowen's re-assessment of the thing. 

I was surprised by the book: it was not nearly as extreme as I was expecting. In fact, it lays out what to modern eyes are highly reasonable arguments for why the central planning that was dominating the world at the time was doomed to fail. His primary target was the extreme central planning of the fascist and communist states, but his arguments applied equally to the government-planned wartime economies of the Allied powers. 

The book I read immediately afterwards was one by J. M. Keynes. Many of those who currently cite the Road to Serfdom to back up their political views might be surprised to learn that Keynes shared Hayek's fundamental concerns. He agreed with the book's argument about the dangers of central planning; where he differed was in the degree of the response. That Keynes' proposed "middle way" is now considered to be at the Left end of the spectrum speaks volumes about how much society has changed in the past 70 years.

Moreover, that Hayek's predictions failed to materialize is a testament to the degree to which we've internalized many of his arguments in the book. I would argue that the same can be said for Marx. The extremes that both men were railing against no longer exist as credible threats to our society, despite what some will have you believe. In re-reading these texts, their arguments would almost seem quaint were it not for the recognition that the problems were, at the time, very real. 

The flip side to all of this is that this particular book has lost much of its relevancy to the problems we are dealing with today, much in the same way that many of Marx's writings are of little use in addressing contemporary issues. That may not please the self-styled radicals at either end of the ideological spectrum, but for the rest of us it is very good news indeed. 

The world is a strange, strange place

This, from a quick scan of the news: 

- President Evo Morales knees a political opponent in the groin during a soccer match.

- The Philippines bans off-key national anthem singing

- Vietnam introduces state-run Facebook knock-off. "You have a friend request from: The Politburo"

- Rent-a-friend

Promises, promises...

Paragraphs to ponder, from Karl Smith. Although I've had this point explained to me many times, it never hurts to reflect upon how interconnected and, ultimately, fragile our socio-economic structure really is: 

"All things financial are ultimately promises.

Promises, however, matter. Ultimately they matter because promises are how we coordinate people to make stuff that is bigger and better than any one person could make alone. If we couldn’t make promises to each other we could never build factories, homes, cars, etc. In truth specialization would all but collapse and the modern economy would cease to function.

Many economists like to pretend that the economy functions on the basis of trade. The baker makes bread and trades with brewer who makes beer. But, this isn’t how the real world works is it? The real world is full of promises.

When the baker wants beer he give the brewer a promise. When brewer wants bread he gives the baker a promise. If they don’t trust each other very much they trade in government promises, that’s called legal tender or money. When they trust each other a lot they trade in private promises, that’s called credit.

I have occasionally received gifts in appreciation for my lectures but mostly I receive a big chunk of promises at the end of every month. I use those promises to meet other promises that I have made. And, with the promises I have left over I can get other things that I might want for the month. I keep some of my promises stored away, as a promise to myself.

In the old days when even trust in the government was low promises took the form of metal. For most people the metal had little value but they knew someone else might want it so it was good enough. Today, trust is high. Our legal system is strong and most promises are just bits in a computer system, a little electronic maker that says society promises resources to John Doe. Promises are the foundation of our economy.  That’s why when promises go bad, as they did in the sub-prime crisis, the whole economy goes bad. That’s why some of [us] think the government needs to make some new promises. We are running short."

The Autumn of our Discontent

Adam Posen, of the Bank of England's external monetary policy committee, is now convinced that the Bank needs to act fast to avoid a prolonged period of Japanese-style economic stagnation. He argues that the accumulating evidence suggests that the downside risk to doing nothing far outweighs the risks of inflation.

When the overwhelming bulk of pressures in the economy are disinflationary, and when the level of output and employment is clearly likely to be below potential for an extended period, it is right for central bankers to take the additional negative effects of protracted recession on trend productivity growth and on capacity into account.

Is Posen right? I haven't a clue. But he does raise one point which I think is worth noting: there's more at stake here than simply a bit of lost productivity growth and economic capacity:

Let us not forget that it was sustained high unemployment and austerity, the sense that governments were unresponsive to average people’s dire economic conditions, which led to the rise of extremist intolerant parties in pre-war Europe

I've used this historical reference a number of times, but it is an admittedly extreme example. Posen is right to use the language of "let us not forget" as this is merely a reminder - not a prediction of what is to come. Nevertheless, the point is well taken. Last year, Rory wrote a great piece on the brewing summer of discontent: the seething popular anger in the aftermath of the financial crisis and the demand to do something. 

Thankfully, some of the worst predictions have not come to pass. But the danger has not disappeared; a casual scan of the recent news reveals as much. The US has its own backlash in the form of the surging Tea Party movement. The British Labour Party just recently elected Ed Milliband as their leader, indicating a sharp tack to the left. In both cases, these shifts are likely to be politically counter-productive. But in both cases, I read this as a giant "Fuck You" to the ruling consensus that has dominated Anlgo-American policymaking since the late 1990s. 

Granted, prolonged recessions do not necessarily result in deep social unrest. From my (limited) knowlege of Japan, it does not appear that over a decade of economic stagnation has resulted in major upheavals in society. I suspect that this has much to do with the structure and characteristics of Japanese society, however. And it should be pretty clear by now that Europe is definitely not Japan.

To borrow the text from Rory's post last year:

"This poses obvious risks to political stability and commerce. It also constrains the options available to policymakers, making beggar-thy-neighbor actions such as the imposition of trade barriers, subsidization or nationalization of industries and currency devaluation more likely. History tells us that these domestic political considerations, particularly in the developing world, risk reinforcing the downward economic spiral, as policymakers appease factions and fail to reach coordinated regional/global programs. They also risk, particularly in the case of currency devaluations, setting off a [chain] reaction of competitive responses that, in the absence of regional cooperation, ultimately destabilizes the system as a whole."

So it's clear that while inaction is not an option, the kind of response that the political leadership provide matters even more. The G20 proved to be surprisingly successful in coordinating a strong response to the crisis itself, but that level of cooperation is starting to fade in the aftermath as leaders re-focus domestic priorities. The recent signs of a looming "currency war" are a worrisome case in point. 

What we may be facing, then, is a prolonged period of discontent. The only solution is to avoid political posturing and short-termism and take the necessary steps to restore healthy economic growth. These steps may end up being painful or risky but, as Posen rightly points out, the downside risk to doing nothing at all is far too high.    

(photo: Reuters)

Readables

Interesting, if superficial, profile of Paul Krugman's recent economic writings. Provides yet more confirmation for why I rarely bother to read them.

Soooo, does this mean Republicans oppose lending to small businesses? Politics: what fun!

Why football (soccer) is a bad business: irrational capital. Proposed solution: ownership by fans.

The voodoo economics of the TV/movie business

Yet more evidence of China moving up the value chain: a collaboration with Japanese companies in computer microchip production.

How to help people in developing countries and make a wicked profit while you're at it.

Intermission

Posting has been light of the last week or so as I make adjustments for a recent change in my career path. As a result, most of my recent post ideas are currently stuck in draft format - a variety of scattered thoughts lacking coherent direction. (Although really, what else is new?)

Things should return to business-as-usual in the next week or so. In the meantime, feel free to submit any ideas you have for topics you would like to see discussed.

Sentence of the Day

From The Economist:

"....Indeed, the problem with the tax debate is not that Democrats and Republicans disagree, but that they mostly agree. Democrats think 98% of Americans should not pay higher taxes; the Republicans say 100% should not."

Readables

From the previous week:

The biggest problem with Basle III

A conversation with Richard Dawkins and Sir David Attenborough

A conversation with Lee Kuan Yew, prime minister of Singapore for 25 years after its founding, reflecting on old age and the risk that Singapore's success will be taken for granted.

Globalization at work: Chinese factories that are moving up the value-added chain to stay competitive.

Are emerging market bondholders ignoring history?

Paul Krugman has a bone and will not let it go, no matter how confused his thinking may be. (To be fair, I think Sumner has Krugman's arguments about the link between currencies and surpluses completely backwards, but he addresses this here).

Summary of the state of world trade

"Science: it works." The auto X-prize winners

Hunting Black Swans

Last December I wrote about Nassim Taleb's The Black Swan and proceeded to tell anyone who would listen to Read This Book. You will have to forgive my boyish enthusiasm. It was probably a classic case of getting really excited about that-which-you-have-read-most-recently. Happens all the time.

Since then, however, I've read a number of criticisms - concerning both Taleb and his ideas. None, however, was nearly as comprehensively devastating as this one by Eric Falkenstein. Although written some time back, it's new to me and in the interest of balance I feel obliged to link to it here. It's certainly worth a read if you've read Taleb or are at all interested in questions of probability and prediction. For instance:

"Taleb is consistently amusing because his criticisms of others apply so neatly to himself: he claims he is an empiricist yet supports his points with anecdotes. The Black Swan makes fun of ‘experts’ with credentials, but he states he does not deign to engage with anyone not sufficiently expert; he states he is not interested in being a speaker-bureau commodity , but routinely travels the rubber chicken circuit; he derides forecasters who don't give a full accounting of their prior forecasting history, yet delinks old remarks about Value-at-Risk, and recategorized his extinct Hedge Fund as a hedge, not a fund; he claims to prize humility, yet is most immodest; he argues against applying the law of large numbers, and also of inferring too much from small samples; people apply models to reality in biased manner, people naively extrapolate data without the appropriate theory; forward thinking is adaptive, forward thinking is error-laiden. Some people think inconsistency is a sign of genius; I think it just reflects confused thinking."

There are some valid arguments in here, so I encourage you to read through the rest. However I don't think everything in the essay is spot-on:

"Black Swan argues that standard statistics is flawed because it is backward looking — it uses ‘historical’ data — and argues that standard measures of risk like the normal distribution are ‘frauds’. I too prefer future data, but it is hardly a practical alternative. The Gaussian distribution is common in theory because it is so analytically tractable; it often creates closed form solutions that allow one to see how one variable affects another, and has nice properties, such as the fact that two Gaussian random variables added together is also a Gaussion random variable. In practice, no one actually believes in this view, and makes ad hoc adjustments.... Non-economists often giggle at the term ‘fat-tailed’ or homoskedasticity, but indeed most real world distributions are not ‘Normal’ or Gaussian, they simply have fatter tails than average. Does this imply statistics is a fraud? Well, if you mistake the map for the territory, indeed, this is news."

This is all well and good if you're a responsible risk-analyst like Falkenstein presumably is. But not everyone understands these limitations, and this is precisely the point. During the boom years many of the biggest decision-makers in the financial sector did mistake the map for the territory: Felix Salmon's piece on the formula that killed Wall Street is a case in point.  

Falkenstein suggests that Taleb's argument boils down to, essentially, "shit happens." I don't think that quite does the concept justice, but to the extent that people continue to discount shit happening, The Black Swan remains a worthwhile read.

[edited for clarity]

DO NOT DIZPUTE ZE GERMAN WACHSTUMS IM EXPORT!

A week or so back I took a sarcastic jab at economist Heleen Mees for suggesting - on thin evidence - that the German current account surplus was "less damaging" than China's. Since then, there has been some back-and-forth among actual experts fellow commentators over what to make of Germany's fantastical export-driven growth.

Tyler Cowen argues that "German imports have risen to new highs and it is also apparent that the Germany economy is a positive-sum locomotive for most other countries. And a lot of the German exports contribute to the productive capacity of other nations." Tyler would seem to side with Ms. Mees on this one. However, in making this statement he cites an FT editorial as backup, which - by its editorial nature - is light on details.

Meanwhile, Wolfgang Munchau argues that Germany's economic strength could well be toxic for the rest of the eurozone.  Germany's growth should be offset by an adjustment in consumer demand and labour costs within the eurozone. But since the eurozone is an imperfect market, this adjustment is not happening. The resulting imbalances have already contributed heavily to Europe's current sovereign debt crises and are an ongoing threat to the long run health of the eurozone, he argues.

So who is right? The lack of quantitative evidence in this discussion sort of leaves you hanging. My suspicion is that both sides are right, but one side is, um, righter. Let me explain.

In terms of the specifics, Tyler's point is correct: Germany's exports are a locomotive for growth. Trade is good for both exporting and importing economies. Similarly, Germany's re-investment of its funds into neighbouring countries will, in many (though not all) cases, lead to growing productivity. Both of these factors are positive.

But are they positive sum? In other words, do the positive aspects cancel out the negative factors that result from ensuing current account imbalances? That's far from clear.

I would argue that the sovereign debt problems in Southern Europe are in fact a collective European problem: it is not simply a story about profligate deficit spending in Greece, Italy and Spain. In the case of intra-eurozone trade - given the fixed exchange rate - someone's current account surplus is someone else's current account deficit. Greece and Italy don't have the option of devaluing their currency to stay competitive because they do not have their own currency. To adjust, they must cut costs and deflate, and somehow "increase productivity." They have obviously been reluctant/unable to do this, and the resulting crisis and severe austerity measures have deepened the recession in Europe. Clearly, this impacts negatively on their European neighbours who have to bail them out or risk having the eurozone collapse.

It may be true that Germany's capital account is not in surplus due to their high levels of foreign direct investment into neighbouring countries. However, for this to be positive sum this capital needs to be 1) invested in productive enterprises AND 2) the productivity gains must offset the imbalances produced by German growth. From the current state of Southern Europe, point 1) is potentially true while point 2) most definitely isn't. This is likely what Mohammed El-Erian means when says that the positive spillover effects from Germany's export growth have been "immaterial."

Does this mean that Germany should slow its economic growth? Of course not. But it does mean that there needs to be a recognition that "surplus=good, deficit=bad" is not a helpful paradigm: balance is important. Unfortunately, the current state of European institutions do not create effective incentives for maintaining that balance. We've already seen the results. A reluctant-to-reform Greece needs to be saved by a reluctant-to-bailout Germany. The euro can't carry on like this, not forever.

I will borrow my conclusion from a recent paper by Barry Eichengreen and Peter Temin:

"The point is that an exchange rate system is a system, in which countries on both sides of the exchange rate relationship have a responsibility for contributing to its stability and smooth operation. The actions of surplus as well as deficit countries have systemic implications. Their actions matter for the stability and smooth operation of the international system; they cannot realistically assign all responsibility for adjustment to their deficit counterparts. This was the lesson that Keynes drew from the experience of the Great Depression. It was why he wanted taxes and sanctions on chronic surplus countries in the clearing union proposal that he developed during World War II. Sixty-plus years later, we seem to have forgotten his point."

Readables

- Why are women leaving Wall St.?

- Dan Ariely on the darkside of "productivity-enhancing tools"

- "Syntactically speaking, the correct noun phrase to pick to get a target of predication for the preposed adjunct is not the subject of the main clause, it's buried as a genitive determiner in a noun phrase inside a relative clause modifying the object of the main clause" Got that? That is an actual sentence from an otherwise funny post on "an appalling piece of bungled headlinery."

- Sarah Palin: the sound and fury

- the future of playgrounds

- NASA experts to help trapped Chilean miners.

Where is the recovery going to come from?

PIMCO's Mohamed El-Erian asks the same question, but does a much better job than I in providing a comprehensive look at the global economy. I really like this piece because it takes a step back from the to-and-fro of daily market reporting and punditry - what you have instead is a healthy dose of perspective:

"In sum, the current policy approaches here and abroad are unlikely to deliver a durable and robust U.S. recovery and, critically, create sufficient growth in jobs. Yet the main debate in Washington is whether to do more of the same -- namely, another fiscal stimulus and another round of quantitative easing by the Federal Reserve. This clearly conflicts with evidence that a broader and more holistic response is needed....

What is critical to keep in mind is that this situation is part of a broad, multiyear process driven by national and global realignments. It's a secular phenomenon that needs to be better understood and navigated -- by recognizing its structural dimensions and by urgently broadening the excessively cyclical policy mindsets that abound. Unfortunately, the approach in too many industrial countries has been to kick the can down the road, seemingly hoping for a series of immaculate economic recoveries.

Policymakers must break this active inertia by implementing a structural vision to accompany their current cyclical focus. Measures are needed to address key issues, which include the change in drivers of growth and employment creation; the high risk of skill erosion and lost labor productivity; financial deleveraging in the private sector; debt overhangs; the uncertain regulatory environment; and the unacceptably high risks facing the most vulnerable segments of society.

Is there anything else?

"An already polarized political environment is becoming even more fractured by real and far less substantive issues. There is virtually no political center that can anchor consensus and enable sustained implementation of policy. Meanwhile, as anti-Washington sentiments rise, interest in a national agenda is increasingly giving way to the election cycle. Internationally, the impressive degree of cross-border coordination seen during the global financial crisis has been reduced to inconsistent -- and at times contradictory -- national responses.

This worrisome trio of increasingly ineffective national and global policy stances, intense political polarization and growing social pressures speaks to the risk that the economy's recent soft patch will evolve into something even more troublesome and sinister."

The Rabid Capitalist Spirit of the English Premier League

Ohhh baby - the football season has begun. Over at Sports Illustrated, Johnathan Wilson tackles the perennial question about the huge competitive gap between the top and bottom of the English Premier League:

"Watch the television coverage of any English Premier League game between a side near the top of the table and a side near the bottom and you can guarantee that before kickoff one of the pundits will say something along these lines: "The great thing about this league is that on any given day anybody can beat anybody." Except it's not true, not anymore.

This isn't U.S. sports with a franchise system, salary caps, drafts and collective negotiating for TV rights that help to ensure general equality and thus competitiveness. This is the dog-eat-dog, every-man-for-himself European model, in which the big boys beat up the little kids on a regular basis."

Waitaminute: salary caps, collective negotiation, and general equality? That's not the American capitalist way! A dog-eat-dog, every-man-for-himself European model? Is this the twilight zone? Or could it be that the English take an "American" approach to sport, whilst the Americans prefer the heavily-regulated "European" way?

I know: that just blew your minds.

The Annals of Linguistic Trainwrecks: Liberaltarianism

As if it wasn't confusing enough already. 

As if it wasn't bad enough that the word "liberal" means something entirely different on one side of the Atlantic than it does on the other, leading to no end of confusion. Now they've come up with "liberaltarianism." This concoction is meant to denote a fusion (confusion?) between liberal and libertarian thought. As a phrase, "liberaltarianism" does not roll so much as it lurches off your tongue before shuddering and collapsing on to the carpet in a heap.

I'll admit that I'm rather new to this "liberaltarianism" thing. Scott Sumner sums it up thusly:

"Liberaltarianism is basically libertarians attempting to knock some sense into liberals on economic issues."

He then proceeds to lay out some examples of successful bouts of "sense-knockings:" eliminating wage and price controls, lower marginal tax rates for the rich, reducing government involvement in industry. 

I would view each of these examples as a generally positive development. Even what Sumner views as "setbacks" - for example the US government bailout/takeover of General Motors - are exceptions that prove the rule. GM is set to return to public financial markets shortly and the government's stake should be sold off in the next year or so. Even "liberal" governments now rightly accept that they should not be in the business of making automobiles.

But then I made a fatal mistake: I scrolled down to the comments section on Sumner's post. The very first commenter points out that, in the late 19th and early 20th centuries, laissez faire used to be the norm and the recent "victories" Sumner describes cannot undo the damage of decades of Liberal Big Government. This is infuriatingly wrongheaded. As Sumner rightly retorts, this laissez faire period was absolutely miserable. In addition to implicitly condoning rampant inequality, economic policy was often guided by a sort of moral puritanism which viewed the suffering of the working class as good for them.

Quite simply, that period's approach to laissez faire capitalism was unsustainable. It was precisely this model that millions of people revolted against, turning to communism or fascism as an escape. Modern day capitalism is softer (although the degree to which it is softer varies across Europe, North America, and Asia). By offsetting the harsh realities of capitalism with a stronger safety net and progressive redistribution, contemporary capitalism has succeeded in neutering many of the harshest criticisms against it. 

To a certain extent, bigger governments are the product of greater wealth. Rich societies inevitably demand greater government involvement since, as wealth increases, so do expectations regarding standards of living. For examples, one need only look to capitalist Hong Kong, where welfare benefits far surpass those in communist mainland China. There is absolutely no good reason why wealthy countries should tolerate the levels of depravity suffered by those living in the glory days of laissez-faire.  

But this is not a one-sided dynamic. The success of the social safety net is itself contingent upon the success of the capitalist model. It is not possible to continue to raise living standards without economic growth, and economic growth requires a free market. If government growth outpaces the economy, a painful re-adjustment will inevitably follow (viz. modern day United Kingdom).

To sum up: there is a mutual dependency at work here. One cannot long survive without the other. Despite its clunkiness, the concept of liberaltarianism seems to capture this understanding fairly well.

Unfortunately, finding the balance between the two is supremely complex. The sheer number of variables at play is overwhelming, and there are always unintended consequences. Designing policy in liberal democratic capitalist societies is bloody difficult, and our ongoing struggles with macroeconomic policy making is evidence of this. Of course, this is also what makes it so fascinating to nerds such as myself.  

This is also why, dear readers, the next time you hear someone pining for the laissez faire days of yore, you should hit them over the head with a stick.

Readables

- California moves closer to paying bills with IOUs and monopoly money

- By now you have likely heard about China's epic week-long traffic jam. Maybe they should be taking driving lessons from this guy.

- John Kemp: buying into tail risk will slowly bleed your wealth; instead, buy insurers who sell tail risk

- Argentina's President accuses domestic newsmedia organizations of crimes against humanity

- Can trade liberalization reduce gender inequality?

- Book review of Sebastian Mallaby's review of the hedge fund industry: More Money Than God

One-handed economists only, please

Mike Moffat at WCI takes a stab at explaining why there is such a disconnect between what economists think and what people think economists think. In sum:

"The economists who stay on the air tend to be the ones who are most willing to promote a black/white worldview. That tends to skew the view of the general public, as most economists tend to see everything in shades of grey."

This is pretty much what I was arguing when I referred to the "Richard Dawkins Effect" on the likes of Paul Krugman and others. Nuanced argument isn't entertaining. The one-handed economist rules the roost.

But is that always the case?

It seems to me that what may hold true for talking heads on the radio and Tee Vee doesn't always hold true in the blogosphere. Sure, you can find your fair share of biased blowhards, but it strikes me that many of the most prominent economist bloggers are able to carry out interesting and stimulating discussions on important topics without resorting to brow-beating. The discussion is more "academic" in the positive, constructive sense of the term. What's more, this debate is very accessible to the public.

An interesting sub-question would therefore be: why does this nuanced debate seem to thrive on the internets, but not in the traditional media?

I do think Mike is wrong about the benefits of media exposure, however. For instance, in the United States, if you're a prominent economist-blogger you can apparently be invited to lambaste US Treasury officials in person - which is both fun and intellectually stimulating!

Malaysia: loosening the ringgit fence

Malaysia's currency - the ringgit - soared yesterday after the central bank announced that it was easing restrictions on foreign exchange transactions. The changes allow the ringgit to be used to pay for cross-border trade and eliminate the 12-month limit on currency hedging by domestic firms.

This is good news for Malaysian exporters and, by extension, Malaysia itself.  Despite the encouraging news that Malaysia's economy expanded by 8.9% last quarter, the country is still heavily reliant on exports - primarily commodities and electronics. Exports depend upon foreign demand, and that demand is far from guaranteed. Although the majority of Malaysia's exports go to China, most of these are in turn re-exported to EU and US markets. Thus, even today, the discouraging news about the latter's economic fortunes has tempered yesterday's enthusiasm for the ringgit. 

Until 2005, the ringgit was pegged to the US dollar. The peg acted as a de facto hedge for domestic exporters. The peg is particularly helpful for commodity exporters since commodity markets are inherently volatile and tend to be priced in dollars anyway. Since 2005, however, export-oriented businesses have been subject to the spasmatic re-adjustments that come with a "managed" floating exchange rate operating in the post-Bretton Woods international financial system.

All of which points to the need for Malaysian exporters to be free to effectively manage risk by hedging their contracts to compensate for the ups and downs of global currency markets.

(source: Yahoo)

All the more fitting, too, that in Malay the word ringgit means "jagged." 

"Chez Economia: Fine Post-Recessionary Cuisine"

the table d'hote

~~~~~~~

Excite

Contagion crackers, topped by a widening corporate bond spread, with sliced mango and rocket

or

Fat cat paté, bailed out in a white truffle suspension

 Fluid

Cream of sovereign credit rating

or

A complex of derivatives floating in cheap liquidity

Consume

Maplewood-smoked fiscal hawk in a deficit reduction, nestled in chopped public services, shiitake soy emulsion and an aggression of snail

or

Half-baked stimulus, coddled too-big-to-fail quail egg, presented in a bed of seasonal helicopter-dropped greens

Finale

Double-dip chocolate biscuits in austerity pudding, with a selection of Boston "Hahbah" teas

or

Puffed public sector pastry in a caramel debt explosion, with a chapeau of crumbled GDP growth and a raspberry garnish

~~~~~~

Bon appétit!

Wherein I discover, to my great suprise and horror, that a Dutch economist is biased

Germany is not China, or so Heleen Mees is eager to point out.

And quite right to do so, I might add. Aside from shared membership in the United Nations and their local Tuesday night 10-pin bowling league, the list of similarities between the two industrious nations is rather short. But on the surface, the two countries share a particularly poignant economic indicator: massive current account surpluses.

In fact, it is precisely by exporting far more goods and services than they import that both Germany and China have vaulted to the front page of the financial news in recent days. Germany, for its whopping 2.2% quarterly economic growth; and China, for (more or less) overtaking Japan as the world's 2nd largest economy.

It is now increasingly clear that the problem of global macroimbalances has returned with a vengeance. At first glance, both Germany and China's export-fueled growth appears to be making these imbalances worse, not better. But this is where Ms. Mees takes over, insisting that there are important differences between the two countries, not least in their capital accounts:

"... Germany did not accumulate foreign reserves the way that China did. On the contrary, German foreign reserves actually declined between 2000 and 2008. Whereas China is a large net recipient of foreign direct investment (FDI), Germany is a large net exporter of FDI. China’s net FDI inflow totaled $94 billion in 2008, compared to Germany’s net FDI outflow of $110 billion.

... German’s surplus is thus less damaging than China’s, as it is used for investments that foster productivity gains, economic growth, and job creation – and that often include technology transfers that help to develop human capital.

The Chinese surplus, on the other hand, being heavily skewed towards US government bonds, primarily boosts personal consumption – a process whose apotheosis came in the early 2000’s, as the Bush administration’s tax cuts, together with cash-out home refinancing and home-equity loans, turned US sovereign debt into consumer credit."

This is well-trodden ground: the Chinese proclivity towards saving resulted in having their hard-earned yuan recycled as a US consumer credit boom. According to Mees, the earnings from German GDP were largely recycled into foreign direct investment into neighbouring countries, which is productive. So: China surplus bad; German surplus good. Got it?

But then I keep reading:

"Of course, the demand generated by Chinese credit also fosters economic growth, but mostly in China, owing to booming exports to the US."

Erm, what? This is starting to smell like bullshit. Mees appears to be arguing that the Chinese current account surplus is "damaging" because the economic benefits were only seen in China. Why on earth would that matter?

Ah, but I forgot the part about Chinese savings helping to create a credit boom in the debt-laden United States. The credit boom, in turn, inflated asset bubbles that eventually had to burst. That's what makes the Chinese surplus so damaging and the German one so constructive.

Isn't that right? Ms. Mees? Oh, you're not finished:

"It is, of course, unfortunate that German banks and pension funds lent money to debt-laden countries such as Spain, Greece, and Portugal on overly favorable terms, inflating asset bubbles that eventually had to burst."

Yea, you're right: Germany is definitely not China.

Readables

- 21st Century monetary policy - Steve Waldman proposes an alternative to tax and interest rate adjustments in response to the business cycle: flat rate cash transfers directly in to people's bank accounts.

- On the usefulness of cash prizes to stimulate innovation

- A post about financial economics that includes a comic strip and a penis joke: this is why we enjoy FT Alphaville so

- "Do not be alarmed if South Africans announce that they were held up by robots" and other, um, helpful multicultural tips from the United Kingdom

- A history of the tomato. For reals.

The sharpest thing I've read all week

From Matt Yglesias:

"In 2010, of course, we’re not going to go communist. Which is nice. But if you tell people that high unemployment is going to exist for a long long time, and there’s nothing the government can or will do about it, then of course people are going to support policies that make the economy less flexible and less open to imports and foreigners. If laid-off workers can’t find new jobs, then protecting incumbent sites of employment from competition becomes priority number one.

It’s true that if you adopt this view you do need to give up some libertarian purism. If periodic state intervention is required for the purposes of macroeconomic stabilization then you legitimize state intervention to, for example, help poor people. But the battle for that kind of purism is lost anyway. What you gain by embracing stabilization policy and treating the political problems of how to do it effectively as a problem to be solved rather than a reason not to try is an account of why it is that 9.5 percent unemployment doesn’t discredit the underlying principles of a market economy." (emphasis original)

I've pursued a similar line of thinking before, so I'm obviously open to having Matt's arguments reinforce my own.

Elsewhere, Tyler Cowen points out that there are benefits to a period of economic "re-calculation" which need to be recognized as well.

"1) The Industrial Revolution also was a tough slog for quite a few decades. Yet it was both worthwhile and it gave capitalism a bad name for a long time.

2) Alexander Field argues that the Great Depression brought greater productivity improvements than any other decade in U.S. history...."

While I doubt that Tyler is attempting to downplay the pain of the "dislocations" in question, I certainly would not be as cavalier about the consequences. In addition to bringing greater productivity improvements, the turmoil of the Great Depression helped spread political ideologies which were leveraged to support despotic regimes and also gave rise to geopolitical instabilities that dragged the world into an all-consuming war. That is not a fair trade.


But I exaggerate: it's 2010 and we're not going communist.


Nevertheless, it is no longer a (politically) acceptable line of argument to say: "Hey! you've gone down an economic corridor that is no longer promising so you will have to endure a period of recalculation. Good luck with that." Unlike the Industrial Revolution and other recessions of the late 19th and early 20th C, the political systems of the Western world are far more sensitive to this dislocation of workers. We now have universal suffrage and an increasingly educated population with greater opportunities for political voice.


Yes, it's true that the social safet net eases the pain of dislocation (while simultaneously creating its own set of incentives). It's also true that, as Felix Salmon points out, most Americans are now middle class, and most middle class Americans are doing okay. But there is still a significant underclass that is not doing okay and - if the recalculation argument is correct - they may be in for a long haul.


Which brings us back to Matt's point. The plight of the long-term unemployed is fundamentally a political problem, and a messy one at that. But it is only through embracing it as such, and setting about finding ways to mitigate its impact, that we avoid the craziest and nuttiest of outcomes.

Readables

1) The globalization of whisky markets, (not) continued - Chavez' currency crackdown hurts whisky sales. Fine by me, retorts Chavez: "Rich people are lazy and almost all of them spend every day drinking whisky." I think he's been watching too much Mad Men.

2) Thank Goodness It's Thursday - Hawaii cuts the school year by a fifth, Colorado Springs plunges into the dark, and other stories from the Great Recession. As a colleague of mine pointed out, somehow all of this is tolerated in lieu of even a discussion about raising taxes. Update: Illinois has been forced to feature in adult films to make ends meet.

3) The Topic of Cancer - "In whatever kind of a “race” life may be, I have very abruptly become a finalist."

4) Gone 'till November - Wyclef Jean to run in Haitian presidential elections this November.

5) The Sauna World Championships - The Finns are weird.

Where is the Recovery Going to Come From?

Over the past few weeks, my occasional glances at the market reporting pages suggested that there was some positive news to be had. Markets were launching small rallies. There was a return to risky assets. The UK and Germany, among others, were turning out surprisingly positive signs of economic recovery. But upon taking a step back from the day-to-day churn of financial reporting, I have to admit I'm a bit baffled by all of this: where are these positive vibes coming from?

Although the recession probably ended (technically) in the United States sometime last summer, the global recovery - such as it is - seems remarkably fragile. Unemployment is obviously the biggest indicator. German unemployment continues to drop, but in the US the there are some 15 million unemployed, and even more who are underemployed. Nearly half of the unemployed have been off the job for 6 months or more. That's a deep hole. (More charts here)

Moreover, many of the underlying problems have not gone away. Sovereign debt concerns are still a biggy. The collapse of the Eurozone has been staved off through the promise of access to an unprecedented level of EU-backed funds for the weakest members. But most analysts agree that, as far as Greece is concerned, the can has simply been kicked down the road. Only Spain, the UK, and some Baltic states seem to be taking the necessary steps to address the underlying problems. Even there, the steps being taken should raise worry about delaying the recovery even further.

Another underlying problem is that of macroimbalances. Any movement towards re-balancing over the past two years was the result of the peculiarities of the financial crisis. We're seeing quite clearly now that the fundamental asymmetries of the global market for goods & assets have not gone anywhere. Capital flows have started returning to their pre-crisis trends. Moreover, everyone (everyone!) is talking about exporting their way out of recovery.

That is literally not possible. Where is the demand going to come from? US household wealth is low (decimated by decline in housing & job losses), consumer spending is weak, while savings will likely increase. The EU is fragile, and the best-performing country (Germany) is growing from...you guessed it: exports.

What about demand in emerging markets? The biggest, China, is currently trying to delicately apply the brakes to avoid domestic overheating and still does not have sufficient demand to offset the decline in the US/EU. Capital flows into India have slowed in recent months, which restricts their ability to fund further growth and demand. News out Japan is underwhelming.

On top of this, many of the East/Southeast Asian countries that built up their domestic currency reserves during the lead-up to the Great Recession to act as a buffer against crises will feel vindicated: they have fared relatively well. Why on earth would they change strategies now?

As noted below, the fragility of the situation is not lost on Mervyn King, head of the Bank of England. Similarly, US Federal Reserve's beige book recently described a decidedly "beige outlook" for the United States. In fact, even this morning, the estimates of US GDP growth disappointed market watchers.

The only good news I can think of is that we are not hurtling down an economic crevasse. And let's be clear: this is really REALLY good news. Catastrophe was a definite possibility a couple of months ago as observers watched the European sovereign debt problems cause the EZ to teeter on the precipice. But despite their dithering, the euro-zone economies have, for the moment, escaped the worst possible outcomes. The bank stress tests, despite widely reported weaknesses, have been met by a neutral-to-positive response. Tyler Cowen suggests that wages in Europe have been less sticky than he predicted, which seems to be prompting some signs of recovery. Another indicator of uncertainty - both for inflation and deflation - is gold. Gold is holding steady at the moment, suggesting that fear of impending doom is abated.

But if not hurtling down an economic crevasse is the best news you've got, things are still pretty grim. Taking stock of the situation from my little peephole, I have really got to ask myself: where is the recovery going to come from?

UPDATE: Some honesty from Tyler Cowen: "Macroeconomics is rarely simple... We still don't know what we are doing." Read the rest.

Wednesday Readables

- Mervyn King warns against getting ahead of ourselves:

"The gradual improvement in credit conditions that was evident earlier in the year seems to have come to a halt in recent months. And financial markets more generally have been volatile. In part that is because continuing concerns about the ability of some countries to achieve necessary fiscal consolidation are affecting confidence in the ability of banks to repair their balance sheets. More fundamentally, the key underlying causes of the crisis – in terms of the imbalances in global demand – have still not been tackled. Those imbalances are likely to be larger this year than last, and will probably still be around three-quarters of their level at the peak immediately prior to the crisis. Until these underlying problems are resolved, uncertainty about the outlook for the world economy will remain."

(FT Alphaville provides comment)

- Flooding in China pushes the Three Gorges dam ever closer to capacity

- Does happiness affect productivity? Yes. Quality? Not really.

- In praise of Dark Ages

- Catalonia bans bullfighting. Good. I attended a bullfight in Madrid recently - I arrived with what I had hoped was an open mind, willing to make an effort to appreciate this part of Spanish culture. I was left disgusted by what is, essentially, ritualized slaughter for the sake of entertainment. Don't get me wrong: I was impressed by the matadors themselves. Bullfighting clearly requires a great deal of skill and cajones. But so did being a gladiator in ancient Rome. The Italians gave up their bloodthirst many centuries ago. Maybe it's time Spain did the same.

Photo Of The Day: Consequences of Inflation

A photo circulating by email around Zimbabwe of a supposed sign along the Zim-South Africa border (from Good Morning Afrika, via Free Exchange):




















And I thought it was only Goldman Sachs executives who did that kind of thing...

Conversations with Taxi Drivers: Singapore

As I am currently a resident of an airport for the near future, I feel it best to catch up on some long overdue blogging. Having spent the better portion of 2 weeks in Singapore, that seems like as good a topic as any. I don't pretend to have become an expert on the place, but I have picked up a few tidbits which have piqued my interest. Many of these have derived from my favourite source of information: taxi drivers.

Singapore is an interesting case, to put it mildly. Much of its recent history is a blur, cobbled together from various travelers' notebooks, journals and the occasional scribbled map. For much of the 17th and 18th centuries it was probably uninhabited. As recently as 50 years ago, the place was still a backwater entrepot, with very little in the way of a diverse economy.

Yet in visiting modern Singapore, this is difficult to imagine. The city-state is modern, vibrant, wealthy, and stuffed with the sort of cultural icons we associate with truly global cities. New resorts and theme parks are sprouting up left and right, while international business people continue to arrive in droves to the business district and conference centers. Next month, the city state will be hosting the 2010 Youth Olympics.* And despite a huge number of foreign workers (a million, according to one cabbie), there is a continuing need for more.

Because it is so tiny, Singapore's success has not been able to rely on natural resources or a large labour force to drive its economic growth. Instead, its limited resources have been carefully "channeled" towards certain key areas to create an open and highly competitive economy. What's more, as they are so vulnerable to the shifting economic winds, the city state has been forced to continue to innovate and shift to new areas. For instance, they are now making a concerted effort towards becoming a world leader in biotechnology research, while the financial services sector continues to grow in regional importance. There is also the recently announced launch of the largest power grid research station in Asia. Further examples abound.

Clearly Singapore has had success where other countries in the region have not. So are there lessons to be learned for other emerging markets? Many appear tempted to dismiss Singapore as a "unique case" that is difficult to copy. There are some good reasons for this.

Obviously, it is small. This makes it easier for the government to carefully allocate economic resources. But many other countries are small and fail to achieve something similar. Access to water and its position along a major shipping route clearly helps, but this does not account for the diversity of Singapore's economy. The colonial background has also left its mark on certain ways in which the country functions, notably the legal system.

The stable political situation certainly plays a role. Although the system is nominally a representative democracy, in practice it is a semi-authoritarian one-party state. Freedom House ranks the country as "Partly Free" (up from "Not Free" a little while back) due to what they label as draconian restrictions on freedom of speech and assembly. Yet, according to one senior diplomat here, the system still kind of works. The ruling party is scared of losing power and local government representatives hold regular council meetings wherein residents can air their grievances. Voices are heard, potholes are fixed. The Lion State's size once again makes this a workable option.

So while its true that, in many respects, Singapore is a unique case, this does not mean that its lessons are not transferrable. This is not news to some; China has long been watching its tiny neighbour grow from a poor nation to an immensely prosperous one, looking for hints on how to do the same. I would also wager to guess that a number of the Gulf Emirates have attempted to out-Singapore Singpore - they certainly share an obsession with heavily air-conditioned shopping malls and a need for economic diversification.

But just what kind of lessons are we talking about? To my eyes, one of the most striking things about Singapore is how multicultural it is - there are people living in Singapore from just about every country in the region. What's more, they appear to do so harmoniously. This is something supposedly modern European cities struggle to achieve. My most recent cabbie, of Indian descent, seemed to agree. Despite being a minority, he felt reasonably well represented. For instance, although the Chinese population dominates the government, there are a number of senior ministers with important portfolios who are Indian.

The noticeable exception is the substantial Malay minority who, despite being the indigenous population and still more populous than the Indians, are less well represented in government. They continue to face restrictions on practicing their culture are also economically disadvantaged (although policies are being developed to mitigate this).

But despite this imbalance, things in Singapore are a far cry from the race riots which apparently caused havoc in the slums of Singapore back in the 1960s. One possible explanation for this are the ubiquitous HDB flats, or subsidized housing projects nicknamed after the Housing and Development Board, which oversees them.

Some 85% of Singaporeans live in HDB flats (private property on the island is obscenely expensive). Although some HDBs can themselves still be quite costly, they offer what appears to be an intelligent solution to addressing the imbalance between the wealthy and the poor. For instance, although HDBs are subsidized, they do seem to be mere handouts. There are conditions attached, and there is the possibility for upward mobility if you work hard and achieve economic success. This creates positive incentives for HDB-dwellers, whereas most public housing projects tend to leave their residents to stagnate.

At least that's the theory. Whether this is true in practice, I have no idea. But the results would appear to speak for themselves. It's not for nothing that, as noted above, China has been closely watching the HDB system's progress over the years as it searches for ways to deal with the challenges caused by a huge increase in urban populations.

More importantly, my taxi driver thought the system works pretty well. That's good enough for me.


----------------------------
*I confess to have never heard of the Youth Olympics before; I felt slightly less stupid upon discovering that this is the very first time such an event has been held. Now ya know.