6/4/15 The Middle-­‐Income Trap Phenomenon: First in La8n America, Now in East Asia too? Wing Thye Woo (胡永泰)
University of California, Davis
wtwoo@ucdavis.edu Econ 115B: 2 & 4 June 2015 1.
2.
3.
4.
5.
Organiza/on of Remarks Facts on Growth from Around the World: 3 Lessons A HolisLc Framework is necessary for Sustainable Development Why is Malaysia in the Middle-­‐
Income Trap? Can China Avoid the Middle-­‐Income Trap? Summing Up & the Way Ahead 1 6/4/15 Analy/cal Demarca/on • High Income, Middle Income and Low Income – where you draw the separaLon line depends on the specific quesLon being asked • World Bank (WB) income classificaLon scheme determines degree of concession in WB loans • Use of market exchange rate indicates ability to service debt • Use of PPP exchange rate indicates standard of living vis-­‐a-­‐vis the reference country, e.g. USA • Our demarca8on is to highlight whether a country converging to living standard of the global economic leader? Is it catching up? Catch-­‐Up Index (CUI) • CUI = country’s income level / US income level
• Income = GDP per capita at PPP$ (data for 132
countries from Angus Maddison, 2010)
• boundaries of income group is based on notion
that most of Western Europe is high-income
and most of sub-Saharan Africa is low-income,
– CUI >55% for high-income,
– CUI<20% for low income
– 1960: 20 countries high, 32 middle, 80 low
– 2008: 27 countries high, 24 middle, 81 low
– Malaysia entered middle-income in 1982,
Thailand in 1991, and China in 2006
2 6/4/15 Lesson 1: Moving Up is NOT the Norm
Naive Prior Expecta?on: Convergence is natural, just adopt and adapt like aDer the Meiji restora?on in 1868. ExpectaLon is not supported in 1950-­‐2010 period • High-­‐income group: 15% moved down • Middle-­‐income: 22% moved up, 31% moved down, 47% status quo • Low-­‐income: 4% moved up to high-­‐income, 6% moved up to middle-­‐income, 90% status quo • “The more things change, the more they stay the same!” Illustra/ng the Middle Income Trap: Growth of the Largest Regional Economies Not valid to look only at the very richest
(Hong Kong, Singapore), so our sample:
• 5 largest from Europe: Germany, UK,
France, Italy, Sweden
• 5 largest from Latin America: Brazil,
Mexico, Argentina, Colombia, Chile
• 10 largest from East & South Asia: China,
India, Japan, Indonesia, S-Korea, Thailand,
Taiwan, Pakistan, Philippines, Malaysia
3 0.0 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 France
ArgenLna Brazil Germany
Chile Italy
Sweden
Colombia 06
20
04
02
20
20
00
98
20
19
96
94
19
19
92
90
19
19
88
86
19
19
84
82
19
19
80
78
19
19
76
74
19
19
72
70
19
19
68
66
19
19
64
62
19
19
6/4/15 Western Europe: Maintain 70% GDP per capita (PPP) of Western Europe as % of US Level
90.0
85.0
80.0
75.0
70.0
65.0
60.0
55.0
50.0
UK
60.0 The Middle-Income Trap: Latin America, Stuck at CUI=30%
50.0 40.0 30.0 20.0 10.0 Mexico 4 6/4/15 1.Club Convergence is when the largest economies in a region become more alike each other over /me. 2.Club Convergence in in South America (Middle-­‐Income Club) and in Western Europe (High-­‐
Income Club). 3.Is East Asia excep/onal? Breaking Out of the Pack in Developing Asia: Malaysia and Thailand
are the Miracle Economies according to World Bank (1993)
GDP per capita (PPP) of Asia-6 as % of US Level
35.0
30.0
25.0
20.0
15.0
10.0
5.0
04
02
00
98
96
06
20
20
20
20
19
94
92
Thailand
19
19
90
Philippines
19
86
88
19
19
84
82
Indonesia
19
19
80
19
76
78
India
19
19
72
70
68
66
64
74
China
19
19
19
19
19
19
19
19
62
0.0
Malaysia
5 6/4/15 Catch-­‐Up in Japan-­‐S.Korea-­‐Taiwan but not in Malaysia-­‐Thailand 90.0 80.0 70.0 60.0 50.0 40.0 30.0 20.0 10.0 0.0 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 Japan S. Korea Taiwan Malaysia Thailand Lesson 2: Policy Exhaus/on. Just doing more of the same will not sustain growth There are stage-­‐specific obstacles to moving up the income ladder. During the earliest catch-­‐up stage as in China in 1978, and in Malaysia in 1970: • general low equality of educaLon and brain drain not barriers to growth because existence of large amount of under-­‐employed agricultural labor allows industrializaLon via low-­‐tech exports. • economic reform is much more important than socio-­‐poliLcal reform in starLng growth • DestrucLon of natural environment not a high social concern when country is desperately poor 6 6/4/15 Lesson 3: Catch-up momentum is difficult to
maintain unless the various parts of the system are
compatible with each other.
• Leo Tolstoy in opening of Anna Karenina: “Happy
families are all alike; every unhappy family is unhappy
in its own way.”
• Which is the correct translation, where Y = happiness?
(a) Additive? Y = X0 + aX1 + bX2 + cX3
(b) Synergistic? Y = X0 X1a X2b X3c
• Eclectic approach: The additive equation (a) works in
the short-run but long-run growth is determined by the
synergistic equation (b)
• Soviet Union reached middle-income without a private
market economy but the economy finally imploded
Why is Malaysia in the Middle-­‐Income Trap? 7 6/4/15 Growth Slowdown is from Collapse in Private Investment Composition of Investment by Ownership in Malaysia
(actual value of category as % of GDP)
1990 1995 2000 2005 2010
total investment
private investment
public investment
33.9
21.9
12.0
45.7
32.7
13.0
25.6
12.8
12.7
20.0
8.9
11.2
20.2
9.5
10.7
Data are from 7th, 8th, 9th and 10th Malaysia Plan (MP),
and 9th Midterm Review (MTR)
The 1970 Policy Framework is not suitable for the economic condi/ons of 2014 (1/3) • 2 key components in policy framework formulated in 1970-­‐1975: (1) New Economic Policy (NEP) of race-­‐based restructuring of economy e.g. Industrial CoordinaLon Act (30% of shares to govt-­‐selected Malays upon lisLng, a tax on growth), govt hiring & promoLon pracLce, govt procurement policy, and (2) acLve aeracLon of FDI • Tax on firm growth & Non-­‐Meritocracy à Capital flight & brain drain have been increasing since 1970 NEP but their harmful effects were offset before 2001 by massive FDI and by large GLC investments funded by oil-­‐gas royal8es. • Up to 2009: “only RM2.4 billion [was] lek in bumiputra hands aker some RM54 billion in shares had been allocated” (Sun, 2009-­‐8-­‐30). In 2008, Malay “ownership of share capital at par value” was 21.9%, target is 30% (Mkini 2011-­‐11-­‐26) 8 6/4/15 The 1970 Policy Framework is not suitable for the economic condi/ons of 2014 (2/3) • Capital flight was lower when FDI was high because of opportuniLes to service the FDIs, e.g. produce inputs to replace more expensive imported inputs • However, since 2001, FDI was significantly diverted from Malaysia because (1) China joined WTO; and (2) post-­‐
September 11 Muslim-­‐phobia. • No more cheap labor in Malaysia, so knowledge-­‐led growth is only path but it requires higher quanLty and quality of talents. No criLcal mass in talents à criLcal mess • World Bank (2011) finds, in last 2 decades, 20% of terLary graduates migrated out (WB did not count migraLon of folks with vocaLonal skills). Inflow of labor is low-­‐skilled to keep exisLng producLon going. Ouplow-­‐Inflow paeer is compaLble with moving up the value-­‐added chain. The 1970 Policy Framework is not suitable for the economic condi/ons of 2014 (3/3) • Over-­‐centralizaLon of revenue and administraLve funcLons (a) prevented local governments from building infrastructure to support growth of local industries. USM (local university) has budget bigger that of Penang State Govt; (b) concentrated infrastructure investment in Klang Valley àunequal spaLal paeern of development. • Over-­‐centralizaLon despite “FederaLon” structure because of existenLal threats at beginning, Emergency in 1957 & Konfrontaksi in 1963. Local elecLons were suspended in 1965 in response to Konfrontaksi. Konfrontaki ended a few months later but local elecLons not resumed. Municipal services managed from Putrajaya, e.g. Penang bus routes and stops on each route à poor performance of govt services. • Unresponsive & incompetent & non-­‐transparent (no open tenders) governance procedures + no monitoring by BN-­‐owned media (“good news” newspapers) à decline in quality of governance 9 6/4/15 Bath Tub Analogy of Malaysian Growth Engine 1.
2.
3.
4.
5.
6.
Level of water in tub is level of investment rate. Capital flight and brain drain are the two leaks at boeom of tub. Water inflow from 2 faucets: FDI and Oil Revenue. Before 2001, inflow larger than leaks, so Malaysia boomed FDI slowed down since 2001 à lower growth à lower state revenue à UMNO has lower amount of patronage power à unraveling of the usual poliLcs Oil revenue down à GLC investment down FDI decline from (a) China’s WTO membership (b) no more cheap labor (c) post 9-­‐11 Islam phobia (d) deterioraLon in governance Can China Avoid a Malaysia-­‐
Type Malaise? 10 6/4/15 China as a Speeding Car: Types of
Potential Crashes (1/2)
A Holistic Approach is required to ensure
Compatibility amongst Hardware (base structure),
Software (superstructure) and Power Supply (the
BIG picture).
• Hardware failure (wheel of car comes off):
failure in an economic mechanism, e.g. banking
sector collapse, fiscal mismanagement. A private
market economy is the right hardware to have,
and it should be managed according to evidencebased
– micro-regulation (e.g. industrial policies)
– macro-adjustment (e.g. federal budget deficit)
China as a Speeding Car: Types of Potential Crashes (2/2)
• Software failure (a fight inside the car): failure in sociopolitical governance, e.g. corruption. Need to have
governance institutions that are
– administratively responsive and competent
– socially inclusive in operation
• Power supply failure (the car ran out of gas or hit a road
block): Avoid running out of gas or meeting a road block by
being
– ecologically sustainable at national & global level
– consistent with international economic conditions
– a responsible supplier of global public goods
• Goal to build a “Hexie Shehui” reveals that Software
Failure is deemed to be the most probable or the most
dangerous.
11 6/4/15 Fixing the Hardware: The Required Updates in Demand Management & Growth Management Emergency Room Medicine in 2009-­‐2010 • 4 trillion yuan fiscal sLmulus over 2 years @ 7% of GDP per year • Macro-­‐sLmulus more effecLve in China because of expansion of aggregate demand by obedience-­‐
maximising state managers – state firms and local governments ramp up investments without regard for excess capacity – state banks jack up loans without risk assessment, • state firms were drenched with liquidity while private firms could not get working credit, so former bought many of laeer 12 6/4/15 Do NOT Repeat the 2009-­‐2010 Macro-­‐S/mulus for Slowdown that began in 2013 • PotenLal pipalls – complacency toward inflaLon (housing bubble) – underesLmate NPL potenLal – underesLmate decline in producLvity of future infrastructure investment – neglect private sector, the true engine of long-­‐
term growth • Need for new growth drivers to replace present macro-­‐sLmulus Fixing the Hardware
• Macro-stimulus through investments by state
enterprises and local governments has created lots of
excess capacity in the industrial sector and bad loans in
the banking sector.
• Fallacy of Composition: Korea and Taiwan had
successful growth from export-induced investment. But
China is so big that it is saturating its export markets.
• Two new growth engine in medium-term.
– New small and medium private business
– Urbanization (principle of by future ownership)
• Growth through reforms not through macro-­‐s/mulus or through export growth
13 6/4/15 S/mulus from Nongmin Gong Star/ng Own Business (1/2) • returned migrant workers have wide work experience but they lack capital to start own business in home province • need lenders: central government should allow western China to conduct experiment in financial sector reform – allow small private banks – allow market-­‐determined interest rate • need collateral: banks want collateral, so make collateral available by privaLsing farm land • need mobility: enable them to start businesses in ciLes by ending household registraLon system (hukou) that restricts labor mobility S/mulus from Nongmin Gong Star/ng Own Business (2/2) The creaLon of a new large group of private entrepreneurs will bring three major benefits: • expenditure by this new group will subsLtute for the present macro-­‐sLmulus program in keeping aggregate demand high; • private firms are likely to have higher producLvity growth than state firms; and • small and medium private enterprises will be more labour-­‐intensive than state firms 14 6/4/15 Urbaniza/on as S/mulus (1/3) UrbanizaLon is companion of industrializaLon • new rural migrants cannot afford 2007 house prices, so why has there been a housing bubble? • what to do about read estate bubble? – reform of land policy – reform of real estate financing mechanism • sustainable housing growth: launch massive public housing program (Hong Kong, Singapore) • State can afford it because state owns the urban land. Land is the expensive item not the structure • government rent housing to new low-­‐income residents, and then sell the units to occupants aker 10 years (principle of future home ownership) Urbaniza/on as S/mulus (2/3) UrbanisaLon based on future home ownership will support China’s growth in four ways: • the maintenance of real estate investment to supply the needed housing and to help maintain exisLng level of aggregate demand; • housing construcLon and home decoraLon are labor-­‐
intensive acLviLes • the redirecLon of bank loans to new rural migrants, with the new housing agency as the intermediary, will prevent NPLs from housing speculators going bust; and • this housing scheme will redistribute income to the rural migrants with the posiLve side effect that consumpLon would rise 15 6/4/15 Urbaniza/on as S/mulus (3/3) • reform hukou: – separaLon of family is unhealthy – bring educaLon to children, not bring children to rural boarding schools; – bring health to rural residents, e.g. access to sewage system and clean water • reject suburban sprawl: mixed zoning, high density towns with public parks and public transportaLon • new urban centers be made knowledge-­‐generaLon centers too by strengthening research capacity of local universiLes • concentrate urbanizaLon in southern China because of growing water shortage in the north Enable Sustainable Macroeconomics •
•
•
Financial market reform – loans to new rural entrepreneurs – housing loan cooperaLves – eliminate trade imbalance (protecLonist threat) Land policy reform – privaLze rural land (use collaterals) – public housing schemes under principle of future home ownership “Hukou” reform – promote growth of rural enterprises – promote urbanizaLon process (which enhances human resource development of rural residents) 16 6/4/15 Fixing the Soaware: Reform of Socio-­‐Poli/cal Governance Increasing dissa/sfac/on with governance Jump in amount of social disorder
• 1994 had 10,000 mass incidents involving
730,000 persons;
• 2004 had 74,000 mass incidents involving
3.7 million persons
• 2006 had 90,000 mass incidents with
increases in 2007 and 2008 (CASS report)
Rising social expectations: education & travel
Weakening of trickling-down mechanisms:
entrenchment of hardcore poverty &
worsening income distribution.
17 6/4/15 Trickling Down is now weaker, Extreme Poverty is Entrenched Proportion of Rural Population Below Poverty Line (%)
The poverty line is measured in 1985 PPP US$
35
30
25
20
15
10
5
0
1990
1991
1992
1993
1994
1995
1996
$0.50 poverty line
1997
1998
1999
$0.75 poverty line
2000
2001
2002
2003
2004
2005
$1.00 poverty line
A New Vision unveiled in 2006 • October 2006, new CPC objecLve was to build a harmonious society, defined as – a democraLc society under the rule of law – a society based on equality and jusLce – an honest and caring society; and – a stable, vigorous and orderly society – a society in which humans live in harmony with nature • Admission: China is not heading toward a harmonious society, and convergence to a G7-­‐
type country is needed 18 6/4/15 Prevent Software Failure by increasing
accountability of the state to enhance
incentive to use hardware effectively
• Open elections: village level now, Wen Jiabao
intended to extend elections to province level
• Free press: be watchdog, and help
transmission of lessons from abroad
• Independent judiciary: equality before law,
rule of law
Power Supply Failures: Keeping the BIG PICTURE in Mind 19 6/4/15 Because China is a BIG country, Power Supply Failure is a More Severe Problem • Unlike a small country, Chinese internal developments and external acLons affect global parameters. – Need to manage economic spillovers – Need to consider global sustainability (e.g. US-­‐style urbanizaLon is globally unsustainable) – Need to supply global public goods • China has to be more concerned about power supply failure compared with a small price-­‐taking economy, e.g. what China sells, prices fall; what China buys, prices rise Some Poten/al Power Supply Failures Physical environment • air: polluLon and health; greenhouse gases and climate change • water: declining rainfall in northern China, and internaLonal concern over access to water from Tibetan plateau InternaLonal environment. Mis-­‐Steps (M-­‐S) like: • complacency about protecLonism • inept foreign relaLons 20 6/4/15 The Environment: Abandon Man Over Nature Aetude • Climate shik, less rain in north China and more rain in south China. Three canals for south-­‐to-­‐
north transfer of water. • Los Angeles-­‐style of suburban sprawl as model of urbanizaLon • To combat climate change, China must adopt the globalist perspecLve of “think globally and act locally” Needed: A New Approach to Diploma/c Rela/ons 21 6/4/15 Inept Foreign Rela/on, e.g. Copenhagen Summit, Dec 2009 (1/2) • “We did not get an agreement on 50% reductions in
global emissions by 2050 or on 80% reductions by
developed countries. Both were vetoed by China,
despite the support of a coalition of developed and
the vast majority of developing countries” Ed
Milliband, UK secretary for energy and climate
change, in his column, ‘The Road from
Copenhagen’, The Guardian, 20 Dec 2009
• Premier Wen Jiabao was the only head of state
present in Copenhagen who did not show up for the
last summit session and participated in the
discussions via messages relayed by Chinese officials
at the conference site.
Inept Foreign Rela/on (2/2) • Because domestic Chinese economic
development has large impact on other major
countries, it is not possible for China to build a
harmonious society without also having to help
build a harmonious world
Problem: China has a “harmonious society”
mindset but not a “harmonious world”
framework. China reacts and does not take
initiatives.
Solution: Internationalise Hexie Shehui
(Harmonious Society) Principle to have
parallel Hexie Shijie (Harmonious World)
Principle.
22 6/4/15 Some Policy Measures for Malaysia Raise producLvity directly (hardware upgrade) • Freeing the market to improve naLonal compeLLveness, e.g. Ø Make domesLc monopolies face import compeLLon by reducing import restricLons & joining free trade areas like TPP Ø Restrict state parLcipaLon in businesses that facilitate technology transfer & intervenLon is for a limited Lme period • Increasing the NaLonal Talent Pool (no university in LaLn American conLnent is in global top Ler unlike Singapore in ASEAN) to achieve the criLcal mass necessary for knowledge-­‐led growth, e.g. Ø Strengthen educaLon insLtuLons at all levels by benchmarking internaLonal standards Ø Retain domesLc talent & aeract foreign talent by improving liveability (e.g. inclusive social order, green urbanizaLon) Upgrade administraLve performance (sokware upgrade) • Increase accountability of policymakers (free & fair elecLons) • Increase monitoring of policymakers (free press) • Improve refereeing of disputes (objecLve, efficient legal system) Some Policy Measures for China • demand-­‐management: replace the 2008 style macro-­‐
sLmulus for the 2014 slowdown with structural reforms that stops discriminaLon against the private sector and rural residents • growth-­‐management: replace the export-­‐led industrializaLon strategy with knowledge-­‐led growth • social governance: abandon the “government as parent” paradigm for rule of law that promotes human rights • environmental management: abandon the “man over nature” mentality for environmental protecLon • diploma/c rela/ons: abandon the “free rider pracLce” as exemplified in the WTO Doha rounds negoLaLon for common global prosperity 23