IEA Blog

The case for abolishing agricultural subsidies on the grounds that they are unjust and hugely damaging to developing countries is well documented. One can also make the case in environmental terms, citing the damaging effects of artificially increasing production. And even if we treat the developed world as fundamentally self interested, the current regime of subsidy and protectionism clearly does not make sense.

Free trade in agricultural products first and foremost benefits Western countries themselves. It is not a concession to developing countries or the World Trade Organization. The current costs of subsidies and protectionism are extensive and include higher taxes and much higher food prices. In the long run, Western farmers are also damaged. Barriers to imports disrupt the price signals guiding investment decisions and as a result may discourage the diversification of production into higher-value-added items. Higher prices of particular agricultural products also discourage domestic consumption and may encourage the use of lower-priced substitutes, undermining the protected sectors’ own domestic market share.

It is perhaps the impact on the developing world that is of most concern, however. The dumping of subsidy-funded crop surpluses, sold at prices below production costs, inhibits the growth of agriculture in poor countries. Protectionist measures such as import quotas and tariffs also mean that countries are prevented from exploiting their comparative advantage. At the same time, Western governments are spending huge sums on foreign aid intended to produce the economic development that their own trade policies are undermining. Without these damaging policies, expenditure on aid could be slashed. Moreover, increased growth in the developing world would produce positive trade opportunities for Western economies. It has been estimated that freeing all agricultural merchandise trade and eliminating agricultural subsidies would increase “global income” by nearly $300 billion a year by 2015.

The UK alone spends £5.9 billion per annum on agriculture, forestry and fisheries. The EU allocates 31% of its budget to agricultural support under the Common Agricultural Policy (CAP), set to total around €43.8 billion in 2010. On top of the direct taxpayer-funded subsidy, the CAP costs UK consumers over £10 billion per year as a result of higher food prices. The abolition of agricultural subsidies and trade barriers would therefore lead to huge savings, both immediate – in terms of reduced agricultural subsidy expenditures and lower prices - and long term, due to decreased aid to developing countries. The continued commitment of Western governments to protectionist policies that are nationally and globally damaging is indefensible.

A leader in yesterday’s Financial Times calls upon President Zuma to act decisively to prevent Eugene Terre’Blanche’s death opening up rifts in South Africa’s fragile polity. I couldn’t agree more – but the FT’s logic is difficult to follow when it urges Mr Zuma to renew efforts at land reform as a means of giving hope to the South African poor.

Exactly what form should this reform take? The demand for sharing land equitably has a long, long history. But land redistribution from the USSR to China to Latin America to many African states has generated few, if any, successful models. If the FT can suggest a reform programme which will not lead to unacceptable coercion and/or massive financial cost, and on the other hand will lead to land going to committed, competent and productive farmers, the Nobel Peace Prize is surely on the way.

In South Africa’s current state, alas, it seems only too likely that land will be redistributed, as in Zimbabwe, to possibly corrupt and probably incompetent supporters of the regime.

Even if this were to be avoided, agricultural productivity will almost certainly slump as big white-owned farms are broken into smaller units and capital equipment is removed or allowed to deteriorate. Foreign investment will be deterred while yet more skilled white and black workers (a million of whom are currently employed in agriculture) leave the country. South African agriculture is of considerable significance to the economy, accounting for around 3% of GDP and 8% of exports: it should not be a political football.

While it might temporarily satisfy hotheaded ANC politicians like Julius Malema and western liberals, land redistribution will surely do very little to improve the dreadful lot of South Africa’s urban and periurban poor.

Who would have thought that protectionism could be entertaining? Professor Ha-Joon Chang’s lecture at the LSE last Thursday, part of the university’s “Series on the Future of Global Capitalism”, proved that it can be. Whatever one makes of his views, as a speaker, Prof. Chang is an exceptionally witty and engaging.

In the main, Prof. Chang’s speech was a plea for a new “Developmentalism”, an economic policy strategy in which the state takes on the role of a development catalyst. Using tools like selective tariffs, subsidies and procurement laws favouring the domestic economy, governments in poor countries should nurture their own industries, and break out of dependency on foreign capital and foreign technology. They should create their own versions of Boeing and Volkswagen.

Judging from the chuckling responses and the remarks during the Q&A session, the audience seemed to interpret these proposals as highly unorthodox, bold critical thinking – a protectionist David challenging a neoliberal goliath. This is surprising. State-led development is old hat. It has been tried in a lot of places, creating highly politicised economies with stagnant productivity. Prof. Chang referred briefly to the Latin American experience and pointed out that when this model was at its height, the region experienced high growth rates. What he omits is that these rates were built on sand. They were based on an increase in the utilisation of labour and physical capital, while total factor productivity stagnated. They also depended on ever-increasing foreign debt, which led to the debt crises and economic meltdowns of the 1980s – ‘la decada perdida’ in local jargon.

So what’s new about Prof. Chang’s new developmentalism, which will enable it to avoid these past failures? Nothing much, really. He wants developmentalism to take environmentalism on board, and give more thought to political and institutional considerations. Old developmentalists, Prof. Chang argued, had simply assumed that governments were always competent and benevolent. New developmentalism should not take this for granted.

True: if you placed your hand on a hot cooktop, assuming it was cold, you would burn yourself badly. But the problem is, if you placed your hand on a hot cooktop without assuming that it was cold, you would get burnt just the same.

Last month the Heritage Foundation released the 2010 Index of Economic Freedom. Every year, a similar index is also issued by the Fraser Institute to compare countries across the globe. These rankings are not without consequences. For example, one criterion used by the recently formed Millennium Challenge Corporation for its Millennium Challenge Account (MCA) is freedom as estimated by Freedom House. Similarly, foreign investors rely on these indices to at least screen prospective destinations for their funds. I consider these indices valid in terms of the parameters employed but want to question their reliability to measure freedom across structurally different economies and polities.

My scepticism is based on these arguments. In developing countries, a large portion of the economy is informal, and thus figures on the size of the government relative to the private sector, a key variable used by all indices, may not be equally meaningful. Moreover, in poor countries, political freedom may be valued less than in richer countries – thus cultural preferences and valuations should be accounted for. Also in most developing economies, corruption would interact as a confounding variable and distort interpretations. For example, these indices measure ease of doing business in terms of number of days required or spent in opening or closing a business. In a pervasively corrupt government, the number of days is a function of access to specific officials, something that may not be reflected in the statistics. Finally, these indices rely on the principle of aggregation, which in principle is valid. However, if the underlying data is hugely skewed (for instance, physical conditions at sub-national levels vary a great deal), then aggregation can be quite misleading. For these and other reasons, it could be argued that the indicators should be adjusted according to the specific circumstances of the country concerned. This would hopefully produce a more consistent measure of freedom, which would in turn provide more accurate guidance for both policy and business interventions.

Like other developing countries, Pakistan is deploying microfinance as a way of lifting people out of poverty. The basic assumption is that poor people lack access to affordable capital and once credit is streamlined they can build micro enterprises and lift themselves out of poverty.

However, apart from anecdotal case studies, there is no conclusive evidence about the impact of microfinance on poverty alleviation. Furthermore, some studies suggest that microfinance certainly does help the poor but not necessarily through building up their enterprises.

According to the Consultative Group to Assist the Poor (CGAP) most of the poor use micro loans as a reliable instrument to smoothen their consumption or when in need of a large amount of cash. The most worrisome fact for the poorest of the poor is their income volatility.

The recent estimates released by Pakistan Microfinance Network suggest that the country’s potential micro finance market is about 27.4 million borrowers, whereas microfinance currently reaches around 1.8 million people. However the more interesting statistic from Pakistan is that microfinance savers have surpassed microfinance borrowers by a comfortable margin, as the former category includes around 2.14 million accounts.

Does this mean that, amongst the poor, the savers outnumber entrepreneurs investing money in their business? The CGAP study seems to lend credence to this paradoxical finding. As it is dubious to claim that the poor people have earned their savings through their micro enterprises, this finding only points in one direction. The poor have deposited their own savings into the system, aiding its operation – although it has always relied on external support. It also suggests that the micro savers would necessarily be different from micro borrowers, which is supported by the fact that only one out of seven saving accounts are mobilised through microfinance institutions – the rest are managed through conventional banks.

It is claimed that the default rate of the microfinance borrowers is very low – around 2.5% worldwide – a statistic which is used to argue that poor people are reliable in repaying their loans. Evidence from Pakistan’s experience, available to the author during his research, does not refute this number but suggests a painful explanation. Most of the microfinance borrowers do not repay money on time from business profits – they repay it by borrowing from another source – which could well be another microfinance institution. Thus the reported default rate actually conceals the dynamics of micro businesses and creates a potential hazard. Unfortunately, the CGAP study also points in a similar direction – poor people find the micro loans very useful – and accessible – for their consumption needs, so regardless of the source of cash for repayment, they would normally pay.

It is evident that microfinance has helped the poor in managing their cash flows and in sustaining their income levels; however, it has not necessarily helped them to come out of poverty by increasing their income levels. We can’t turn people into entrepreneurs by just providing them with capital – if this were so, we would not have seen countless examples of “rags to riches” throughout the world without the aid of any formal credit!

Simon Cowell has announced that he will produce a cover version of Everybody Hurts by REM to raise money for the suffering in Haiti. Good for him! It may be a bit saccharine, and I’m not sure that the tone is quite right, but I am sure that it will raise a bucket load of cash for people who badly need help.

It did strike me that it would be competing with the other Haiti appeal song, recorded by U2 and Jay-Z (apparently, it’s pronounced “Zee”) and produced by Swizz Beatz. Does it make sense to offer a rival product when raising money for charity?

Of course it does! For one thing, no matter how keen people are to give, if they hate one of the songs, or find Cowell too smug or Bono too self-righteous, they might be inclined not to buy it. By offering them choice (a concept that is much-maligned in some circles) one is more likely to satisfy their desires and so raise more money for the appeal.

Secondly, it does not automatically follow that the two are competing. I would bet a significant donation that a large number of charitable music-lovers buy both.

And thirdly (though this slightly deviates from competition), because both songs will appeal also to people who do not necessarily care about the people of Haiti but who do want to own the song, the very concept of a charity song is an excellent example of how people can do good by pursuing their own self-interest.

There may be more than two Haiti appeal songs. I hope there will be. Providing choice will only help efforts to alleviate the suffering.

My research in Kenya provides disturbing evidence of how foreign NGOs (non-governmental organisations) leverage their financial strength and access to the establishment to insert their single issue agendas into national policy formulation processes.

The foreign NGOs first set up a façade of local NGOs, CSOs (civil society organisations) and other seemingly authentic grass roots organisations which, by lending a semblance of legitimacy to their policy agendas, can become deeply embedded within both the body politic and the body civic. This in turn allows the policy formulation process to be hijacked by denying political access to those with dissenting or alternative viewpoints and manipulating access to the media.

In Kenya, this kind of malfeasance has led to new legislation and policies that are not in the best interests of either the country or her citizens. The Wildlife (Conservation and Management) Bill (2009), for example, panders solely to the agenda of the international animal welfare lobby while ignoring the very real conservation issues facing Kenya. 

The key issue here concerns representation. Such NGOs wield extraordinary power but fail the most basic test of good governance in that they are neither elected, transparent nor accountable to those whose interests they claim to represent. Such NGOs have no innate right to speak “on behalf of the people”, nor do they have any special rights to impose their minority views.

While governments rely primarily on national legislation to regulate NGOs, there is a growing awareness internationally of the necessity for transparent self-regulation so the sector can contribute positively to social development by being transparent, accountable and ethical in all its activities. But given the worldwide trend for NGOs to evolve from being simple service providers to embracing advocacy and activism, especially in the policy arena, I personally doubt whether such steps will be adequate to address this key issue of representation.

The International Labor Organization and other groups argue that the absence of international labour standards makes it harder for the world’s poor to escape poverty; further, they argue that stringent standards should be part of international aid efforts. The problem, though, is that labour standards seek to address the effects of poverty rather than its causes, and international labour standards are going to make things worse for the world’s poor rather than better. If you want to help poor people, restricting their options and opportunities is not the answer.

In the internationally competitive global labour market, people earn wages equal to the value of their marginal products, which is the additional output that they produce. The proximate cause of low wages is low productivity. The ultimate causes of low wages are institutional environments that stifle entrepreneurship and investment.

Sweatshop opponents criticise the use of child labour in developing countries and argue that these children should be in school rather than the labour market. At current income levels, this simply is not feasible for many people. In subsistence economies, many people do not have the luxury of diverting their attention from manual agricultural labour and towards education. The best way to fix this is not to mandate more stringent labour standards but to encourage economic growth.

This helps us re-frame the question of global poverty: we have to look for the specific institutional mechanisms by which opportunities are restricted, and a growing body of evidence suggests that economic freedom is essential to growth. 

Critics of the poor working conditions in less developed countries argue that the wages offered in so-called “sweatshops” are unacceptably low and the working conditions wretched. They probably are when we compare them with western standards. As economists have pointed out time and again, however, this is not the relevant comparison. The relevant comparison is the worker’s next best opportunity, which is always worse. As economist David Henderson has argued, we do workers no favours when we remove the best of a lot of very bad possible choices.

Even if we grant that all of the criticisms of sweatshops are true, international labour standards are still not the answer. Opponents of sweatshops would make more headway by looking for ways to expand the options of sweatshop workers by increasing mobility across national borders. Relaxing restrictions on international labour mobility would substantially increase standards of living for the poor. 

Progressives are enthusiastic about microfinance programmes, and while these are probably a step in the right direction they are unlikely to fully alleviate poverty. In a book that is available as a free download, economist Lant Pritchett argues that the increase in earnings associated with a lifetime of access to microfinance programmes is roughly equal to the increase in income associated with working in the United States for eight weeks. This suggests that the appropriate policy is not to strengthen labour standards but to open borders and allow people to cross them freely.

The authors will explore these issues at greater length in the December 2009 issue of Economic Affairs.

The government recently announced a series of measures designed to make Britain a low-carbon economy, including a large expansion of renewable energy (primarily wind), grants for better home insulation and a so-called green transport strategy. Under the Climate Change Act, the UK is “legally bound” to reduce CO2 emissions by at least 26% by 2020 and 80% by 2050 (relative to 1990 levels).

Meeting such ambitious targets will require substantial investment and while ministers have emphasised alleged advantages, such as the creation of 400,000 “green jobs”, there has been little acknowledgement of the wider economic impact.

Higher energy bills and transport costs are likely to be devastating for many businesses. Some enterprises will be forced to close. Others will relocate to locations where energy and transport are cheaper and environmental regulations less burdensome. In some instances, potential entrepreneurs won’t even bother starting new ventures in the UK. Overall, jobs are likely to be lost rather than created.

Then there is the impact on the less well off. People on benefits, for example £64 per week Jobseeker’s Allowance, may already be using around one third of their (non-housing) incomes to pay utility bills inflated by existing environmental policies.

If this share increases further, there will be strong pressure to raise welfare benefits and winter fuel payments to compensate. Taxes will have to rise accordingly and the already weak incentives to enter low-paid work will be further undermined.

However, the most devastating impact of climate change policy is likely to be on the developing world. While some middle income countries may benefit initially from the flight of businesses from rich nations, it is unrealistic to think that a large upward shift in the level of political control and central planning can take place in the West without negatively affecting the Third World.

The resulting misallocation of resources will hamper entrepreneurship and innovation leading to reduced wealth creation. And restricted and constrained markets will inevitably limit the opportunities for trade, thereby hindering economic development.

The impact of climate change policy therefore goes far beyond landscapes ruined by wind turbines and higher electricity bills. Big cuts in CO2 emissions are likely to prolong the misery of hundreds of millions of the world’s poorest.

The status of women in the Muslim world is a controversial subject. The position accorded to women by Qur’an and Sunnah of the Prophet differs vastly from practice within various Muslim societies. Over the centuries, various pre- and post-Islamic cultural values have crept into the body of religious corpus and have become embedded as “God’s laws”. 

Well-defined and well-enforced property rights are one of the fundamentals for prosperity. In particular, women’s property rights are fundamental to women’s own economic security as well as wider economic development.

Our analysis of six different Muslim countries has concluded that the correct application of the rights granted by Islam can encourage female empowerment and promote the generation of wealth. The present lack of women’s property rights is classic example of institutional disconnect between theory and practice in Muslim countries.    

Most Westerners and many in the world of Islam are unaware of the rights granted to women by Islamic Law. These comprise independent ownership of property and the right to trade, buy or sell. Islam has provided clear cut strategies for empowering women – to augment their status, and to add to the social and economic wellbeing of society. The full and proper implementation of women’s property rights and the consequent economic freedom will promote female entrepreneurship.

Women’s status becomes particularly important when they are responsible for managing loans and savings. They benefit from microfinance services that enable them to generate and control their own income. Research shows that credit extended to women has a significant impact on their families’ quality of life and especially benefits their children. The enforcement of property rights also brings immense social gains and strengthens the position of the underprivileged, the most fundamental tenet of Islam. Asset control gives women greater confidence and decision-making power within households and helps protect against the risk of domestic violence.

It is clear that if Muslim countries acted to bring their laws, and even more importantly their practices, in conformity with the Qur’an and the practice of Prophet Muhammad, they would ensure well-protected property rights for women.  It is crucial that Muslim countries and societies focus on identifying and eliminating discriminatory practices, including complex or antiquated legal systems and the local customs and traditions which are often conceived as part of Islam. They must create and implement policies that empower women to own, administer and manage property.  

Islam provided the platform for these steps 1,400 years ago. It is time for Muslims to use that platform.  

This article is based on the research paper “Muslim women and property rights” by Azhar Aslam and Shaista Kazmi, published in the June 2009 edition of Economic Affairs.