21 April 2008

Brazil's Development Conundrum

by Paulo Gala Currently in Brazil heterodox economists form the majority in President Lula's government. This is a very different situation compared to Lula's first term. Brazilian Keynesians and development economists are now in key positions in the Brazilian Development Bank (BNDES), Finance Ministry, research institutes, at the World Bank and even the IMF. To name a few, Guido Mantega has been historically connected to developmentalism and so have economists in his team such as Nelson Barbosa. BNDES' president: Luciano Coutinho is one of the country's leading industrial policy specialists. Marcio Pochman, Joao Sicsu and a number of others are now the leading thinkers at IPEA: one of the most important government institutes for long term planning and research in the country. The Brazilian representative at the IMF, Paulo Nogueira Batista, is a long time critic of the Central Bank and neoliberal policies in Brazil. The President's small circle of influential advisors are also composed of hetorodox economists. Delfim Netto is a former USP (University of Sao Paulo) professor and was "czar" of the economy during the Brazilian miracle in the seventies. Luiz Gonzaga Belluzo is a former UNICAMP's (Universirty of Campinas) professor and long time critic of neoliberalism in Brazil. Conceicao Tavares is a former UFRJ's (Federal University of Rio) professor and has been advising the President since his first term. But the overwhelming presence of heterodox economists in these influential positions does not mean that developmentalist policies are comprehensively adopted. This is particularly because the central bank remains orthodox with total control over monetary and exchange rate policies. Though quantitatively in the minority these economists remain very powerful because of their close connection to the President and the fears of inflation that still haunt him. As some say, the Central Bank is the bunker of orthodox economists in Brazil today, the ones that survived from Lula's first term. Backed by the Bank's President Henrique Meirelles, these economists have been dictating key pillars of economic policy for a long time now. One cannot find a single economist close to a developmentalist viewpoint on the board of directors of the Central Bank. With a fully orthodox team, the central bank's main objective is to keep inflation under control. The result of this ambiguous composition of government is a twofold economic policy, as some have observed. Dialogue between the Finance Ministry and the Central Bank is harsh, to the extent that it exists at all. Policies adopted by the Ministry usually run in the opposite direction to what economists in Bank are doing. This has reached the stage where in a recent interview Guido Mantega mentioned that for every basis point of interest rate increase by the Bank, the Ministry levies taxes of the same amount on capital inflows to avoid exchange rate appreciation. This tax (the IOF) has been raised to 1,5% this year. It goes without saying that the economists in the Bank couldn't disagree more with these measures. The same phenomenon can be observed with respcet to fiscal policy. Through the new "Plano de Aceleração do Crescimento" (PAC) the central government has been increasing public investment in infrastructure, thus stimulating demand and growth. The Central Bank fears overheating of the economy and has been arguing for budget cuts, particularly with respect to government consumption. Actually, this is where most Brazilian economists seem to be in agreement. A cut in government consumption expenditure (as opposed to investment expenditure) would help manage aggregate demand. It would avoid the negative consequences of further interest rate hikes in the form of exchange rate appreciation and disincentives to investment in tradable sectors of the economy. President Lula doesn't seem to like this kind of reasoning, though. On April 16th, the Brazilian Central Bank decided again on the level of interest rates. There is a wide consensus among economists in the financial sector that the rate should be raised by at least 0.25 bps. According to some, inflation might be going out of control again. There is a chance that the target of 4.5% per year imposed by our inflation targeting system will not be met. According to the economists in the Finance Ministry there is no need to increase short term rates now because capital accumulation is growing strongly in the country (15% per annum). Installed capacity will increase in the near future which is the main guarantee for keeping inflation rates under control in the long term. But once again, the Central Bank and development economists don't agree on this. In conclusion, it seems fair to say that economic policy in Brazil has been split by the president into two often contradictory parts. The developmentalists in the Finance Ministry manage fiscal policy and the orthodox economists in the Central Bank manage monetary and exchange rate policies. The outcome of this arrangement will be neither developmentalist nor monetarist. Rather it will result in moderate growth and moderate inflation.
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Paulo Gala received Master and PhD degrees in Economics from the Sao Paulo School of Economics, Getulio Vargas Foundation. He is the author of several papers, articles and book chapters on the following subjects: Macroeconomics, Development Economics and Economic Methodology. Currently, he is a professor at the Sao Paulo School of Economics, Getulio Vargas Foundation.pgala3@gmail.com

02 April 2008

Economics and development choices

By Sumita Kale “It is true that the economic man is dead, but his funeral rites still remain to be properly celebrated by his legitimate heir, the behaviouristic man, who has emerged from the laboratories of the psychologist but has not yet taken his rightful position in the centre of economics.” No, this is not a quote from a modern behavioural economist, it was written eighty years ago, in 1925. This post is a tribute to a man who got the essence of economics right – Prof. Radhakamal Mukherjee, considered a leading sociologist and environmentalist but forgotten by economists. Reading Mukherjee is baffling, one wonders why the simple propositions were not taken seriously and were actually discarded, leaving economics to be a truly dismal discipline, bound in narrow confines by its graphs and equations. Thankfully some of his books are available online – Borderlands of Economics, Principles of Comparative Economics, Foundations of Indian Economics etc. Mukerjee’s take on economics is quite different from the way it is taught today- he blended it with geography, sociology and psychology, he brought in elements of biology and philosophy. This is an economics that makes a lot of sense. For instance, he divides the economic environment into three parts – Ecologic - comprising the climate and topography, land resources, mineral and water resources, plants, animals and man’s inter-relationships with the physical environment as indirectly affecting economic life Mechanical or technic - tools, weapons, capital and technology, systems of production, mechanisms of exchange, banking, instruments of credit etc. and Institutional - State, social groups, law, tradition, standards of social values and ideologies, private property, custom or competition etc. Economics should concern itself with all three, and not merely the second i.e. the price-cost economics. He went on to distinguish between laws, norms and ideals. The ecological environment is governed by laws, which have the same certainty as the laws in physical sciences. The mechanical or price and cost economics yields the norms of consistent action, an abstraction which can be justified only on the basis of statistical generalisations of past experiences or of a necessary law in ecological economics which produces it. The third gives rise to the ideals and policies of what men ought to do in concrete economic situations. He also brought in the aspect of time as being crucial since ‘laws, ‘norms’ and ‘ideals’ of economic activities are reached by a process extended over time. Without a clear understanding of these three categories, he said, economic analysis and prescription would be confused and divorced from reality. And this is actually what has happened, economics today is open to the charge of being an autistic discipline (check out the Post-Autistic Economics Network). It was in the divide between the village and the city that Mukherjee lost the debate on the path to follow for development – most modern planners wanted India to grow through cities, the Western model, while he saw this model as one that would lead to a breakdown in social stability. He decried the idea that villages are the source of energy and labour and the cities, the hub of growth. Rather than let villages be subservient to cities, he wanted them to live a life of their own, be vibrant with skills and knowledge, he wanted to bring industry to villages, to let villages grow into cities. For him the solution lay in setting up cooperatives, not just for providing credit, as is popular, but also to give the necessary support for farm inputs, marketing the produce etc. Revitalising agriculture was one step, the next was to enable diversification of economic activity in the village, away from agriculture – this was the opposite of the migration model that pushed people to the cities. Some of Mukherjee’s prescriptions were anathema to modern thinking – he saw the caste system as a source of social cohesion in India society, for instance. But what we have seen now is that somewhere in the quest for industrialisation and growth, the balance has been lost. The rural-urban divide continues to grow, a direct fallout of an imperfect understanding of the socio-economic reality. In 1916 Mukherjee wrote, “ How to bring life and progress to our villages is one of the most serious economic problems of the day.” Unfortunately, this remains a grave problem in the world today. Last year marked the milestone where the world became more urban than rural, but this is not quite an occasion to celebrate. To quote Prof.Wimberly, “So far, cities are getting whatever resource needs that can be had from rural areas. But given global rural impoverishment, the rural-urban question for the future is not just what rural people and places can do for the world’s new urban majority. Rather, what can the urban majority do for poor rural people and the resources upon which cities depend for existence? The sustainable future of the new urban world may well depend upon the answer.” One can argue that a large part of the world’s current concerns on poverty, environment etc. could have been avoided if a more holistic view on development had been taken by economists and policy makers. Of course there will always be opponents to this view, but for them the counter argument would be : ‘unless you think outside your box, how would you know you are in the right box?”