Thoughts on financial liberalisation

Lord Turner's speech at the 14th CD Deshmukh Memorial Lecture in Mumbai examines the costs and benefits of financial liberalisation. The concluding section highlights the practical problems facing policy makers:
And more generally, the sensible conclusion on the overall benefits of financial intensity and financial liberalisation, would seem to be that it is valuable up to a point in some markets, but not in all markets and not limitlessly   There is a strong case that the development of a modern financial system, combining banks and corporate bond and equity markets, retail and wholesale insurance services is strongly favorable for economic growth. Walter Bagehot argued in Lombard Street that the sophistication of the nineteenth century British banking system enabled the UK more effectively than some continental European countries to mobilize savings which might otherwise have lain dormant, and there are a number of studies which illustrate either cross sectional or time series correlations between the development of basic banking and financial systems and economic growth.²⁶  It is highly likely that in India financial deepening, in the sense of the extension of basic banking services and sound credit extension to sectors of the population currently largely outside the banking system, would be positive for welfare and growth.


Well developed corporate bond markets which enable non-bank debt finance to flow in a simple transparent form to corporate borrowers and can play a major beneficial role in financing investment. And competition in basic banking services, including competition by global banks with transferable skills and willing to make long term commitment to a country is likely to prove a beneficial form of liberalisation.

But we cannot extrapolate from the beneficial impact of financial deepening and sophistication up to a point, and assume that still more financial deepening, innovation and complexity is limitlessly beneficial. That if a good basic banking system benefits a country so too does ever more active trading in all categories of derivative. And it is possible that beyond some point, increased financial intensity, measured by the many sorts of indicators which I considered earlier, may cease to deliver positive benefits or indeed have negative effects. 
We do not know for sure and the truth is likely to differ between different markets. The problem for regulators and central bankers is that this conclusion does not provide us with nice easy answers on which to base policy. It might be optimal simultaneously to seek to make one market (say spot equities) more liquid and more efficient in a technical sense, while in another market (eg, complex bi-lateral CDS contracts) to be indifferent if capital requirements and collateral management rules result in the market dwindling in size.  Such a complex conclusion will make many people uneasy. It is much easier to proceed in life on the basis of a clearly defined and simple credo which provides the answer to all specific issues. But it is more likely to produce good results if we live in the real world of complex trade-offs and of relationships which are true up to a point.

Ormerod on how economics should be taught

Paul Ormerod's lecture at the LSE debate is available here

Some highlights:

I think that a serious problem with the way much economics is taught is that theorems are presented as if – that’s one of our favourite phrases, as if, so I can’t resist getting a mention of it in early – as if they had the same standing as, say, propositions in engineering textbooks. This is very far from being the case. Economics is much more a way of thinking about the world than learning about undisputed, scientifically settled theorems.


We should be teaching much more about empirical evidence on agent behaviour from the discipline of psychology instead of insisting on a single approach which is everywhere applicable or whose assumptions can only be ‘relaxed’ at a later stage.
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the fundamental points that, first, economics is a way of thinking about the world and not a set of theorems. Second, it must be empirically based. We must be teaching students to think about the appropriate assumptions on agent behavior in different contexts.
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when the American authorities saved the world in September 2008, they didn’t do so by consulting rational expectations and dynamic stochastic general equilibrium models. They acted, in conditions of great uncertainty, relying to a large extent on the economic history of the 1930s and hoping that it had something to teach them.
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This is the one point I think it is essential to teach students. Tastes and preferences are in general not fixed, but can be altered by the behavior of others, not just indirectly via the price mechanism, but directly. We have only to look at the modern world to see how pervasive this phenomenon is. As a result, for example, market demand and supply functions become non-additive.
In the past 10 to 15 years there has been an explosion of work in other disciplines, physics, mathematical sociology, computer science, anthropology, on social networks, both in theory and in practice. And in particular on how cascades of behavior either spread or are contained across such networks. Economists in general have only the haziest idea, if they have heard of it at all, about such work. Yet it is fundamental to understanding how the modern social and economic world works.

Bt Brinjal

The Indian Government has put a hold on granting permission for cultivation of Bt Brinjal in the country - the Minister for Environment has been holding discussions across the country to get different opinions -

(The Hindu): The Minister’s decision comes after a month of public consultations in seven cities, which were attended by approximately 8,000 people. They were organised after widespread protests against the Genetic Engineering Approval Committee’s (GEAC) recommendation of approval of Bt brinjal in October 2009.

Mr. Ramesh attributed the decision to several factors: lack of clear consensus among the scientific community; opposition from 10 State governments, especially from the major brinjal-producing States; questions raised about the safety and testing process; lack of an independent biotechnology regulatory authority; negative public sentiment and fears among consumers and lack of a global precedent.

“My decision is both responsible to science and responsive to society,” he said adding he did not come under pressure from any quarter in arriving at the decision.

This has come under much criticism, see edit in Indian Express, 'By playing to the gallery, Ramesh has not only withheld from the farmer an option that could increase productivity and drastically cut pesticide use. He has also undermined the institutional mechanism that has sustained this country’s cautious introduction of GM seeds like cotton and that is in the process of clearing other food crops like rice, okra and tomato.'

Clearly there is no consensus on this issue. An article in the Indian Journal of Medical Ethics raised another point, that is usually not mentioned in the public discussion:

The gene transfer in Bt brinjal involves two antibiotic resistance marker genes for resistance to Kanamycin and Streptomycin. These are important drugs among the very few that we have in our armamentarium against tuberculosis. Mahyco states that these genes need a bacterial promoter for their expression, which would not be present in Bt brinjal. However there is a possibility that these genes can spread to other pathogenic bacteria by horizontal gene transfer and become active

The testing requirements for GM crops are more lax than those for drugs. Drug trials are conducted in five stages, with the first stage, known as pre-clinical studies, involving only animals. Safety and efficacy issues in humans are addressed in the remaining phases. Government guidelines for research in transgenic seeds or plants only require toxicity (with testing periods of 14 to 90 days) and allergenicity tests (with testing periods of 14-37 days).

It is surprising that regulations for a product meant predominantly for human consumption do not insist on human trials. Though the guidelines state that information related to toxicity and allergenicity to both humans and animals must be generated by the developer, Mahyco's toxicology studies have been performed only on animals and are therefore equivalent only to the pre-clinical studies that are prescribed for drug trials. Save a test that demonstrates that the toxin is undetectable within one minute of cooking, there are no other tests that demonstrate the safety of Bt brinjal for human consumption. It must be noted that Bt tomatoes and Bt cabbage (currently under development) would often be eaten raw. It is estimated that a kilogramme of Bt brinjal would contain 5-47 mg of the toxin, 100 times the minimum inhibitory concentration (MIC95) for the pest larvae .

The safety assessments done so far cannot exclude the possibility that humans may develop resistance to antibiotics, allergies or biochemical abnormalities due to the toxin. A number of reputed scientists have expressed concerns about GM foods. Jeffrey M Smith's Genetic Roulette(23) has a long, fully referenced list of the health risks of genetically engineered foods.

Gender imbalance and high savings rate in China

A new angle to the high savings rate in China comes from Shang-Jin Wei ' The mystery of Chinese savings'.
Given its far-reaching effects, both private sector analysts and policymakers have attempted to trace the causes of China’s high savings rate and to predict how long it will last. Some have attributed the savings primarily to Chinese corporations. Others point to a precautionary savings motive – as Chinese are worried about costs of healthcare, education, and old-age pensions and are unsure about how much these costs might change over time, they save more.
In my recent research paper with Xiaobo Zhang (Wei and Zhang 2009), we hypothesised that a social phenomenon is the primary driver of the high savings rate. For the last few decades China has experienced a significant rise in the imbalance between the number of male and female children born to its citizens.

There are approximately 122 boys born for every 100 girls today, a ratio that means about one in five Chinese men will be cut out of the marriage market when this generation of children grows up. A variety of factors conspire to produce the imbalance. For example, Chinese parents often prefer sons. Ultra-sound makes it easy for parents to detect the gender of a foetus and abort the child that’s not the “right” sex for them, especially as China’s stringent family-planning policy allows most couples to have only one or two children.

Our study compared savings data across regions and in households with sons versus those with daughters. We found that not only did households with sons save more than households with daughters on average, but that households with sons tend to raise their savings rate if they also happen to live in a region with a more skewed gender ratio. Even those not competing in the marriage market must compete to buy housing and make other significant purchases, pushing up the savings rate for all households.

While the conventional explanations for the high savings rate all play a role, this new research indicates those explanations are not as important as people previously thought. While sociologists and other social scientists have looked at the gender ratio imbalance as a social problem, they have not looked at it in relation to the high Chinese savings rate. Similarly, as economists and policymakers have looked with concern to the large Chinese current account surplus and large US current account deficit, or global imbalances, much of their discussion has focused on changing exchange rate policy.

None of the discussion about global imbalances has brought family-planning policy or women’s rights to the table, because many do not see these issues as related to economic policy. Our research suggests that this is a serious omission. You can only implement the right policy when you have the appropriate diagnosis, and fruitful policy dialogue has to include discussion on these issues.

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A fascinating and thought-provoking paper indeed.