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How Could Arab Oil Exporters Respond to the New Global Oil Order: Graduate to Rule-based Macroeconomic Institutions

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Ibrahim Ahmed Elbadawi - Economic Research Forum
ERF Conference on “Arab Oil Exporters: Coping with a New Global Oil Order”
How Could Arab Oil Exporters Respond to the New Global Oil Order: Graduate to Rule-based Macroeconomic Institutions

Kuwait, November 26-27, 2017
www.erf.org.eg

Published in: Government & Nonprofit
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How Could Arab Oil Exporters Respond to the New Global Oil Order: Graduate to Rule-based Macroeconomic Institutions

  1. 1. How Could Arab Oil Exporters Respond to the New Global Oil Order: Graduate to Rule- based Macroeconomic Institutions Ibrahim Ahmed Elbadawi Economic Research Forum (ERF) Conference on “Arab Oil Exporters: Coping with a New Global Oil Order” Economic Research Forum (ERF) and the Arab Fund for Economic and Social Development (AFESD) Kuwait, November 26-27, 2017
  2. 2. 2 Outline 1.Issues and Key messages 2.How have Resource-Dependent MENA (RD-MENA) fared under the New Global Oil Order/New Normal? 3.How should/Could RD-MENA Respond to the New Global Oil Order? 4.The “Could” might be feasible: the Political Economy of “knowledge/ideas” vs “interests”
  3. 3. 3 Issues and Key messages
  4. 4. 4 Issues and Key Messages  Since the global recession, advanced economies, as well as the global economy, were claimed to have transited into a “new normal” of long term lower expected output and employment growth, as firms and consumers needed to deleverage extensively (M. El-Erian, 2009), the manifestations of which are:  Low demand for oil, minerals and other commodities, though supply side are also at play regarding the global oil markets (the oil outlook session)  The “secular stagnation” of advanced economies, which could have global consequences (Larry Summers)  And, the ensuing slow down in global demand was further reinforced by the maturing of the Chinese economy into still high but lower expected growth rates
  5. 5. 5 Issues and Key Messages  There is now a robust body of empirical evidence in support of the “new normal” thesis (e.g. Revisiting the New Normal Hypothesis: B. Candelon et al, 2015): ▪ Since the global economic recession of 2009, banking, inflation, debt, currency and stock market crises tend to have long term negative effects on growth ▪ The growth consequences have started to affect developing and emerging market economies, especially: • Upper middle-income countries • Commodity exporters; and • Highly globally integrated economies
  6. 6. 6 New Normal- impact on commodity prices Commodity prices were very volatile over the last decade Figure 2: Commodity prices, 2007-2017 (nominal, US$) Source: World Bank, Global Economic Monitor Commodities 20 40 60 80 100 120 140 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09 May-09 Sep-09 Jan-10 May-10 Sep-10 Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Jan-13 May-13 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Sep-15 Jan-16 May-16 Sep-16 Jan-17 May-17 Food Crude oil Metals and minerals
  7. 7. 7 New Normal- slowing global productivity Figure 4: Total Factor Productivity Growth, 1990-2016 Source: IMF (2017)
  8. 8. 8 UN perspective: Development Economics and Social Affairs Department (Policy Issues No. 9)  The question of whether developed economies are stuck with low- growth, low investment, low inflation and low interest rates—and how such a scenario could possibly be averted—has triggered a fruitful debate among eminent economists  Bradford DeLong (2016) recently called this “the most important policy-relevant debate in economics since…the 1930s”  In fact, the importance of this debate can hardly be overstated as the economic performance of developed countries is a key determinant for an enabling environment of the 2030 Agenda for Sustainable Development (SDGs) ▪ Long term stagnation in developed countries could act as a major headwind for growth and poverty reduction in developing countries ▪ Create instability in trade and financial markets, and reduce the amounts of investment and concessional finance available, including for the Least Developed Countries
  9. 9. 9 Issues and Key Messages  So, how should RD-MENA respond to the “new normal” of the “emerging oil order” and the consequences of “secular stagnation”? ▪ Standard adjustment programs are only good for the short run ▪ Rules-based not discretionary macroeconomic policy should/could be the main counter-cyclical stabilizing instruments in the medium to longer runs ▪ “Structural transformation growth” could be a crucial development goal, now that the prospects for “Fundamental growth” may be fairly limited on view of declining global demand
  10. 10. 10 Issues and Key Messages  However, how “could” the region make this transition: role of Knowledge and Ideas vs Interests: ▪ Rules-based macro institutions were adopted by countries with “good” political and economic governance ▪ However, autocrats, business lobbies, labor movements …etc., might also adopt “efficient” policies and institutions, should they attains the right “knowledge” and “ideas” to protect their “interests” (Dani Rodrik) ▪ Moreover, both “ideas” and “interests” are endogenous and subject to perceptions about “identity” and “world view/changing conditions”
  11. 11. 11 How have RD-MENA fared under the Emerging Oil Order?
  12. 12. 12 Rate of Growth: MENA vs East Asia Source: World Development Indicators, World Bank -5 0 5 10 15 20 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 East Asia & Pacific Middle East & North Africa Figure 5
  13. 13. 13 Rate of Employment: MENA vs East Asia Source: World Development Indicators, World Bank 40 45 50 55 60 65 70 75 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 East Asia & Pacific Middle East & North Africa Figure 6
  14. 14. 14 New Normal- impact on growth and employment  Overall, economies experienced lower growth and persistently high unemployment  However, the impact differs across countries: ▪ Populous oil economies are most affected ▪ GCC also affected but able to partially cushion the shocks their ability to draw from SWFs and smooth expenditures ▪ Oil importers were also severally affected
  15. 15. 15 New Normal- macroeconomic policy stance- non-GCC  Most countries that fared badly were not well prepared for the shocks: ▪ Fiscal policy was excessively expansive as an instrument for shoring up a non-sustainable social contract ▪ Monetary policy largely ineffective due to fiscal dominance ▪ Inadequate fiscal adjustment and structural rigidities led to inflationary response to the much needed exchange rate reforms (e.g. Sudan and possibly Algeria)
  16. 16. 16 New Normal- macroeconomic policy stance- GCC  Deep fiscal pockets continue to support the credibility of the dollar peg regimes  However, divergent fundamentals with the economy of the anchor currency (the USA) remains a continues source of macro instability: ▪ Inflationary spells under weak dollar/high oil prices ▪ Currency appreciation under strong dollar/low oil prices  Moreover, on the view of the relatively long term secular nature of the new normal, smoothing current expenditure is not sustainable
  17. 17. 17 A Tale of Chile vs RD-MENA  Chile: ▪ Collapse of copper prices in 2014 ▪ Massive nominal devaluations of the Peso to absorb the shocks ▪ However, overall strong institutions, structural fiscal policy and inflation targeting ensures that inflation remained in check at single digits ▪ RER depreciated considerably allowing export-oriented agriculture and industry to expand quite considerably ▪ Unemployment remained stable, as labor shed of the mining sectors were absorbed by the two expanding sectors  Sudan and (Algeria): ▪ Oil and gold prices collapsed post 2008 and further declined since 2014 ▪ Massive nominal devaluations of currencies in the two countries ▪ Unfortunately, the devaluations were accompanied by high inflation ▪ RER either remained high or in fact appreciated, so no medium to longer runs gain on competitiveness were achieved ▪ Unemployment remained high and the high inflation undermined purchasing power and created instability  Lessons for the Political Economy
  18. 18. 18 How should/Could RD-MENA respond to the emerging oil order?
  19. 19. 19 Responding to the New Normal- two major development policy lessons  Build institutions to reach the “macroeconomic policy frontier” that is more capable to: ▪ Absorb short term external shocks ▪ Respond to secular long term downturns without substantially undermining long-term development goals (e.g. SDGs)  Exploit “Structural Transformation” growth to augment relatively sluggish “Fundamental Growth” under the New Normal
  20. 20. 20 Responding to the New Normal: macroeconomic policy frontier
  21. 21. 21 Responding to the New Normal- Frontier macroeconomic Framework  Graduate from discretionary to rule-based macroeconomic policy: fiscal and monetary/exchange rate policy ▪ Structural fiscal policy: Fiscal rules ▪ Stabilization/development funds  Exchange rate regimes responsive to shocks and with credible nominal anchor and free from fiscal dominance: ▪ Fixed: pegged to export commodity plus currency basket (CCB: Jeff Frankel) ▪ Flex: establish a coherent and credible nominal anchor (Inflation targeting: IT); or target index of product prices (PPT: Jeff Frankel)
  22. 22. 22 Illustration: Chile’s Structural Fiscal Policy (Jeff Frankel)  1st rule – Governments must set a budget target,  2nd rule – The target is structural: Deficits allowed only to the extent that ▪ (1) output falls short of trend, in a recession, or ▪ (2) the price of copper is below its trend.  3rd rule – The trends are projected by 2 panels of independent experts  Result: Chile avoided the pattern of many other governments, where forecasts in booms were biased toward optimism
  23. 23. 23 Illustration: Chile’s Structural Fiscal Policy (contd.)  In 2000 Chile instituted its structural budget rule  The institution was formalized into law in 2006.  The structural budget surplus must be… ▪ 0 as of 2008 (was higher before, lower after), ▪ where “structural” is defined by output & copper price equal to their long-run trend values.  This mean that in a boom the government can only spend increased revenues that are deemed permanent; any temporary copper bonanzas must be saved  However, in a bust the planned budget could be financed from the SWF savings
  24. 24. 24 Illustration: Chile’s Structural Fiscal Policy- The Pay-off (Frankel)  Chile’s fiscal position strengthened immediately: ▪ Public saving rose from 3 % of GDP in 2000 to 8 % in 2005 ▪ Allowing national saving to rise from 21 % to 24 %  Government debt fell sharply as a share of GDP and the sovereign spread gradually declined  By 2006, Chile achieved a sovereign debt rating of A ▪ several notches ahead of Latin American peers  By 2007 it had become a net creditor  By 2010, Chile’s sovereign rating had climbed to A+ ▪ ahead of some advanced countries  => It was able to respond to the 2008-09 recession
  25. 25. 25 Illustrations- Inflation Targeting- The Payoffs in the post 2008 Global Economic Recession (Schmidt-Hebbel and Carrasco, 2015)  ITers lowered policy rates by more and this translated into larger real interest rate differentials than in NITers (De Carvalho Filho 2010)  This implied that ITers were less likely to face deflation scares, saw sharper real depreciations, and had lower unemployment rates than NITers  Among AEs, ITers exhibited relatively stronger growth performance than NITers. Roger (2010) also finds that macroeconomic forecasts were less affected by the financial crisis in ITers, compared to NITers  Fry-McKibbin and Wang (2014) show that IT has worked better for AEs: inflation and GDP growth were found to be higher and unemployment lower. But no significant differences for EMDEs.
  26. 26. Countries with Fiscal Rules, 1985-2013: No RD-MENA country joined the club Source: Schmidt-Hebbel and Soto (2017) Figure 12
  27. 27. IT- Spreading of IT among AEs and EMDEs: 1990- 2015: Only Turkey from MENA 11 25 0 5 10 15 20 25 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Advanced Economies Emerging Market and Developing Economies Source: Schmidt-Hebbel and Carrasco (2015). Figure 13
  28. 28. 28 Responding to the New Normal: structural transformation growth
  29. 29. 29 Responding to the New Normal: Structural Transformation Growth  Labor productivity growth in an economy can be achieved in one of two ways: ▪ First, productivity can grow within economic sectors through capital accumulation, technological change, or reduction of misallocation across plants ▪ Second, labor can move across sectors, from low- productivity sectors to high-productivity sectors, increasing overall labor productivity in the economy     N i titi N i titit yyY 1 ,, 1 ,1, 
  30. 30. 30 ST Growth across the developing world Figure 14: (Rodrik et al, 2017): Decomposition of Productivity Growth by Country Group, 1990-2005 (weighted averages) Source: Rodrik et al. (2014)
  31. 31. 31 Structural Transformation Growth: Lessons and main results (Dani Rodrik)  Large gaps in labor productivity between the traditional and modern parts of the economy are a fundamental reality of developing societies  Since 1990 structural change has been growth reducing in both Africa and Latin America  The bulk of the difference between these countries’ productivity performance and that of Asia is accounted for by differences in the pattern of structural change—with labor moving from low to high- productivity sectors in Asia, but in the opposite direction in Latin America and Africa  However, things seem to be turning around in Africa: after 2000, structural change contributed positively to Africa’s overall productivity growth
  32. 32. 32 Structural Transformation Growth: Lessons and main results (Dani Rodrik)  Countries with a comparative advantage in natural resources run the risk of stunting their process of structural transformation  The risks are aggravated by policies that allow: ▪ The currency to become overvalued, and ▪ Place large costs on firms when they hire or fire workers  Moreover, structural transformation requires a sectoral technology/productivity promotion strategy (e.g. Singapore)
  33. 33. 33 Structural Transformation Growth: Lessons from Singapore (Elbadawi and Refaat, 2015)  1960s: Established the Economic Development Board to attract foreign investment  1970s: Introduced Tax incentives to attract high tech investment, were initially set at a 5-year period of exemption in 1970 then the period of exemption increased to a 10-year period in 1975. This policy reduced production costs by 33%.  1980s: Focused on upgrading the skills of its labor market of Singapore  1990s: Raised the bar by heavily investing in technology through developing institutions, such as the National University of Singapore
  34. 34. Illustration: Singapore sectoral productivity differentials during 1970-1990 (Elabadwi and Refaat, 2015) 34 Figure 15
  35. 35. Illustration: Singapore in 1990 (Elabadwi and Refaat, 2015) 35 Figure 16
  36. 36. Illustration: Singapore sectoral productivity differentials during 1990-2011 (Elabadwi and Refaat, 2015) 36 Figure 17
  37. 37. Illustration: Singapore in 2011 (Elbadawi and Refaat, 2015) 37 Figure 18
  38. 38. 38 Political Economy: Knowledge/Ideas might trump Interests
  39. 39. 39 Knowledge/Ideas might trump Interests  It is perhaps not surprising that No RD-MENA join the clubs of Fiscal Rules or Inflation Targeting ▪ Political Checks & Balances and Transparency are robustly associated with the phenomena  So, RD-MENA will not likely to reach the “macroeconomic institutional frontier” under the prevailing political governance: ▪ The received political economy literature ▪ Interests reign supreme  However, “interests” are endogenous and might be contested by “ideas”: ▪ Explicit role of Ideas as a catalyst for policy and institutional change (Dani Rodrik) ▪ Examples from development experiences
  40. 40. 40 Thank You

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