One of the most intriguing and controversial dimensions of the globalization debate has been about the distribution of jobs and incomes in any industry between the host country and foreigners and among different categories of workforce in each.
In this context Greg Linden, Jason Dedrick and Kenneth L. Kraemer, who studied how the quintessentially American iPod has created jobs and profits around the world, have several interesting findings. Chrystia Freedland has a nice analysis of its findings here. The authors show that in 2006, the iPod employed nearly twice as many people outside the United States as it did in the country where it was invented — 13,920 in the United States, and 27,250 abroad. Of the foreign jobs, fewer than half, 12,270, are in China, and 4,750 are in the Philippines.
As regards salaries of these workers, the study shows that though most iPod jobs are external, the major share of total iPod salaries are in the US - the 13,920 American workers earned nearly $750 million, to less than $320 mn for the 27,250 non-American Apple employees. More stunningly, while more than half the US jobs, 7,789, went into low-skill retail and other non-professional workers (office support, freight, distribution etc) who earned just $220 mn, the 6101 engineers and professionals took home $525 mn.
This finding goes against the conventional simplified arguments against globalization that it causes job losses and reduces earnings for host country workers. The iPod economy is far more nuanced than such explanations. Since Apple is able to leverage the cheaper cost of production outside, its profitability increases. However, this profit is not widely shared. Since it keeps most of its R&D inside the US, its small number of higher skill workers reap a windfall. The same eludes the other non-professional workers in the US. Similarly, though workers in China and elsewhere gain jobs, their relative financial gains are marginal.
The biggest winners from globalization are the companies themselves, Apple in this case, and its scarce high-skill employees. It cannot also be denied that, despite their low financial value-added, workers in many emerging economies gain significantly. The big losers in the iPod economy appear to be the similarly skilled American workers who are outbid by the lower wage workers of emerging economies.
This forms further confirmation of the Samuelson-Stolper theorem which states that "unskilled workers producing traded goods in a high-skill country will be worse off as international trade increases, because, relative to the world market in the good they produce, an unskilled first world production-line worker is a less abundant factor of production than capital". In other words, labor intensive imports from developing countries exercises a depressing effect on the real wages of less-skilled workers (who are relatively less abundant in developed economies).
Saturday, July 9, 2011
Friday, July 8, 2011
China's Local Government Debts
One of the most intriguing questions for Indians marvelling at China's spectacular economic growth is about how its government manages to finance a never-ending shelf of mega infrastructure projects entailing extraordinary investments. For all its governance failures, corruption, resistance to reforms and recent political paralysis, the fundamental problem for a chronically infrastructure deficient India remains paucity of resources to finance its massive infrastructure requirements.
The contrast with a flush-with-funds China is stark. However, as the Times points out in an excellent article chronicling the challenges facing China's increasingly infrastructure investment dominated economic growth push, things may not be as rosy as it appears across our northern borders.
As the Great Recession took hold, the Chinese government stepped in with a mssive $580 bn stimulus package. Local governments across China borrowed heavily from state-owned banks and pumped money into infrastructure. Infrastructure replaced exports as the engine of economic growth.
The Times reports that spending on so-called fixed-asset investment (infrastructure and real estate projects) is now equal to nearly 70% of the nation’s GDP, a sign of dangerous over-dependence on infrastructure spending. It is a ratio unheard of in modern times for any nation, with the ratio being just 35% for Japan during its 1980s building boom and 20% for US for decades now.
Now this model is becoming unsustainable as local government debts, cleverly hidden from the local government balance sheet through accounting tricks, mount and repayment strains start appearing. The National Audit Office recently released figures showing that the local governments had amassed 10.7 trillion yuan ($1.65 trillion) in debt as of the end of December, amounting to 26.9% of GDP in 2010. Of this debt, local governments are explicitly responsible for repaying 62.6%, have guaranteed 21.8%, and are required to partially repay 15.6%. Worryingly, the report writes that nearly half the debt was accumulated in just two years by way of the loan-powered fiscal stimulus of 2009-10. This debt, mainly owed to state-run banks, poses serious risks for the Chinese financial system.
Most local governments borrow through special investment corporations set up by them and their debt shows up nowhere on its official balance sheet. Such local government financing vehicles (LGFV) were set up to get around rules forbidding them from borrowing directly from banks and raising funds through municipal bonds and also conceal the true extent of local government debts. These LGFVs were set up to finance light rail projects, bridges etc. It is estimated that there are more than 10,000 of these local government financing entities in China.
In fact, the audit office said 46.4% of the debt is held by such intermediary vehicles. Another recent report from the People's Bank of China had said that local government financing vehicles had taken out loans worth up to 30% of total outstanding bank loans or 14 trillion yuan. The collateral for many loans is local land valued at lofty prices that could collapse if China’s real estate bubble burst.
An earlier estimate by the Northwestern University Prof. Victor Shih found that the total local government financing platform debt was around 11.4 trillion yuan ($1.75 trillion) at the end of 2009. His latest estimate of total local governmental debt ranges between 15.4 trillion yuan and 20.1 trillion yuan, or 40% to 50% of China's 2010 GDP. He also estimates that LGFV interest payments are at least 1 trillion yuan a year, and realistically more than 2 trillion yuan.
Another report by Moody's says that the audit office's data fails to account for about 3.5 trillion yuan, or about $540 billion, of loans to local governments. It also estimates that the Chinese banking system's nonperforming loans could reach between 8% and 12% of total loans. This is in stark contrast to the official ratio of non-performing loans of 1.14% at the end of 2010.
The biggest concern is a possible rise in inflation, which would force the central bank into raising interest rates. In fact, yesterday the People's Bank raised interest rates for the third time this year in order to cool the sizzling pace of economic growth, estimated to touch 11.9% in the seond quarter. Inflation is up 4.4% for June, the highest rate in more than two years and above the 3% target set by central bank.
In fact, the threat of the whole pack of cards collapsing when faced with higher interest rates is also behind the reluctance of authorities to rein in the bubble. As Prof Shih argues, the only way to cool down the continuously inflating debt bubble and credit flows is by engineering a credit crunch. Unfortunately, this would entail raising interest rates, with all its possible adverse consequences.
There have been rumors that the government is considering write-off about 2-3 trillion ($300-470 bn) in debts owed by local governments to the country's China's top banks. Though this would force losses on banks, local and central governments, it should reduce the risks that cloud the Chinese economy. Fortunately, a banking crisis would not have the sort direct impact on consumers as witnessed in the US since the Chinese citizens save heavily and have limited exposure to mortgages and other financial investments.
The debt build-up also amplified the already frothy real estate market, which was pushed up further by the stimulus spending in 2010 and 2011. A large share of this spending was routed into real-estate related infrastructure. Chinese state-owned banks, on government orders, lent about $3 trillion mostly to giant state-owned enterprises and local governments to fight the effects of the downturn. Though intended at infrastructure, a substantial share of these loans wound up financing real-estate purchases by government agencies.
Further, in the absence of financial alternatives to beat inflation, Chinese savers piled into real estate and drove residential property prices up by half to about 9% of GDP between 2006 and 2010. In that period, real-estate prices in major cities in China roughly doubled.
The continuing paucity of investment avenues coupled with exceptionally high savings rates and the reliance of local governments on land sales for revenue means that property prices could go higher before the bubble bursts. The Standard Chartered estimates that about 50% of China's GDP is linked to the fate of its real-estate market (it affects construction, steel, concrete, power and appliance industries), making a potential bust extremely damaging. A banking crisis would be inevitable.
See also this Times Room for Debate on China's local government debt.
The contrast with a flush-with-funds China is stark. However, as the Times points out in an excellent article chronicling the challenges facing China's increasingly infrastructure investment dominated economic growth push, things may not be as rosy as it appears across our northern borders.
As the Great Recession took hold, the Chinese government stepped in with a mssive $580 bn stimulus package. Local governments across China borrowed heavily from state-owned banks and pumped money into infrastructure. Infrastructure replaced exports as the engine of economic growth.
The Times reports that spending on so-called fixed-asset investment (infrastructure and real estate projects) is now equal to nearly 70% of the nation’s GDP, a sign of dangerous over-dependence on infrastructure spending. It is a ratio unheard of in modern times for any nation, with the ratio being just 35% for Japan during its 1980s building boom and 20% for US for decades now.
Now this model is becoming unsustainable as local government debts, cleverly hidden from the local government balance sheet through accounting tricks, mount and repayment strains start appearing. The National Audit Office recently released figures showing that the local governments had amassed 10.7 trillion yuan ($1.65 trillion) in debt as of the end of December, amounting to 26.9% of GDP in 2010. Of this debt, local governments are explicitly responsible for repaying 62.6%, have guaranteed 21.8%, and are required to partially repay 15.6%. Worryingly, the report writes that nearly half the debt was accumulated in just two years by way of the loan-powered fiscal stimulus of 2009-10. This debt, mainly owed to state-run banks, poses serious risks for the Chinese financial system.
Most local governments borrow through special investment corporations set up by them and their debt shows up nowhere on its official balance sheet. Such local government financing vehicles (LGFV) were set up to get around rules forbidding them from borrowing directly from banks and raising funds through municipal bonds and also conceal the true extent of local government debts. These LGFVs were set up to finance light rail projects, bridges etc. It is estimated that there are more than 10,000 of these local government financing entities in China.
In fact, the audit office said 46.4% of the debt is held by such intermediary vehicles. Another recent report from the People's Bank of China had said that local government financing vehicles had taken out loans worth up to 30% of total outstanding bank loans or 14 trillion yuan. The collateral for many loans is local land valued at lofty prices that could collapse if China’s real estate bubble burst.
An earlier estimate by the Northwestern University Prof. Victor Shih found that the total local government financing platform debt was around 11.4 trillion yuan ($1.75 trillion) at the end of 2009. His latest estimate of total local governmental debt ranges between 15.4 trillion yuan and 20.1 trillion yuan, or 40% to 50% of China's 2010 GDP. He also estimates that LGFV interest payments are at least 1 trillion yuan a year, and realistically more than 2 trillion yuan.
Another report by Moody's says that the audit office's data fails to account for about 3.5 trillion yuan, or about $540 billion, of loans to local governments. It also estimates that the Chinese banking system's nonperforming loans could reach between 8% and 12% of total loans. This is in stark contrast to the official ratio of non-performing loans of 1.14% at the end of 2010.
The biggest concern is a possible rise in inflation, which would force the central bank into raising interest rates. In fact, yesterday the People's Bank raised interest rates for the third time this year in order to cool the sizzling pace of economic growth, estimated to touch 11.9% in the seond quarter. Inflation is up 4.4% for June, the highest rate in more than two years and above the 3% target set by central bank.
In fact, the threat of the whole pack of cards collapsing when faced with higher interest rates is also behind the reluctance of authorities to rein in the bubble. As Prof Shih argues, the only way to cool down the continuously inflating debt bubble and credit flows is by engineering a credit crunch. Unfortunately, this would entail raising interest rates, with all its possible adverse consequences.
There have been rumors that the government is considering write-off about 2-3 trillion ($300-470 bn) in debts owed by local governments to the country's China's top banks. Though this would force losses on banks, local and central governments, it should reduce the risks that cloud the Chinese economy. Fortunately, a banking crisis would not have the sort direct impact on consumers as witnessed in the US since the Chinese citizens save heavily and have limited exposure to mortgages and other financial investments.
The debt build-up also amplified the already frothy real estate market, which was pushed up further by the stimulus spending in 2010 and 2011. A large share of this spending was routed into real-estate related infrastructure. Chinese state-owned banks, on government orders, lent about $3 trillion mostly to giant state-owned enterprises and local governments to fight the effects of the downturn. Though intended at infrastructure, a substantial share of these loans wound up financing real-estate purchases by government agencies.
Further, in the absence of financial alternatives to beat inflation, Chinese savers piled into real estate and drove residential property prices up by half to about 9% of GDP between 2006 and 2010. In that period, real-estate prices in major cities in China roughly doubled.
The continuing paucity of investment avenues coupled with exceptionally high savings rates and the reliance of local governments on land sales for revenue means that property prices could go higher before the bubble bursts. The Standard Chartered estimates that about 50% of China's GDP is linked to the fate of its real-estate market (it affects construction, steel, concrete, power and appliance industries), making a potential bust extremely damaging. A banking crisis would be inevitable.
See also this Times Room for Debate on China's local government debt.
Thursday, July 7, 2011
Executive Compensation : Business As Usual!
Further confirmation of the fact that executive compensation has little to do with performance comes from a preliminary examination of CEO comempensation figures for 2010 in the US.
A study commissioned by the New York Times show that the median pay for top executives at 200 big companies last year was $10.8 million, which works out to a 23% gain from 2009. The record levels of corporate profits, at the expense of wages and jobs, meant that some of these gains were shared as higher executive compensation.
The median pay raise of 23% for chief executives, while roughly in line with the increase in net corporate profits, far exceeded the median gain in shareholders’ total return, which was 16%, as well as the median gain in revenue, which was 7%. The median American worker's wages were up a mere 0.5% in 2010, and when adjusted for inflation workers were actually making less.
The third graphic is the most instructive. It clearly shows why executive compensation has little to do with performance outcomes. Taking stock returns as a barometer of the companies performance, it shows that executives from similar sized companies with same stock returns showed wide variations in compensation. Similarly, the top executives from health care, oil and gas, and financial sectors showed wide variations in their compensation despite more or less same stock returns. Though stock returns are not the perfect measure of the companies actual performance, the variations in compensation are too large to be rationalized.
Update 1 (8/4/2012)
A study commissioned by the New York Times show that the median pay for top executives at 200 big companies last year was $10.8 million, which works out to a 23% gain from 2009. The record levels of corporate profits, at the expense of wages and jobs, meant that some of these gains were shared as higher executive compensation.
The median pay raise of 23% for chief executives, while roughly in line with the increase in net corporate profits, far exceeded the median gain in shareholders’ total return, which was 16%, as well as the median gain in revenue, which was 7%. The median American worker's wages were up a mere 0.5% in 2010, and when adjusted for inflation workers were actually making less.
The third graphic is the most instructive. It clearly shows why executive compensation has little to do with performance outcomes. Taking stock returns as a barometer of the companies performance, it shows that executives from similar sized companies with same stock returns showed wide variations in compensation. Similarly, the top executives from health care, oil and gas, and financial sectors showed wide variations in their compensation despite more or less same stock returns. Though stock returns are not the perfect measure of the companies actual performance, the variations in compensation are too large to be rationalized.
Update 1 (8/4/2012)
Times has a nice article on ballooning executive compensation in the US. In particular, it draws attention to Apple CEO Tim Cook's eye-popping $376.2 million stock-options award (to be redeemed over 10 years) in addition to salary of roughly $900,000 in 2011. The options are now valued at roughly $634 million.
The median chief executive in this group took home $14.4 million — compared with the average annual American salary of $45,230. In all, the combined compensation of these 100 C.E.O.s totaled $2.1 billion, the rough equivalent of the estimated annual economic output of Sierra Leone.
Wednesday, July 6, 2011
Impact of QE2
The second round of quantitative easing (QE 2) in the US by the Fed, involving $600 billion in Treasury-bond purchases over the past eight months, came to an end on 30th June. However, the Fed will not start exiting from its expansionary policy and will remain committed to holding its balance sheet at its present size by among other things, reinvesting the proceeds of any securities that mature while in their possession.
At first reading, in terms of its direct objectives, the QE 2 was a success - interest rates on long-term securities and corporate bonds declined, asset values rose, dollar depreciated, and deflation worries abated without igniting undue inflationary pressures. However, in terms of achieving its final outcomes, its impact was less obvious - corporate spending remains depressed, consumer and business confidence is still weak, and economic growth and unemployment are dismal. The WSJ has an excellent graphic that captures these trends.
Like other interventions during this crisis, QE 2 too faces questions about its effectiveness. Critics point to the persistent recessionary conditions to claim that monetary expansion did not succeed. Its supporters argue that QE 2 backstopped the economy from slipping further, and claim that the situation would have been much worse without QE 2. They also point out that the recovery has not been strong because the monetary expansion was itself inadequate.
Mostly Economics points to an excellent presentation by James Bullard, President of the St Louis Fed, who illustrates graphically how events unfolded after Ben Bernanke's Jackson Hole speech in August 2010 - expected inflation rose, dollar depreciated, real interest rates declines, and equity prices rose. See also this from a St Louis Fed seminar on quantitative easing.
In any case, it can be safely argued that the QE 2 program atleast prevented the economy from getting worser and may also have set the economy on the recovery path, both of which would have not been possible without monetary expansion.
At first reading, in terms of its direct objectives, the QE 2 was a success - interest rates on long-term securities and corporate bonds declined, asset values rose, dollar depreciated, and deflation worries abated without igniting undue inflationary pressures. However, in terms of achieving its final outcomes, its impact was less obvious - corporate spending remains depressed, consumer and business confidence is still weak, and economic growth and unemployment are dismal. The WSJ has an excellent graphic that captures these trends.
Like other interventions during this crisis, QE 2 too faces questions about its effectiveness. Critics point to the persistent recessionary conditions to claim that monetary expansion did not succeed. Its supporters argue that QE 2 backstopped the economy from slipping further, and claim that the situation would have been much worse without QE 2. They also point out that the recovery has not been strong because the monetary expansion was itself inadequate.
Mostly Economics points to an excellent presentation by James Bullard, President of the St Louis Fed, who illustrates graphically how events unfolded after Ben Bernanke's Jackson Hole speech in August 2010 - expected inflation rose, dollar depreciated, real interest rates declines, and equity prices rose. See also this from a St Louis Fed seminar on quantitative easing.
In any case, it can be safely argued that the QE 2 program atleast prevented the economy from getting worser and may also have set the economy on the recovery path, both of which would have not been possible without monetary expansion.
Monday, July 4, 2011
Why peformance pay is difficult to implement in social sectors?
Conventional wisdom would have it that performance-based pay is the most effective strategy to improve outcomes in any organization. Corporate sector payouts accordingly have two parts, a fixed salary and a variable performance-linked bonus. Can the same strategy succeed in public sector bureaucracies like education, health care, and other regular government departments?
As I have already blogged about it here and here, I am sceptical of its success when implemented in scale in a country like India. Here are a few reasons why performance-based pay can run into problems in real-world implementation on scale.
1. Quantification and measurement problems
The fundamental pre-requisite for any credible performance-based pay system is its ability to quantify and measure outcomes. To start with, there is a strong case that not all dimensions of performance in social sectors can be quantified. Complicating any measure of quantifiable outcome is the role of widely varying exogenous factors like social and economic background of student/patient/customer, family environment, historical and legacy factors etc, all of which exert considerable influence on the final outcome. Furthermore, it is important to have some level of broad consensus about the variables used to measure performance outcomes and the actual measurement process itself. Such consensus is rarely forthcoming.
For example, how do we reliably measure learning outcomes among students? Even assuming some level of consensus among all stakeholders about what should be measured, what are the instruments available for its measurement? How do we ensure that instruments like examinations are not subverted when implemented in scale? How do we capture the personal interest shown by certain teachers, that encourages parents to send children in larger numbers? These are questions for which there may not be answers which have some reasonable level of acceptability.
2. Monitoring problem
Once there is a broad acceptability of the performance measure and the process of extracting it, its credibility also depends on the rigor of monitoring. Too much rigour in the measurement and data collection process also runs up against the problem of cost-effectiveness. It is natural that any such measurement system, especially if deployed for not-so-low stakes decisions, is bound to attract attempts at subversion.
Even assuming the availability of a credible enough performance measurement framework, like in case of maternal and child health interventions, the challenge of reliable data collection remains. How do we ensure that the ANM is not reporting inaccurate figures? Super-checks and sample validations by third party agencies, while useful, may not be credible enough when done on a state-wide or national scale.
3. How much bonus is appropriate?
A bonus is effective only when its magnitude is beyond a particular threshold. Too low a bonus fails to evoke the desired or even any performance response. This is more likely given the already high salary levels among government employees. However, too high a bonus, apart from being not cost-effective, also distorts incentives by raising stakes. Complicating matters, the optimal bonus level varies both across sectors and with each sector from place to place. For example, what works in education may not be the same in health care. In education itself, performance bonuses may differ from primary to secondary school, and from one geographical area to another.
Given all these factors, calculating the bonus with any reasonable level of accuracy, becomes a very complicated task. Further, if there are too many bonus slabs, then that creates another set of dynamics.
4. Cultural socialization
Any performance-based payment initiative has to be institutionalized both administratively and culturally. But the latter is difficult to achieve when implemented in scale in countries with wide social and cultural diversity.
In fact, its widespread cultural or social acceptance as an incentive to reward good performance underpins the success of the administrative implementation. Such consensus plays the critical role of creating the stakeholder pressures and institutional vigilance that are vital to ensuring that forces to subvert the system from within are foiled.
In the absence of socialization about its benefits among the stakeholders, willy-nilly subversive tendencies creep in. Once a significant share of the employees have partaken of bonuses at some time or the other, it is only a matter of time before they come to view these bonuses as entitlements and unions enter the fray.
5. Maintaining credibility
The success of such initiatives is, to a large measure, dependent on its acceptability among the large portion of its stakeholders. This credibility rests on tenuous foundations. It is easily shaken by a few jolts, which most often ends up giving a convenient excuse for opponents to question its reliability.
Once a few lapses get highlighted, especially high-profile ones, a downward spiral is never far away. Loss of credibility inevitably follows. It suits the vested interests to publicise such shortcomings to add credence to their opposition.
6. Political constraints
Any government service delivery channel, especially in democracies, is embedded in a political system. It is therefore natural that the processes and administering stakeholders are exposed to political dynamics. The most visible manifestation of this are trade unions. There are far too many areas where political considerations can take precedence in the conceptualization, implementation and sustainability of performance-based pay initiatives. Once such considerations creep in, it dilutes the program's objectivity and raises hackles among rival political and social groups, thereby denting the credibility of the process.
In fact, it should be sine-qua-non that all new public policy initiatives are analyzed in terms of political constraints to see the practicality of its implementation and examine whether there are strategies to overcome the identified political hurdles. A program that appears logically sound, but fails this test may not be worth pursuing.
7. Scale dynamics
Much, if not all, of the evidence of success with performance-based pay in social sectors comes from small scale experiments. Such studies fail to account for the dynamics that emerge once a performance-based pay program is scaled up. Apart from the logistical exercise of managing the collection of reliable data, there are also issues arising from socio-political factors. In fact, all the aforementioned factors have the potential to manifest in the most unexpected manner when the initiative is implemented in scale.
The administrative challenges are the most formidable. For example, how do we address the problem of teachers and administrators in a remote village or taluk colluding to subvert both the measurement and its collection. And imagine the problem when there are a large number of such taluks.
It is anybody's guess as to how these factors interact with each other and contribute to the emergent system. But most often the emergent dynamics are detrimental to the sustainability of the initiative.
In conclusion, I am inclined to believe that any performance-based pay system foir government officials, while unobjectionable at a theoretical level, may be very difficult to implement, most certainly for political and administrative reasons, in the prevailing environment in countries like India. While it may succeed in a limited area, scope and time, it may not yield the desired results with a more ambitious scope and pan-Indian area of implementation.
As I have already blogged about it here and here, I am sceptical of its success when implemented in scale in a country like India. Here are a few reasons why performance-based pay can run into problems in real-world implementation on scale.
1. Quantification and measurement problems
The fundamental pre-requisite for any credible performance-based pay system is its ability to quantify and measure outcomes. To start with, there is a strong case that not all dimensions of performance in social sectors can be quantified. Complicating any measure of quantifiable outcome is the role of widely varying exogenous factors like social and economic background of student/patient/customer, family environment, historical and legacy factors etc, all of which exert considerable influence on the final outcome. Furthermore, it is important to have some level of broad consensus about the variables used to measure performance outcomes and the actual measurement process itself. Such consensus is rarely forthcoming.
For example, how do we reliably measure learning outcomes among students? Even assuming some level of consensus among all stakeholders about what should be measured, what are the instruments available for its measurement? How do we ensure that instruments like examinations are not subverted when implemented in scale? How do we capture the personal interest shown by certain teachers, that encourages parents to send children in larger numbers? These are questions for which there may not be answers which have some reasonable level of acceptability.
2. Monitoring problem
Once there is a broad acceptability of the performance measure and the process of extracting it, its credibility also depends on the rigor of monitoring. Too much rigour in the measurement and data collection process also runs up against the problem of cost-effectiveness. It is natural that any such measurement system, especially if deployed for not-so-low stakes decisions, is bound to attract attempts at subversion.
Even assuming the availability of a credible enough performance measurement framework, like in case of maternal and child health interventions, the challenge of reliable data collection remains. How do we ensure that the ANM is not reporting inaccurate figures? Super-checks and sample validations by third party agencies, while useful, may not be credible enough when done on a state-wide or national scale.
3. How much bonus is appropriate?
A bonus is effective only when its magnitude is beyond a particular threshold. Too low a bonus fails to evoke the desired or even any performance response. This is more likely given the already high salary levels among government employees. However, too high a bonus, apart from being not cost-effective, also distorts incentives by raising stakes. Complicating matters, the optimal bonus level varies both across sectors and with each sector from place to place. For example, what works in education may not be the same in health care. In education itself, performance bonuses may differ from primary to secondary school, and from one geographical area to another.
Given all these factors, calculating the bonus with any reasonable level of accuracy, becomes a very complicated task. Further, if there are too many bonus slabs, then that creates another set of dynamics.
4. Cultural socialization
Any performance-based payment initiative has to be institutionalized both administratively and culturally. But the latter is difficult to achieve when implemented in scale in countries with wide social and cultural diversity.
In fact, its widespread cultural or social acceptance as an incentive to reward good performance underpins the success of the administrative implementation. Such consensus plays the critical role of creating the stakeholder pressures and institutional vigilance that are vital to ensuring that forces to subvert the system from within are foiled.
In the absence of socialization about its benefits among the stakeholders, willy-nilly subversive tendencies creep in. Once a significant share of the employees have partaken of bonuses at some time or the other, it is only a matter of time before they come to view these bonuses as entitlements and unions enter the fray.
5. Maintaining credibility
The success of such initiatives is, to a large measure, dependent on its acceptability among the large portion of its stakeholders. This credibility rests on tenuous foundations. It is easily shaken by a few jolts, which most often ends up giving a convenient excuse for opponents to question its reliability.
Once a few lapses get highlighted, especially high-profile ones, a downward spiral is never far away. Loss of credibility inevitably follows. It suits the vested interests to publicise such shortcomings to add credence to their opposition.
6. Political constraints
Any government service delivery channel, especially in democracies, is embedded in a political system. It is therefore natural that the processes and administering stakeholders are exposed to political dynamics. The most visible manifestation of this are trade unions. There are far too many areas where political considerations can take precedence in the conceptualization, implementation and sustainability of performance-based pay initiatives. Once such considerations creep in, it dilutes the program's objectivity and raises hackles among rival political and social groups, thereby denting the credibility of the process.
In fact, it should be sine-qua-non that all new public policy initiatives are analyzed in terms of political constraints to see the practicality of its implementation and examine whether there are strategies to overcome the identified political hurdles. A program that appears logically sound, but fails this test may not be worth pursuing.
7. Scale dynamics
Much, if not all, of the evidence of success with performance-based pay in social sectors comes from small scale experiments. Such studies fail to account for the dynamics that emerge once a performance-based pay program is scaled up. Apart from the logistical exercise of managing the collection of reliable data, there are also issues arising from socio-political factors. In fact, all the aforementioned factors have the potential to manifest in the most unexpected manner when the initiative is implemented in scale.
The administrative challenges are the most formidable. For example, how do we address the problem of teachers and administrators in a remote village or taluk colluding to subvert both the measurement and its collection. And imagine the problem when there are a large number of such taluks.
It is anybody's guess as to how these factors interact with each other and contribute to the emergent system. But most often the emergent dynamics are detrimental to the sustainability of the initiative.
In conclusion, I am inclined to believe that any performance-based pay system foir government officials, while unobjectionable at a theoretical level, may be very difficult to implement, most certainly for political and administrative reasons, in the prevailing environment in countries like India. While it may succeed in a limited area, scope and time, it may not yield the desired results with a more ambitious scope and pan-Indian area of implementation.
Saturday, July 2, 2011
The "wageless and jobless recovery" in the US?
The labor market problems facing the US economy shows no signs of easing even as an ideological battle over the policy alternatives is on. By every imaginable yardstick, the labor market is at its weakest in decades and for all talk of recovery, unemployment rate remains stuck near its recession-time peak.
All labour market figures make very depressing reading. Almost 14 million people, or 9.1% of the labor force, were unemployed in May, with 45% of those unemployed for 27 weeks or more. Another 8.5 million part-time workers wanted but could not find full-time jobs; an additional 2.2 million dropped out of the labor force because they could not find work. The percentage of the population working has fallen to 58% from 63% over the past five years, reducing the number of Americans with jobs by 10 million.
Laura Tyson writes about the other costs of long term unemployment,
Now economists from Northwestern University have found that the woes are not confined to persistent unemployment but also includes wage changes. They "found that the current economic recovery in the United States has been unusually skewed in favor of corporate profits and against increased wages for workers". They show that since the recovery began in June 2009 following a deep 18-month recession, "corporate profits captured 88 percent of the growth in real national income while aggregate wages and salaries accounted for only slightly more than 1 percent" of that growth.
They also found that between the second quarter of 2009 and the fourth quarter of 2010, national income rose by $528 billion, with $464 billion of that growth going to pretax corporate profits, while just $7 billion went to aggregate wages and salaries, after accounting for inflation. In other words, the share of income growth going to employee compensation was far lower than in the four other economic recoveries that have occurred over the last three decades.
In fact, each of the indices of corporate profits showed strong growth over the past seven quarters - the index for the Dow Jones industrial average was nearly 46% higher at the end of the 2011 I quarter, and the S&P 500 index was 44% higher in that same quarter. In contrast, the three indices of hourly and weekly real wages of US workers showed little to no positive growth between the second quarter of 2009 and the first quarter of 2011. While each of the three corporate profit and stock value indices were far above their values in the base period, each of our three hourly and weekly wage indices were basically flat.
The BLS data reveals that average real hourly earnings for all employees actually declined by 1.1 percent from June 2009 to May 2011 and real wages and salaries declined by $27 bn over the seven quarters, the first ever such decline in any post-War II recovery. Further, worker productivity has grown just under 6 percent since the recovery began, helping to keep employment down while lifting corporate profits.
There is nothing surprising about this trend. In financial market meltdown induced balance sheet recession, consumers postpone spending and businesses defer investments to pay off their massive accumulated debts. When the magnitude of balance sheet damage is considerable, the recovery takes time, especially without substantial direct support from government. A downward spiral becomes inevitable - since consumer spending goes down, businesses start lay-offs and postpone investments; high unemployment and the excuse of recession also gives them the perfect excuse to squeeze more out of each employee without paying more. Corporate profits rise even as wages stagnate. And dismal economic expectations add to the woes by discouraging businesses from investing. The recovery path becomes a steep and arduous climb up.
Update 1 (4/7/2011)
The debate in the US about the economic policy options is between Conservatives who call for austerity measures to rein in the burgeoning public debt and Liberals who advocate more fiscal austerity to provide the stimulus that can lift the economy from its deep aggregatee demand slump.
Mr John Taylor traces the economy’s ailments to the abandonment of predictable, rules-based fiscal and monetary policies. The bail-outs and stimulus of George Bush junior and Mr Obama, and the Fed’s emergency lending and QE, he argues, sowed paralysing uncertainty. He believes that deep spending cuts would reverse this effect and thus generate private spending and growth.
In contrast, Christina Romer argues that near-term fiscal stimulus, by boosting employment and income, lessens the pressure on households to pay down debt whereas premature austerity could worsen the cycle of weaker growth and deleveraging.
Household debt in US remains well above its normal levels despite all the deleveraging of the past three years. As Carmen and Vince Reinhart have shown, countries that experienced macroeconomic and banking crises could repair their debt overhang only after a prolonged period of deleveraging. While Conservatives say that fiscal stimulus will only substitute private debt for government debt, Liberals argue that such stimulus spending expedites the process of balance sheet repairs.
Since recession ended in June 2009, GDP growth has averaged 2.8%, roughly its long-term trend. After so deep a slump, the pace is usually much faster. The gap between actual and potential GDP has been stuck at around 5% since late 2009.
For the record, the Obama administration has so far injected about $1.2 trillion in fiscal stimulus, the Fed has cut interest rates to nearly zero and then, in two rounds of QE, bought $2.3 trillion of government and mortgage-backed bonds.
Update 1 (19/7/2011)
David Leonhardt has a nice article on the huge consumer spending slump that the US is facing. He writes that,
He feels that the US economy is moving away from the debt-financed consumption dominated model that underpinned its growth since the eighties. See the graphic here.
All labour market figures make very depressing reading. Almost 14 million people, or 9.1% of the labor force, were unemployed in May, with 45% of those unemployed for 27 weeks or more. Another 8.5 million part-time workers wanted but could not find full-time jobs; an additional 2.2 million dropped out of the labor force because they could not find work. The percentage of the population working has fallen to 58% from 63% over the past five years, reducing the number of Americans with jobs by 10 million.
Laura Tyson writes about the other costs of long term unemployment,
"The economic and human costs associated with the jobs crisis are staggering. An extended period of unemployment means lower earnings: workers who return after long-term unemployment earn 20 percent less over the next 15 to 20 years than a worker who was continuously employed. The longer workers are unemployed the more likely they are to lose their skills and drop out of the labor force. And the longer workers are unemployed, the more likely they are to lose their homes, their health and their marriages – and the more likely their children will grow up in poverty - with adverse implications for their health, education, and future incomes."
Now economists from Northwestern University have found that the woes are not confined to persistent unemployment but also includes wage changes. They "found that the current economic recovery in the United States has been unusually skewed in favor of corporate profits and against increased wages for workers". They show that since the recovery began in June 2009 following a deep 18-month recession, "corporate profits captured 88 percent of the growth in real national income while aggregate wages and salaries accounted for only slightly more than 1 percent" of that growth.
They also found that between the second quarter of 2009 and the fourth quarter of 2010, national income rose by $528 billion, with $464 billion of that growth going to pretax corporate profits, while just $7 billion went to aggregate wages and salaries, after accounting for inflation. In other words, the share of income growth going to employee compensation was far lower than in the four other economic recoveries that have occurred over the last three decades.
In fact, each of the indices of corporate profits showed strong growth over the past seven quarters - the index for the Dow Jones industrial average was nearly 46% higher at the end of the 2011 I quarter, and the S&P 500 index was 44% higher in that same quarter. In contrast, the three indices of hourly and weekly real wages of US workers showed little to no positive growth between the second quarter of 2009 and the first quarter of 2011. While each of the three corporate profit and stock value indices were far above their values in the base period, each of our three hourly and weekly wage indices were basically flat.
The BLS data reveals that average real hourly earnings for all employees actually declined by 1.1 percent from June 2009 to May 2011 and real wages and salaries declined by $27 bn over the seven quarters, the first ever such decline in any post-War II recovery. Further, worker productivity has grown just under 6 percent since the recovery began, helping to keep employment down while lifting corporate profits.
There is nothing surprising about this trend. In financial market meltdown induced balance sheet recession, consumers postpone spending and businesses defer investments to pay off their massive accumulated debts. When the magnitude of balance sheet damage is considerable, the recovery takes time, especially without substantial direct support from government. A downward spiral becomes inevitable - since consumer spending goes down, businesses start lay-offs and postpone investments; high unemployment and the excuse of recession also gives them the perfect excuse to squeeze more out of each employee without paying more. Corporate profits rise even as wages stagnate. And dismal economic expectations add to the woes by discouraging businesses from investing. The recovery path becomes a steep and arduous climb up.
Update 1 (4/7/2011)
The debate in the US about the economic policy options is between Conservatives who call for austerity measures to rein in the burgeoning public debt and Liberals who advocate more fiscal austerity to provide the stimulus that can lift the economy from its deep aggregatee demand slump.
Mr John Taylor traces the economy’s ailments to the abandonment of predictable, rules-based fiscal and monetary policies. The bail-outs and stimulus of George Bush junior and Mr Obama, and the Fed’s emergency lending and QE, he argues, sowed paralysing uncertainty. He believes that deep spending cuts would reverse this effect and thus generate private spending and growth.
In contrast, Christina Romer argues that near-term fiscal stimulus, by boosting employment and income, lessens the pressure on households to pay down debt whereas premature austerity could worsen the cycle of weaker growth and deleveraging.
Household debt in US remains well above its normal levels despite all the deleveraging of the past three years. As Carmen and Vince Reinhart have shown, countries that experienced macroeconomic and banking crises could repair their debt overhang only after a prolonged period of deleveraging. While Conservatives say that fiscal stimulus will only substitute private debt for government debt, Liberals argue that such stimulus spending expedites the process of balance sheet repairs.
Since recession ended in June 2009, GDP growth has averaged 2.8%, roughly its long-term trend. After so deep a slump, the pace is usually much faster. The gap between actual and potential GDP has been stuck at around 5% since late 2009.
For the record, the Obama administration has so far injected about $1.2 trillion in fiscal stimulus, the Fed has cut interest rates to nearly zero and then, in two rounds of QE, bought $2.3 trillion of government and mortgage-backed bonds.
Update 1 (19/7/2011)
David Leonhardt has a nice article on the huge consumer spending slump that the US is facing. He writes that,
"The auto industry is on pace to sell 28 percent fewer new vehicles this year than it did 10 years ago — and 10 years ago was 2001, when the country was in recession. Sales of ovens and stoves are on pace to be at their lowest level since 1992. Home sales over the past year have fallen back to their lowest point since the crisis began...
The Federal Reserve Bank of New York recently published a jarring report on what it calls discretionary service spending, a category that excludes housing, food and health care and includes restaurant meals, entertainment, education and even insurance. Going back decades, such spending had never fallen more than 3 percent per capita in a recession. In this slump, it is down almost 7 percent, and still has not really begun to recover...
If you’re looking for one overarching explanation for the still-terrible job market, it is this great consumer bust. Business executives are only rational to hold back on hiring if they do not know when their customers will fully return. Consumers, for their part, are coping with a sharp loss of wealth and an uncertain future (and many have discovered that they don’t need to buy a new car or stove every few years)."
He feels that the US economy is moving away from the debt-financed consumption dominated model that underpinned its growth since the eighties. See the graphic here.
Friday, July 1, 2011
India and the World
Superb graphics from If It Were My Home, representing cross-country comparison on certain social and economic indicators.
For example, the average American spends 78.1 times more on health care, and consumes 27.6 times more oil and 25.8 times more electricity than the average Indian. In comparison to the average Indian, the average Chinese spends 2.5 times more money on health care, consumes 5.3 times more electricity and 2.6 times more oil, and has 59.81 times more chance of being employed, and 66.4% less chance of dying at infancy.
The only flattering comparison for an Indian would be when made with this country!
For example, the average American spends 78.1 times more on health care, and consumes 27.6 times more oil and 25.8 times more electricity than the average Indian. In comparison to the average Indian, the average Chinese spends 2.5 times more money on health care, consumes 5.3 times more electricity and 2.6 times more oil, and has 59.81 times more chance of being employed, and 66.4% less chance of dying at infancy.
The only flattering comparison for an Indian would be when made with this country!
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