Tag Archive | investment

Capital and inequality

Joseph Joyce, professor of economics at Wellesley College wrote and interesting piece to day on capital liberalization and inequality.

I’m glad to see that so much attention is being fawned on Piketty’s most excellent book, “Capital in the 21sr Century.” It’s sure to go down as a classic in the economics literature, but the debate and discussion surrounding the book couldn’t come at a better time.

I don’t think it’s an accident that Piketty’s book, would top the NYT best seller list just a week after appearing, that a sitting President of the US would mention that inequality is one of the most important issues of our time, or that Christine LaGarde, head of the IMF would make a case that we need to address inequality at a global level.

They (Florence Jaumotte, Subir Lall and Chris Papageorgiou) analyzed the effect of financial globalization and trade as well as technology on income inequality in 51 countries over the period of 1981 to 2003. They reported that technology played a larger role in increasing inequality than globalization. But while trade actually reduced inequality through increased exports of agricultural goods from developing countries, foreign direct investment played a different role. Inward FDI (like technology) favored workers with relatively higher skills and education, while outward FDI reduced employment in lower skill sectors. Consequently, the authors concluded, while financial deepening has been associated with higher growth, a disproportionate share of the gains may go to those who already have higher incomes.

This is a scenario we’re all mostly familiar with, though the broad effects are still debatable. Increasing investment by giants like the US in overseas manufacturing push down wages on domestic unskilled labor, but it’s hard to say whether this had a major effect on overall employment. Unemployment remained steady even after Clinton signed NAFTA, and continues to remain well under European levels today, though the lowest level of workers feel the worst pain. I’m not sure if I can really advocate for protectionist measures to keep capital at home or dissuade foreign investment on principle alone, but it is true that the worst effect of foreign competition has been the erosion of labor’s political power.

Jayati Ghosh of Jawaharlal Nehru University of New Delhi has examined the role of capital inflows in developing countries. She maintains that the inflows appreciate the real exchange rate and encourage investment in non-tradable sectors and domestic asset markets. The resulting rise in asset prices pulls funds away from the financing of agriculture and small firms, hurting farmers and workers in traditional sectors. Eventually, the asset bubbles break, and the poor are usually those most vulnerable to the ensuing crisis.

Well, this is somewhat more interesting. Foreign investment in developing countries appreciates the exchange rate, leading domestic investors to put their money into, say, real estate assets. This is certainly the case all over Africa. Land and building developments are occurring at a breakneck pace, with the hopes that expensive properties will be bought up by foreign companies and individuals. It’s certainly the case that no common African could ever afford some of these places (or would even want to buy them if they could). Nairobi, Dar es Salaam and Luanda, Angola are all in the middle of a real estate bubble. The problem, of course, is that domestic investors are hoping to make a quick buck, rather than attempting to create long term, profitable industries. No wonder Africa imports the lion’s share of it’s manufactured goods. No local will invest in the infrastructure to create it locally since urban real estate is so absurdly profitable right now. This, of course, means that money flows directly into the pockets of the urban elite and then sent back out to bank accounts and retailers in France and England, further entrenching the poorest of the poor.

Without the development of local industries, domestic economies can’t function and opportunities for revenue collections are missed. and countries like Tanzania and Kenya, for example, will continue to be beggar economies which depend on the good graces of the international community to support domestic social programs.

I really don’t want the US to go back to 19th century monetary policy

But Ron Paul did.

I’m checking out the graphic below, and, first, wondering why anyone ever thought that gold was the only investment to make given it’s bubblish nature, and second, wondering what it must have been like to have investments in the 19th century. Granted, most people didn’t, and some people were even the targets of investment themselves. The wide volatility in the inflation rate must have driven people nuts.

If you owed money, one year, you’d make out like gangbusters, watching inflation obliterate your debt obligations, the next year, you’d watch your world crumble as the currency became worthless. If people owed you money, you’d be in the opposite pinch. Either way, you were screwed and had little ability to plan for the future. By the time you rode out the constant rough spots, though, you’d end up with the same amount of money you started with decades earlier. I’ll take steady inflation and reasonable economic certainty over crazyland, but Ron Paul might be into it, I guess.

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