Chapter 4. North-South capital flows and
global distribution
Distributional Challenges of Globalization
François Bourguignon
Academic year 2009-10
1
Motivation
•
Capital as probably the most mobile production factor – yet mobility
apparently far from perfect between North and South
•
International distributional effects of capital movements ambiguous
to the extent that they generally have a counterpart – except Official
Development Assistance (ODA) and what can be assimilated to it.
•
Domestic distributional effects potentially important (the debate on
Foreign Direct Investment and outsourcing)
•
International capital movements hot topic in international debate –
outsourcing, debt, financial crises, etc..
•
As for migration or trade, distributional effects of capital flows
cannot be assimilated to the flows themselves (they are counterparts)
•
What kind of redistribution takes place between and within countries
through international capital movements, depending on their type?
What is the size of that redistribution? What kind of policy does
determine that redistribution?
2
Outline
1. The size of North-South capital flows : orders of
magnitude
2. A simple macro neo-classical framework for
studying real distributional effects of capital flows
3. The 'international capital mobility' puzzle:
disequilibrium vs. equilibrium
4. A focus on ODA (aid)
5. Concluding remarks
Warning: long-run view abstracting from short-run aspects of
capital movements and "opening-up the capital account".
3
1. The size of capital movements: orders of magnitude
Net capital flows to developing countries: 2007
2007e
Billion $ % GDP
Current Account Balance
456.6
3.3
Net Private and Official Flows
999.0
7.2
Net Private Flows (debt+ equity)
1003.0
7.3
Net Equity
Net FDI
Net Portfolio
590.0
460.0
130.0
4.3
3.3
0.9
Net Debt flows
409.0
3.0
Official creditors
Private creditors
-3.9
413.0
0.0
3.0
Net M-L term
Bonds
Banks
283.0
79.0
214.0
2.1
0.6
1.6
Net Short-term flows
129.0
0.9
Balancing item
-365.0
-2.6
Change in reserves
1090.0
7.9
GDP
13800.0
4
Current account surplus (%GDP), North and South
4
3
2
1
Low & middle income
High income
20
06
20
04
20
02
20
00
19
98
19
96
19
94
19
92
19
90
19
88
19
86
19
84
19
82
19
80
19
78
19
76
19
74
19
72
19
70
0
-1
-2
-3
-4
5
Current account surplus (%GDP) developing regions
10
8
6
4
2
Sub-Saharan Africa
East Asia & Pacific
Latin America & Caribbean
South Asia
20
06
20
04
20
02
20
00
19
98
19
96
19
94
19
92
19
90
19
88
19
86
19
84
19
82
19
80
19
78
19
76
19
74
19
72
19
70
0
-2
-4
-6
-8
6
Foreign direct investments, North and South (% GDP): 1970-2006
4
3
2
Developing countries (net inflow)
1
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
1988
1987
1986
1985
1984
1983
1982
1981
1980
1979
1978
1977
1976
1975
1974
1973
1972
1971
1970
% GDP
0
-1
High income countries (net outflow)
-2
-3
-4
-5
Source: WDI
-6
7
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
1988
1987
1986
1985
1984
1983
1982
1981
1980
1979
1978
1977
1976
1975
1974
1973
1972
1971
1970
% GDP
Foreign direct investments by developing region (% GDP): 1970-2006
5
4
3
East Asia and Pacific
2
Latin America
Sub-Saharan Africa
1
South Asia
0
-1
Source: WDI
8
2. A simple macro neo-classical framework for the
distributional effects of capital movements
Reducing the "risk-premium" (spread) in
South's K-market
MPK
SPREAD
A
MPK*
Gain of labor
rf
r0
r*0
r*f
Gain of
investing
country
Loss of labor in investing country
NORTH
B
K-F,
K*+F
K,
K*
SOUTH
K+K*
9
Distributional effects of capital movements : some basic
issues
‰ Nature
of capital flows: refer more to FDI or possibly LR debt than
portfolio investment or SR bank loans
‰ Is r* really above r? What is the main reason for the 'spread'?
Risk? Asymmetric information? …
‰ Reasons behind the drop in the spread: improving market
functioning, insurance, …
‰ Global gain consists mostly of spread but there may be a cost
behind it (risk)
‰ Gain of K-importing country is 'small' (blue triangle), gain of Kexporting country, net of spread, equally 'small'
‰ Loss of labor in K-exporting country : equivalent to labor
displacement (equivalent to unemployment with fixed wage in Kexporting country)
10
Distributional effects of capital movements : some basic
issues, ct'd
‰ Expect capital flows to be inequality increasing in K-exporting
country (ref to chapter on trade) and inequality decreasing in Kimporting countr ('poor' worlers lose, rch 'capital owners' gain)
‰ Relatively little literature on these distributional effects, neither
across countries nor within countries
‰ Note that between country redistribution is not strictly equal to
capital movement (discounted future repatriated profits or interest
payments have to be taken into account).
11
3. The 'international capital mobility' puzzle:
disequilibrium vs. equilibrium
• Preceding model assumes:
– Higher Marginal product of capital K in South
– Imperfections of international capital market (spreads)
• Evidence not so clear :
– Equilibrium in international capital market - Lucas (1990),
Caselli-Feyrer (2007)
– Barriers to mobility: Feldstein-Horioka (1980), ManzocchiMartin (1996), Gourinchas-Jeanne (2008)
• Analyis applies to long-run movements: FDI + LR
debt
12
a. Barriers to mobility: the relationship between
saving and investment
Feldstein-Horioka (1980):
If capital were perfectly mobile, domestic savings would not
determine domestic investment
I
SD
=α +β
+ε
Y
Y
(1)
Closed economy: β = 1 (β = 'home bias')
Fully mobile capital: β = 0
Estimate (1) and test preceding hypotheses
13
F-H (1980) sample of 16 developed countries 1960-74
14
Crude application of F-H model to developing
countries
Sample of countries:
Bangladesh
Brazil
Chile
China
Colombia
Cote d'Ivoire
Ethiopia
Hong Kong, China
India
Indonesia
Kenya
Korea, Rep.
Mexico
Morocco
Pakistan
Philippines
Senegal
Tanzania
Uganda
Vietnam
15
S/Y-I/Y relationship for selected developing countries: 1980-2006
45
40
Ivestment GDP ratio (%)
35
y = 0.6148x + 9.4392
R2 = 0.6814
30
25
20
15
10
5
0
0
5
10
15
20
25
30
35
40
Saving GDP ratio (%)
16
S/Y-I/Y relationship for developing countries: 1990-2006
45
40
Ivestment GDP ratio (%)
35
y = 0.5232x + 12.053
R2 = 0.6187
30
25
20
15
10
5
0
0
5
10
15
20
25
30
35
40
45
Saving GDP ratio (%)
17
Limitations of exercise
• Developing countries: meaning of β < 1?
– Role of aid
– Measure of saving very noisy β under-estimated
– Role of crisis?
18
b. Equilibrium hypothesis
Lucas (1990), "Why doesn't capital flow from rich to poor
countries?"
β
• Naive model: y = Ak r = βAk
β −1
1/ β
= βA
y
( β −1) / β
Income ratio US/India = 15 (β=0.4)
If production functions are the same: MPK/r ratio = 58!
The capital should rush from US to India!
~
~
• Enriching the naive model: k → k = K / L.h ~y = Ak β
where h = human capital factor and Lh = effective labor
~
y ratio =3. Then MPK ratio = 5!
19
Equilibrium hypothesis (Lucas)
• Human capital externality (Lucas, 1988)
γ ~β
~
y = ( Ah ).k
r = βA1/ β y ( β −1) / β hγ / β
(γ = .25): MPK ratio then becomes 1.04!
On that basis, the international market may not be that
imperfect!
20
Equilibrium hypothesis (Cohen & Soto)
• Relative price of output and capital
~β
~ β −1
~
y = Ak r = β Ak = β A1/ β ~
y ( β −1) / β
But r expressed in 'physical terms' (PWT data).
In nominal terms:
~ β −1
∂Q
r ° = pQ
y ( β −1) / β
= pQ β Ak = pQ βA1/ β ~
∂K
pQ =.25 in India and 1 in US. Thus MPK ratio = 1.25!
21
Equilibrium hypothesis: a more complete
analysis (Caselli-Feyrer)
Various definitions of MPK:
(Y = GDP, K = reproducible capital)
(1) "physical":
Y
Naive definition
MPKN = (1 − α w )
K
Y
MPKL = α k
Land and resource corrected
K
αw = share of labour; αk = share of reproducible capital (as different
from land and 'natural' capital)
Y and K measured at PPP, K estimated with perpetual inventory
method on I
22
Caselli-Feyrer
(2) "economic" definition of MPK"
PMPKN = (1 − α w )
p yY
pK K
PMPKL = α k
p yY
pK K
py and pK = domestic prices (PPPy,K/exchange rate)
py/pK < 1 in developing countries because of non-traded
goods being cheaper (plus tariffs ? )
23
24
25
Conclusion on capital mobility
• Clearly important issue
• Reconciliation necessary between observed rates of
•
•
interest and MPK (Brazil example: r = 12% over the
last 10 years!)
Sectoral allocation of physical capital matters
(interaction with land and natural capital)
If one believes the mobility story; what is the role of
aid?
26
4. The Debate on Official Development Assistance
.
(Aid)
‰ The basic issue: Sachs vs. Easterly
‰ Jeff Sachs: poverty trap argument in favor of massive
(temporary) aid
nk
s(k)k
Neo-classical growth model with
poverty trap
0
k0
k*
k
‰ William Easterly: aid is essentially ineffective
• "2500b USD of aid have not reduced poverty!
• Poverty has been reduced where there was little aid (China)
27
a) Empirical evaluation of the effectiveness of aid
Huge literature:
• 1960s (Rosenstein-Rodan, Chenery): NC growth model with aid as
full increment to domestic savings
• 1970s: domestic saving eviction by aid implies aid has little impact
on growth. First cross-country regression fights on aid-growth and
saving-aid relationships
• 1980s: fight continues with 'instrumental variables' regressions and
bigger and longer samples
• 1990s: Boone (1996): "zero effect of aid on growth" + micro-macro
paradox (aggregation of effective micro project does not produce
an acceleration of growth)
• 2000s: conditional approach (country heterogeneity) or
unconditional approach showing a positive aid/growth relationship
(See survey by Clemens, Radelet and Bhavnani)
28
The debate about the role of "policy"
‰In the conditonal strand, Burnside and Dollar (2000) believe
to have shown that "aid is effective to accelerate growth in
countries with good policies"
•
Data: 56 countries over 2 to 6 4-year periods in 70-93
•
Variables: growth of GDPpc, aid, policy (weighted
average of variousindicators like budget deficit, inflation,
…)
•
Exogenous variables: initial income, geographical area,
Franc zone, ethnic fragmentation, assasinations, population
size, arm imports/imports
(In italics variables used only in instrumentation)
29
30
Source: Burnside and Dollar
Critiques to Burnside-Dollar
• Disregards the heterogeneity of countries and periods with
•
•
•
•
•
respect to aid (e.g. cold war motivated aid appropriated by
leaders, conditionality with 'structural adjustment'))
Effects of aid on growth may depend on the way aid is being
spent – and conditionality imposed by donors
Fragile results: same regressions with a little more
observations failed to yield significant coefficients for
aid*policy (Easterly, 2004)
Growth model already weak, not surprising that model
extended to aid is fragile too
Instruments list limited and possibly not satisfactory: what
about aid donated in case of natural disaster?
Usual limitations of cross-country reduced form regressions
Should we conclude that aid is indeed ineffective?
31
b) The debate on the "effectiveness of aid"
Objective reasons why aid may be ineffective
ƒ What motivation for aid? Poverty or hunger relief,
education, health (AIDS), natural disaster relief, ..
ƒ Aid effectiveness should be measured with other metric
than growth
ƒ How is aid being spent within the country: the issue of
corruption
ƒ Limits to absorptive capacity: dutch disease and institution
weakening
ƒ The great illusion of the power of 'policy conditionality'
imposed by donors:
• Fungibility of aid
• The difficulty of checking whether conditionality holds
• The failure of structural adjustment
32
c) Towards a new model of aid
The donor-recipient relationship as a principal-agent model
(Svensson)
Agent = recipient country, unobserved efforts of leader + rechanelling of part of aid depending on governance
Outcome = (more or less specific) effect of population welfare, as
determined by the amount of aid effectively used, the efforts of
the leader, and some unobserved randome element
Principal = donor trying to maximize impact of aid on population
welfare
Instruments: remuneration or punishment of leader (country?)
based on observed results
Optimal contract = punishment rule as a function of outcome,
conditionally on governance
Is this implementable?
33
The Monterey compact (MDGs)
• The 'old' model of 'conditionality' cannot work
• Impossibility of controling the use of aid leading to the
•
•
•
"appropriation" issue: recipient countries must be the owners
of their developmetn strategy
Using results anticipated on the basis of observed policies –
and institutions - as the parameters of the donor-recipient
contract
The "Poverty Reduction Strategy Papers" as the vehicle for
monitoring policies and outcomes
The dynamic aspect of the contract: will donors stop
chanelling aid in presence of discrepancies between goals and
resutls
34
Complications in elementary principal-agent
model
• Dynamics and credibility of threats and commitments
• Donor facing several recipient countries: criterion for
•
allocating aid among them
Recipient country facing various donors: need for the donors
to coordinate
Optimal contract not yet found or not implementable!
After all, why not considering aid as a pure
redistribution mechanism between rich and poor?
35
d) Is aid becoming more effective?
• Clear signs of improvement in institutions and policies in a
•
•
•
number of poor countries
These signs are associated with clear acceleration of growth
over the last 10 years or so
But, at the same time, aid tends to concentrate on countries
with strong institutions and leaves aside 'fragile states'
The dilemma between aid efficiency and needs (recipient
countries with reasonably good governance expected to do
well so that real needs are in fragile states)
36
e. Orders of magnitude of Development Assistance and
global redistribution
120
0.35
100
0.3
0.25
80
0.2
60
0.15
40
% of GNI
Billion US$ (Current)
a) Evolution of ODA
0.1
20
0.05
0
0
1990
1992
1994
1996
1998
2000
2002
2004
Other regions, exc. debt relief
Africa, exc. debt relief
Debt relief
ODA less debt relief / GNI
2006
37
e. Orders of magnitude of Development Assistance
and global redistribution
Flux réels d'aide publique au développement, CAD: 1990-2008
0.4
140000
Engagements 2010
0.35
120000
US $ (millions, 2006)
100000
0.25
80000
0.2
APD
60000
0.15
APD sans remise de dette
40000
0.1
20000
0.05
Estimates
0
0
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
year
38
APD en % du Revenu National Brut
0.3
APD/ Revenu National donateurs
The redistribution effect of ODA
(international distribution)
2002 & 1985
Incidence of Aid:
% change in per capita income by decile
3.50%
3.00%
2002
2.50%
2.00%
1.50%
1.00%
1985
D10(2)
D9
D8
D7
D6
D5
D4
D3
D2
-0.50%
D1
0.00%
D10(1)
0.50%
39
The distributional effect of growth as a bench mark
Annual Per Capita Income Growth, By Decile, 1980-2002
7.0%
6.0%
5.0%
4.0%
3.0%
2.0%
1.0%
Whole sample
-2.0%
D10(2)
D10(1)
D9
D8
D7
D6
D5
D4
D3
D2
-1.0%
D1
0.0%
40
Comparing the distributional effect of Aid and that of a full
liberalization trade reform
% change in income per capita by decile
5.0%
4.5%
4.0%
Trade Reform
3.5%
3.0%
2.5%
2.0%
1.5%
1.0%
World
0.5%
Aid
D10(2)
D10(1)
D9
D8
D7
D6
D5
D4
D3
D2
-0.5%
D1
0.0%
41
Conclusion
Mostly ambiguous distributional effects of long-run capital
movements
In theory, should be equalizing across countries, unequalizing in
exporting countries and equalizing within importing countries
Weak evidence about cross-coutry equalizing effects
Within country effects essentially ambiguous
… but rather little work on these issues
Short-run capital movements have more complex effects which
are hard to disentangle from crises.
42
References
• Boone, P. (1996), "Politics and the effectiveness of foreign aid", European
•
•
•
•
•
•
•
•
Economic Review 40 (2): 289-329
Bourguignon, F. , V. Levin and D. Rosenblatt, "Global redistribution of
income", Policy Research Working Paper 3961, World Bank
Bourguignon, F. and M. Sundberg, 2007, "Aid effectiveness: opening the black
box", American Economic Review, 97(2), 316-21
Burnside, C. and D. Dollar (2000), "Aid, policies, and growth", American
Economic Review 90 (4), 847-868
Caselli, F. & J. Feyrer, 2005. "The Marginal Product of Capital," The Quarterly
Journal of Economics, 2007
Clemens, Radelet, Bhavnani, 2004, "Counting chickens when they hatch: the
short-term effect of aid on growth", Center for Global Development, Working
paper 44
Cohen D. and M. Soto (2003), Why are poor countries poor, http://www.masterape.ens.fr/wdocument/master/cours/macro4/26.pdf
Devarajan, S. and V. Swaroop (1998), "The Implications of Foreign Aid
Fungibility for Development Assistance",Working Paper No. 2022, World Bank
Easterly, W. (2003), "Can foreign aid buy growth?", Journal of Economic
43
Perspectives 17(3): 23-48
References
• Easterly, W., R. Levine, and D. Roodman (2004), "New Data, New
•
•
•
•
•
•
•
Doubts: A Comment on Burnside and Dollar", American Economic
Review,
Easterly, W. (2008), Can the West save Africa? , Mimeo, New York
University
Feldstein, M., and C. Horioka (1980): “Domestic saving and international
capital flows,” Economic Journal, 90, 314–329.
Goldin, I . N. Stern and H. Rogers (2002) The role and effectiveness of
development assistance, The World Bank,
http://siteresources.worldbank.org/DEC/Resources/roleofdevelopment.pdf
Gourinchas P-O and O. Jeanne (2007), Capital Flows to Developing
Countries: The Allocation Puzzle, CEPR, Discussion paper 6561
Hansen, H. and F. Tarp (2004), "Aid and growth regressions", Journal of
Development Economics, 64(2), 547-70
Lucas, Robert (1990). "Why Doesn't Capital Flow from Rich to Poor
Countries". American Economic Review 80: 92–96.
Svensson, J. 2003, "Why Conditional Aid Does Not Work and What Can
Be Done about It?", Journal of development economics, 70(2), p 381-402
44