Speaker 1: Hello, this is Kobe Time, a podcast series on Markets
Speaker 1: and Economies from D BS Group Research. I'm Tamur Big
Speaker 1: chief economist, welcoming you to our 130th episode. Today we
Speaker 1: have a first for copy time. After over four years
Speaker 1: of running the show, we have the first instance of
Speaker 1: two people from the same household grace. This show on
Speaker 1: separate occasions. Back in 2023 we had World Bank South
Speaker 1: Asia chief economist Francisco Zorg on episode 113.
Speaker 1: And for this episode, we have her husband Shekher is
Speaker 1: a non-resident fellow at rural, a visiting scholar at the
Speaker 1: Johns Hopkins School of Advanced International Studies and a visiting
Speaker 1: professor at the National Council of
Speaker 1: Applied Economic Research and C er until 2023 shaker held
Speaker 1: a number of senior physicians in the International Monetary Fund.
Speaker 1: More recently as division chief in the research department where
Speaker 1: he helped coordinate the fund's monitoring of the global economy
Speaker 1: and liaise with the international groups such as the G
Speaker 1: 20 G7 shaker. A warm welcome to Kobe time.
Speaker 2: Thank you. Demo. Very nice to be
Speaker 2: here.
Speaker 1: It's great to have you and Shekhar. I am really
Speaker 1: keen to talk about two of your recent research output.
Speaker 1: Uh early last year, you and your colleagues at the
Speaker 1: IMF released a note on geo economic fragmentation, which subsequently
Speaker 1: became several notes and papers. So let's begin with you
Speaker 1: explaining what geo economic fragmentation means.
Speaker 2: Sure. Um So if you look at global flows of
Speaker 2: goods and capital, you'll find that they've plateaued since the
Speaker 2: global financial crisis services continue to rise from a small
Speaker 2: base but goods uh and FD I have plateaued at
Speaker 2: the same time when you look at trade restrictions, they've
Speaker 2: been rising very steeply. And since well before the pandemic,
Speaker 2: if you look at the number of new trade restrictions
Speaker 2: that are being imposed in 2022
Speaker 2: there were almost 10 times as many trade restrictions imposed
Speaker 2: as the flow of trade restrictions about one decade ago
Speaker 2: in 2012. Um This is happening at a time when
Speaker 2: geopolitical concerns are rising to the forefront all over the
Speaker 2: world on a number of different issues, whether it's Russia, Ukraine,
Speaker 2: whether it's the Middle East. Um And this is, this
Speaker 2: can again be be seen tangibly in
Speaker 2: the economic sphere. For example, the IMF releases every year,
Speaker 2: a report on every single country's exchange rate restrictions. If
Speaker 2: you look at recent reports and see how many times
Speaker 2: the the the there is mention of the word national security,
Speaker 2: this has been rising very steeply. So you can see
Speaker 2: that this is coming to the forefront of policy discussions.
Speaker 2: Um If you look at earnings calls from the corporate sector,
Speaker 2: we've done text mining on corporate sector earnings calls and
Speaker 2: you find that the number of times they, they use
Speaker 2: words like friend shoring, reshoring has been rising exponentially in
Speaker 2: recent years. So all of this suggested to us
Speaker 2: a working definition of geo economic fragmentation, which we propose
Speaker 2: in the note that you refer to and which I
Speaker 2: think has now become or gained some measure of common acceptance.
Speaker 2: We define geo economic fragmentation as a policy driven reversal
Speaker 2: of global economic integration. It's a deliberately broad definition but
Speaker 2: not the policy driven part that's important. So obviously,
Speaker 2: le let's say that there's a slowdown in trade because
Speaker 2: consumer preferences shift from goods which tend to be tradable
Speaker 2: to services, which tend to be nontradable.
Speaker 2: Um As a result, you find some kind of shrinking
Speaker 2: of trade that's not geo economic fragmentation, that's simply consumer
Speaker 2: preference is changing. Similarly, if technological shifts occur or if
Speaker 2: there are changes in transportation or communication costs and these
Speaker 2: affect trade, that's not geo economic fragmentation, it has to
Speaker 2: be policy driven. So, so that's a crucial part of
Speaker 2: the definition. And
Speaker 2: so obviously, when we do this,
Speaker 2: there are some prudential policies such as macro prudential controls
Speaker 2: on certain capital account transactions, which we think are valid
Speaker 2: and legitimate. And you know, there's good economic reasoning. You
Speaker 2: don't want that to be defined as geo economic fragmentation.
Speaker 2: So we want to exclude
Speaker 2: prudential policies. But of course, when we do so, we
Speaker 2: recognize that there is no bright line between prudential policies
Speaker 2: and protectionist policies and often, you know, the latter can
Speaker 2: masquerade as the former. So, but this is the working
Speaker 2: definition and this is what we mean by the term
Speaker 2: good.
Speaker 1: Um I want to sort of, you know, build the
Speaker 1: key messages of the paper, but I want to add
Speaker 1: a couple of more concepts to this this area. So
Speaker 1: I suppose the opposite of geo economic fragmentation shaker is globalization,
Speaker 1: which is a much maligned word these days in certain
Speaker 1: political circles. So how would you assess the impact of globalization?
Speaker 1: Say from the nineties to the mid 20 tens after
Speaker 1: which we began to see strong evidence of geo economic fragmentation.
Speaker 2: Yeah, it's a, it's a very good question and a
Speaker 2: very good way of putting it and a very good
Speaker 2: way of thinking through it. So, you know, we've amassed
Speaker 2: immense amounts of evidence in the economics literature over the
Speaker 2: last half century about the great benefits that globalization brings
Speaker 2: through multiple channels.
Speaker 2: So that's an excellent starting point. Let's start with trade.
Speaker 2: That's the most obvious. There is a lot of evidence,
Speaker 2: for example, that international trade is strongly linked to economic growth.
Speaker 2: Um And this is this is an important bridge especially
Speaker 2: for developing countries to use as a ladder of development.
Speaker 2: You know, if you if you look at, let's say
Speaker 2: the last 30 or 40 years of data and you
Speaker 2: divide developing countries into globalizer, those which opened up their
Speaker 2: trade regimes and integrated more with the world where the
Speaker 2: trade to GDP ratio went up and non globalizer which
Speaker 2: remained relatively OIC did not open up to the world,
Speaker 2: et cetera.
Speaker 2: You find that over a long period of time, I'm
Speaker 2: talking about 30 or 40 years, there is an enormous
Speaker 2: difference between the growth rate of the globalizer and the
Speaker 2: non globalizer.
Speaker 2: Also, the globalizer have grown much faster than rich countries,
Speaker 2: thereby achieving convergence and catching up with Western living standards.
Speaker 2: This is what you and I studied when we looked
Speaker 2: at neoclassical growth models or solo models in graduate school.
Speaker 2: Uh Yes, it's happening but it's only happening for those
Speaker 2: developing countries which are globalizer, which are integrating with the
Speaker 2: global economy. It's not happening with the rest. So tremendous
Speaker 2: association
Speaker 2: between between trade and growth now intimately linked to that
Speaker 2: of course, is the success that the world has had
Speaker 2: with poverty reduction because we know that poverty reduction is
Speaker 2: intimately related to growth. So trade has had an enormous
Speaker 2: impact in kind of lifting up the developing world via
Speaker 2: convergence and reducing poverty. Um Another thing I would mention
Speaker 2: about trade and this is more to do with advanced economies.
Speaker 2: There's a lot of evidence that trade reduces consumer prices
Speaker 2: uh for the poorest consumers in advanced economies. So we're
Speaker 2: talking about, we're not talking about sort of richer college
Speaker 2: educated people who anyway tend to consume larger shares of
Speaker 2: services than goods. But when you look at low income
Speaker 2: consumers in advanced economies, they have benefited tremendously from trade.
Speaker 2: Um So that's, that's just trade. Then of course,
Speaker 2: let me, let me touch on technology diffusion, which is
Speaker 2: another enormous source for convergence and for kind of the,
Speaker 2: the uplift of the entire globe. Um We have very
Speaker 2: good evidence that FD I for example, and we'll get
Speaker 2: into this later when we discuss the second paper you
Speaker 2: had in mind, um can diffuse technology across borders. So,
Speaker 2: you know, every country in the world doesn't have to
Speaker 2: re invent the
Speaker 2: uh developing countries can take advantage of progress that's been
Speaker 2: made at the technological frontier and it can catch up
Speaker 2: and during the catch up phase, it can enjoy faster
Speaker 2: rates of growth. But of course, this can only happen
Speaker 2: if there's some channel for technology diffusion and the channels
Speaker 2: for technology diffusion tend to be things like trade, foreign
Speaker 2: direct investment participation in global value chains. Um
Speaker 2: Let me come to one more which is kind of
Speaker 2: close to my heart, which is migration. Uh I know
Speaker 2: that migration can be very controversial. Certainly it's a big
Speaker 2: political football in a lot of Western countries. But again,
Speaker 2: it is one of those
Speaker 2: things which and this is true actually for millennia, it's
Speaker 2: not just true of the last five decades. Migration is
Speaker 2: a primary uh mover of the diffusion of ideas and
Speaker 2: technologies and knowledge throughout the world, right? It's, it's happened
Speaker 2: throughout history. It's, it's not a recent phenomenon. Um
Speaker 2: And you know, just to look at recent history, there's
Speaker 2: ample evidence if you look at Silicon Valley, for example,
Speaker 2: and if you look at the number of immigrants and
Speaker 2: the amount of dynamism that immigrants have brought uh to and,
Speaker 2: and that's, that's the leading edge of world technology, right?
Speaker 2: In the US, there's ample evidence that immigrants are more
Speaker 2: likely to have college degrees. They are more likely to
Speaker 2: have stem certifications. They are more likely to start a
Speaker 2: new business, they are more likely to patent. Um There's
Speaker 2: this amazing statistic which might appeal to you Temur,
Speaker 2: if you just look at ethnic Chinese and ethnic Indians
Speaker 2: living in Silicon Valley, just that small group of ethnic
Speaker 2: Indians and Chinese, the amount they account for 11% of
Speaker 2: all patents in America,
Speaker 2: their patent output is greater than the combined patent output
Speaker 2: of the bottom 28 states in the US. We're just
Speaker 2: talking about Chinese and Indian ethnic investors living in the
Speaker 2: San Francisco Bay area. So yes, I mean, you know,
Speaker 2: they're a tremendous source of dynamism and it works both ways.
Speaker 2: So when you have immigrants
Speaker 2: abroad, they send back remittances, we all know that Remittance,
Speaker 2: remittances tend to be countercyclical, remittances were much more stable
Speaker 2: during the COVID-19 pandemic than other types of capital flows. So,
Speaker 2: so they're countercyclical, they help with macroeconomic stabilization um and
Speaker 2: they help with poverty reduction.
Speaker 2: Um And then you have diaspora effect. So I think
Speaker 2: the success of, let's say the Taiwanese semiconductor industry can
Speaker 2: be traced to earlier waves of skilled immigrants who went
Speaker 2: to Silicon Valley and Wall Street and then brought this
Speaker 2: technological expertise back with them to this small, backward, agriculturally
Speaker 2: dominant island, which today is a global leader of high tech.
Speaker 2: So
Speaker 2: migration, I think is another channel which is a threat
Speaker 2: uh given geo economic fragmentation. Let, let me stop there.
Speaker 2: I could go on on this forever. But that's, that's,
Speaker 2: that's three things, trade, um FD I migration, tremendous benefits
Speaker 2: of globalization. And of course, all of this could go
Speaker 2: into reverse with geo economic fragmentation.
Speaker 1: OK. Very compelling Shekhar. You may or may not have
Speaker 1: noticed that I smiled when you talked about convergence and
Speaker 1: I'll take a personal detail to tell you why I
Speaker 1: smiled over two decades ago. I was at a party
Speaker 1: in Van Nest in Washington DC. And I heard a
Speaker 1: new economist in the IMF who just joined talk adly
Speaker 1: about conditional convergence.
Speaker 1: It was you. And so so when you mentioned that
Speaker 1: you really took me back to the very first days
Speaker 1: when I got to know you. All right, back to
Speaker 1: the uh podcast. All right. So you made very compelling
Speaker 1: arguments in terms of the benefits from globalization and the
Speaker 1: fact that there is volumes of, there are volumes of
Speaker 1: empirical evidence to, to establish that point.
Speaker 1: Um We don't have a very large data set for
Speaker 1: geo economic fragmentation, maybe a decade, maybe 12 years. So
Speaker 1: how does one measure robustly the cost of geo economic fragmentation?
Speaker 2: Uh Very good question. Um Although I should say that this,
Speaker 2: you know, your previous remarks demonstrate the perils of doing
Speaker 2: podcasts with people who remember going to parties with you
Speaker 2: 20 years ago. Um Look, this is a new literature.
Speaker 2: It's a field which is in its infancy, it's just
Speaker 2: developing uh in the and because we don't have so
Speaker 2: many years of geo economic fragmentation compared to the many
Speaker 2: decades of globalization, it will be a while before we
Speaker 2: can do
Speaker 2: you know, very good analytically rigorous work on this that
Speaker 2: said in the Sdn we review four recent papers which
Speaker 2: try to estimate the cost of fragmentation
Speaker 2: the way it's done these days is through modeling exercises.
Speaker 2: So essentially all the four papers we review model geo
Speaker 2: economic fragmentation in some way. They set up blocks of countries,
Speaker 2: they introduce trade barriers or investment barriers between the blocks.
Speaker 2: They have very different assumptions about the severity of the
Speaker 2: barriers between blocks. They have different definitions of the blocks themselves.
Speaker 2: In some of the papers, non aligned countries are allowed
Speaker 2: which don't belong to either block. This is just a
Speaker 2: long way of saying that the four papers are extremely
Speaker 2: disparate from each other. Nonetheless, all of them show significant costs,
Speaker 2: global costs of geo economic fragmentation.
Speaker 2: And depending on the severity of the assumptions, uh you
Speaker 2: can get very large results up to 8% global losses
Speaker 2: and much higher losses for individual countries up to 12% 15%.
Speaker 2: Uh depending on the scenario that you have in mind.
Speaker 2: Um There are some common lessons however, that seem to
Speaker 2: emerge from these studies. Let me just go through some
Speaker 2: of them. First, the deeper the fragmentation, the larger the
Speaker 2: estimated losses. What do we, what do I mean by
Speaker 2: deeper the fragmentation,
Speaker 2: there's many parameters in these models which could act to
Speaker 2: deepen the fragmentation uh for one thing, greater barriers between
Speaker 2: the blocks, right? So typically in these models, you put
Speaker 2: some kind of tariff barriers or some kind of non
Speaker 2: tariff barriers between the two blocks, depending on how, how
Speaker 2: restrictive you make those uh
Speaker 2: you get larger output losses for the globe. Um Second,
Speaker 2: do you allow non-aligned countries? So, you know, if you
Speaker 2: allow non-aligned countries, then it's a less fragmented world. If
Speaker 2: you force every country to choose one block, then that's
Speaker 2: a deeper level of fragmentation. So
Speaker 2: the deeper the fragmentation, the higher the loss is second,
Speaker 2: if you put technological diffusion on top of trade barriers,
Speaker 2: then the losses are much greater. You know, we talked
Speaker 2: about this a bit earlier. There are modeling techniques which
Speaker 2: allow you to do this. And when you do this,
Speaker 2: you find that the losses are higher. Third,
Speaker 2: the losses vary widely among countries. They're not heterogenous. And
Speaker 2: in particular,
Speaker 2: the losses tend to be higher for emerging markets and
Speaker 2: developing economies. And this is not surprising because as we discussed,
Speaker 2: they tend to be further back from the technological frontier
Speaker 2: and they can benefit a lot from trade and FD
Speaker 2: I in terms of technological diffusion, if you remove that,
Speaker 2: you remove an important source of growth, so they are
Speaker 2: very badly hurt. And then finally, um short term elastic
Speaker 2: cities of substitution are likely to be smaller than long
Speaker 2: run elastic cities of substitution.
Speaker 2: And that means that even the cost that you see
Speaker 2: in the papers that we survey are likely to be
Speaker 2: an underestimate for the short run because these are all
Speaker 2: long run equilibrium numbers in the short run, you could
Speaker 2: have uh disruptions to output, which are many multiples of
Speaker 2: what we find in the long run.
Speaker 2: Um So that's, that's just, you know, some flavor of,
Speaker 2: of where the literature has been going. I should also
Speaker 2: mention that, that I did some work with IMF co
Speaker 2: authors specifically on FD I fragmentation and FD I fragmentation
Speaker 2: is quite interesting because it's taking the literature in a
Speaker 2: new direction I think. And the basic idea is simple,
Speaker 2: what we do is we take
Speaker 2: voting patterns from the United Nations and there's a few
Speaker 2: academics at Harvard who have built up a database which,
Speaker 2: which show for any pair of countries how far apart
Speaker 2: they are geopolitically based on un voting patterns. And the
Speaker 2: nice thing about this database is that it gives you
Speaker 2: a geopolitical distance
Speaker 2: of bilateral geopolitical distance which is time varying. So then
Speaker 2: this is like extremely nice for all kinds of econometric work.
Speaker 2: And the way we do it is we try to
Speaker 2: establish relationships, you know, we divide the world into quintiles.
Speaker 2: And in the first quintiles are countries which are quite
Speaker 2: close together geopolitically according to this measure that I've talked about.
Speaker 2: And then the final quintile is countries which are quite
Speaker 2: far apart from each other.
Speaker 2: And when you follow these quintiles over time, you find
Speaker 2: that they are becoming very important in determining trade patterns.
Speaker 2: In particular, the share of world trade that is taking
Speaker 2: place among countries which are similar to each other in
Speaker 2: terms of geopolitical alignment is going up steeply.
Speaker 2: So it's already more important than geographical distance. And over time,
Speaker 2: its importance seems to be increasing further. Then you can
Speaker 2: be more rigorous about it and put it into a
Speaker 2: gravity model, which we do. And indeed, we find that
Speaker 2: there's a strong correlation between FD patterns and geopolitical distance.
Speaker 2: So let me, let me give you, let me try
Speaker 2: to distill so you know, consider the geopolitical distance between
Speaker 2: France and the UK. They, they're quite close together, obviously,
Speaker 2: um if you move from that geopolitical distance to the
Speaker 2: distance between France and India, which are much further apart geopolitically,
Speaker 2: you would, you can, you can relate that to a 17%
Speaker 2: decline in FD I.
Speaker 2: So that just gives you an idea of how economically
Speaker 2: powerful geopolitical distance can be. Um
Speaker 2: And then, yeah, then so once you have those parameters about,
Speaker 2: you know how important geo economic fragmentation can be for
Speaker 2: FD I, then you can feed that into a model.
Speaker 2: So we use the IMF SGM model to divide the
Speaker 2: world into different blocks and then to put barriers between
Speaker 2: blocks and then
Speaker 2: use these gravity estimates to parameterize the model and calculate
Speaker 2: global losses. And we find that you can get global
Speaker 2: losses from FD I fragmentation of 2% but the losses
Speaker 2: are much higher for some countries than for others. In particular,
Speaker 2: they are much higher for developing countries than for advanced economies.
Speaker 1: Um Shekar two follow up questions. One is if I
Speaker 1: were to rank all the economies in the world by
Speaker 1: say trade GDP ratio, so you know, a proxy for
Speaker 1: openness or trade intensity, uh would it be fair to
Speaker 1: say that that ranking would be congruent with the vulnerability
Speaker 1: of those economies that the most integrated are the most
Speaker 1: vulnerable to economic fragmentation?
Speaker 2: Yes, although I think there are some subtleties. So, so yes,
Speaker 2: I mean, what what you can do and what we
Speaker 2: do in the in the Rio chapter. Uh for example,
Speaker 2: is to develop an index of geo economic vulnerability
Speaker 2: and it's quite easy to do that because you have
Speaker 2: this index of um geopolitical distance. So what you can
Speaker 2: do is you can wait geopolitical distance by trade shares.
Speaker 2: And if you're trading a lot with countries that are
Speaker 2: very far away from you geopolitically, then mechanically you are
Speaker 2: more vulnerable, right?
Speaker 2: Um
Speaker 2: Now, the reason I'm saying is this is a little
Speaker 2: more subtle is that more recently, people are talking about
Speaker 2: connector countries. And the idea here is that if you
Speaker 2: have a diversified trading base, then in some sense that
Speaker 2: builds resilience because if there's a geopolitical spat with one
Speaker 2: particular set of, of global
Speaker 2: factors because of your diversification and the fact that you're
Speaker 2: trading with a lot of people, there's some insulation from
Speaker 2: that shock. Uh People are also talking about connectors in
Speaker 2: terms of linking hostile blocks to each other. So people
Speaker 2: like Laura Pau at Harvard have been looking at countries
Speaker 2: like Mexico, which is getting a lot of FT I
Speaker 2: from China
Speaker 2: at the same time that it's increasing its exports to
Speaker 2: the US. So in some sense, you could think of
Speaker 2: Mexico as being a connected country between China and the US. So,
Speaker 2: so lots of work going on in this area. Um Yes,
Speaker 2: if you trade a lot with a lot of diverse countries,
Speaker 2: uh you may be
Speaker 2: vulnerable to the extent that you're trading with with people
Speaker 2: who are geopolitically distant from you. On the other hand,
Speaker 2: if you're doing this very diversely and you're doing it
Speaker 2: with a lot of people, then you can be a
Speaker 2: connector as well. Uh So, so there's some pluses and
Speaker 2: some minuses,
Speaker 1: right? I'm compelled by the Mexico example because I think
Speaker 1: Mexico has been a big beneficiary of some of these
Speaker 1: restriction measures that the US has been putting in and
Speaker 1: countries like China
Speaker 1: uh have thousands of companies if not more uh in
Speaker 1: Mexico trading with the US under US MC A. But
Speaker 1: I think this has been noticed by the proponent of
Speaker 1: socio-economic fragmentation and therefore, we could see an undermining of
Speaker 1: us MC A uh if say Trump were to come
Speaker 1: to power because I think there's also
Speaker 1: been some sort of promise made that if Chinese made
Speaker 1: EVs from Mexico or have their way to the US,
Speaker 1: there will be like 100% tired from them US MC
Speaker 1: A be damned. Um So uh so yeah, uh Mexico
Speaker 1: is indeed an interesting example of how at least in
Speaker 1: the short term it can be a buffer, but uh
Speaker 1: it's a dynamic game,
Speaker 2: right?
Speaker 2: Let me, let me jump in. I think that's an
Speaker 2: excellent observation and I think this kind of brings us
Speaker 2: to the cutting edge of the literature. So uh so yes,
Speaker 2: so there are these papers talking about Mexico as a
Speaker 2: great connector. I share your skepticism
Speaker 2: if you saw Donald Trump's speech at the Republican National Convention,
Speaker 2: he explicitly mentioned we're not going to allow the Chinese
Speaker 2: to build automobile factories in Mexico and then export them
Speaker 2: to the US. Uh That's on the Republican side. But
Speaker 2: if you look at the trade representative Catherine Sai under
Speaker 2: the Biden administration, she has made similar pronouncements in more
Speaker 2: guarded language. So, so clearly, this is something that's been
Speaker 2: noticed and it's something that may come to a stop
Speaker 2: at some point.
Speaker 2: So there's that concept of connector which is kind of
Speaker 2: a supply chain type of definition, right? You get investment
Speaker 2: from one block and then you do exports to another block.
Speaker 2: And like you, I'm skeptical that that kind of connector
Speaker 2: can survive the hostile geopolitical environment.
Speaker 2: So I'm actually more attracted to a definition of connected
Speaker 2: countries that emphasizes the diversity of the links that you have.
Speaker 2: And there the paradigm is actually not so much Mexico
Speaker 2: but a country like Vietnam or Cambodia. When you look
Speaker 2: at the diversification of their exports, at the amount of
Speaker 2: balance they have in their exports both to countries to
Speaker 2: which they are geopolitically closed and to countries which are
Speaker 2: geopolitically distant from them, it's very balanced.
Speaker 2: So actually, you know, Francisca and I have a new
Speaker 2: paper which is not yet issued where we try to
Speaker 2: define connectedness in terms of the standard deviation of the
Speaker 2: geopolitical distance that you have from all your trade partners.
Speaker 2: The idea being that the more balanced you are the
Speaker 2: better connector you would make. So, so there are currently
Speaker 2: these debates about how should we define a connector?
Speaker 1: Oh Brilliant. I look forward to the paper and I'm
Speaker 1: hoping my country Singapore scores high in that that balanced aspect.
Speaker 1: Um Shekhar, you are a staff of the IMF you're
Speaker 1: on leave writing a book that I'm also looking forward to.
Speaker 1: But let's talk about the International Monetary System a little
Speaker 1: bit that related to this issue of geo economic recognition.
Speaker 1: What are the consequences if we have persistent geo economic recommendation?
Speaker 1: What does it mean for the international monetary system and
Speaker 1: the global financial safety net, which this international monetary system offers?
Speaker 2: So I guess the first obvious consequence is that
Speaker 2: we will probably move towards regionalization of financial arrangements. So
Speaker 2: to the extent that there's currently a global safety net
Speaker 2: that may become a series of sort of block
Speaker 2: safety nets or regional safety nets depending on the configuration
Speaker 2: of those blocks. And of course, given that the blocks
Speaker 2: are smaller and uh you know, often may have oo
Speaker 2: often may be economically correlated more closely than outside the block.
Speaker 2: It means that the amount of insurance that it can
Speaker 2: give you is suboptimal compared to a truly global safety net.
Speaker 2: So that's one concern.
Speaker 2: I I think one way to to sort of highlight
Speaker 2: the the the issue may actually be to look at
Speaker 2: debt restructuring, you know, that's a big topic right now
Speaker 2: because a lot of countries have elevated levels of debt
Speaker 2: and need some kind of debt restructuring as you and
Speaker 2: I both know because both of us worked at the
Speaker 2: IMF in the early two thousands. Um The last time
Speaker 2: that this was tackled in the in the hippic debt
Speaker 2: relief initiatives, uh a very leading role was taken by
Speaker 2: the Paris Club.
Speaker 2: So the Paris Club is a group of of mainly
Speaker 2: rich country creditors who traditionally have been responsible for delivering
Speaker 2: most of the bilateral credit in the world.
Speaker 2: So when you had a debt restructuring, it was relatively
Speaker 2: easy to get all the Paris Club creditors in one room,
Speaker 2: get them to agree a deal and then you would
Speaker 2: have the debt restructuring. Now if you look at how
Speaker 2: the debt structure in em Ds has been evolving. Non
Speaker 2: Paris Club, creditors are accounting for a larger and larger
Speaker 2: share of total debt. So when you look at countries
Speaker 2: like India, well, China, especially China and India, who were
Speaker 2: not important players in in in as as global creditors
Speaker 2: earlier now they are. So if if you have hostile
Speaker 2: blocks and China is in one block and the Paris
Speaker 2: clubs in another block, it's going to be much more
Speaker 2: difficult to for creditors to agree on things like debt restructuring.
Speaker 2: So that's just one example to highlight ways in which
Speaker 2: the International Monetary system could start fragmenting and could suffer
Speaker 2: consequences as a result of geo economic fragmentation.
Speaker 1: Sure. Um Again, uh really interesting research and I'm sure
Speaker 1: you'll be following up with this with uh more work
Speaker 1: including with Francisca. So look forward to that. Uh She,
Speaker 1: I want to talk about the other research that you've
Speaker 1: been doing uh earlier this month. Uh Bruegel published a
Speaker 1: paper co-authored by you. The title was a productivity spillovers
Speaker 1: from f dia firm level cross country analysis. We've touched
Speaker 1: upon this a little bit, but I'm really interested in
Speaker 1: this subject sitting here in Singapore. So let's start with,
Speaker 1: you know, walk us through how you find this robust
Speaker 1: evidence of productivity spillovers from FD I.
Speaker 2: OK. Um So,
Speaker 2: you know, a lot of work has been done in
Speaker 2: this area as you know, but a lot of it
Speaker 2: tends to be kind of country specific studies. What we
Speaker 2: do here is we collect a really large database with
Speaker 2: three sources of data. So we've got data on Greenfield
Speaker 2: investment on uh on a firm sector country level from
Speaker 2: FD I markets, which is a private database, um which,
Speaker 2: which uh which licenses its data out.
Speaker 2: And then from definitive icon, we've got data on mergers
Speaker 2: and acquisitions, which are an alternative way of doing FT I.
Speaker 2: And then finally, from the World Bank Enterprise Survey, we've
Speaker 2: got some data on the labor productivity of individual firms.
Speaker 2: So we put this together in a, in a big
Speaker 2: uh cross country cross firm panel study and what we
Speaker 2: are looking for specifically are spillovers. So our left hand
Speaker 2: side variable is labor productivity in a firm.
Speaker 2: And we're asking, you know, what are the sources of
Speaker 2: that labor productivity? And there are three possible sources of
Speaker 2: labor productivity. On the right hand side, the first is
Speaker 2: what are called intra Indust industry spillovers. So supposing that
Speaker 2: there's FT I in your industry,
Speaker 2: are there spillovers to firms which didn't receive that FT
Speaker 2: I just because they happen to be in that industry.
Speaker 2: So intra industry spillovers. Second,
Speaker 2: are there spillovers to the firm because it's a supplier
Speaker 2: firm to somebody downstream who is getting FD I? And third,
Speaker 2: um you know, are you getting spillovers because you are
Speaker 2: the user of products um of some firms upstream which
Speaker 2: are getting FD I. So essentially you can use this
Speaker 2: data to measure what are called intra industry spillovers, forward
Speaker 2: linkages and backward linkages.
Speaker 2: And when we do this using this big uh database, we,
Speaker 2: we find some striking results. First,
Speaker 2: there are positive intra industries spillovers, but those are restricted
Speaker 2: to advanced economies. That's interesting to begin with. Why
Speaker 2: here's how we rationalize that result in an advanced economy.
Speaker 2: When you get
Speaker 2: FD I inside an industry, the other firms in that
Speaker 2: industry are normally at a similar technological level. So when
Speaker 2: one firm, let's say gets FD I, this induces the
Speaker 2: others to become more competitive, we call this the pro
Speaker 2: competition effect, right? They have to up their game in
Speaker 2: order to kind of keep up with the firm that's
Speaker 2: getting the FD I. So this is a pro competition effect,
Speaker 2: which is a positive spillover.
Speaker 2: We do not find this effect. Paul EMD, why that,
Speaker 2: why might that be? Because we think in EMD, the
Speaker 2: market stealing effect could be stronger than the pro competition effect.
Speaker 2: So let's say that the other firms in the industry
Speaker 2: are not quite at the same technological level as the
Speaker 2: favored firm, which is getting the FD I. Well, in
Speaker 2: that case, the FD to the favored firm
Speaker 2: could cause the other firms to fall further behind and
Speaker 2: lose market share to the firm that's getting FD I.
Speaker 2: And if the market stealing effect is stronger than the
Speaker 2: pro competition effect, then you won't find any, any positive
Speaker 2: coefficient there. And that's what we find for em Ds. Now,
Speaker 2: what we do find very power powerfully for em DS and,
Speaker 2: and not for advanced economies is backward linkages.
Speaker 2: What does this mean? It, it means that if you
Speaker 2: have FD I in a, in a particular firm or
Speaker 2: a particular sector, there are positive productivity spillovers to supply
Speaker 2: of firms which are upstream. So all those firms which
Speaker 2: are supplying inputs to the firms which are getting FD
Speaker 2: I seem to get productivity spillovers. And this is just
Speaker 2: like a classic channel in the development literature. This is
Speaker 2: what we expect. This is what we see. So not
Speaker 2: only does FD I help the firms that you're directly
Speaker 2: investing in. But
Speaker 2: it means that the firm now becomes a more exacting
Speaker 2: demander of skilled inputs. And so it forces all the
Speaker 2: input suppliers to up their technology, to up their productivity,
Speaker 2: to up the sophistication of what they're supplying.
Speaker 2: So there is this this positive restraint. So those are the,
Speaker 2: those are the kind of main um results that we
Speaker 2: find um you know, happy to elaborate more.
Speaker 1: So Shekhar you said that uh in the intra industry spillover,
Speaker 1: it's more uh robust in the case, or you find
Speaker 1: such a significant coefficient in the case of developed markets,
Speaker 1: but not for emerging markets. But what about the uh
Speaker 1: download linkage and upper linkage those areas E MD M
Speaker 1: similar effects.
Speaker 2: So we find these very strong backward linkages for E
Speaker 2: MD ES not for advanced economies.
Speaker 1: OK. Fascinating. So exactly what a development literature would suggest.
Speaker 2: Absolutely, I mean, because there's they are further from the
Speaker 2: technological frontier. So when they get the FD I, there
Speaker 2: are these strong incentives for firms which are, you know,
Speaker 2: at different parts of the value chain to kind of
Speaker 2: up their game to participate fully in it,
Speaker 1: right? And if we are talking about types of FD I,
Speaker 1: because you touched upon the issue that you know, your
Speaker 1: database also allows you to look at FD I in
Speaker 1: the form of cross border MN A. Um is that
Speaker 1: more potent or less potent than a typical rec congestion
Speaker 1: of capital in the company.
Speaker 2: So we actually find that the MN A data is
Speaker 2: a lot noisier and our estimates are far less precise
Speaker 2: when it comes to M and A compared to Greenfield.
Speaker 2: Um As far as we're aware, we are the first
Speaker 2: study to actually put them side by side. So most
Speaker 2: of the studies are on Greenfield and don't consider MN
Speaker 2: A at all. We also find some some. So, so
Speaker 2: we can confirm for MN A, the positive intra industries
Speaker 2: spillovers result for a a for for advanced economies, right,
Speaker 2: which I talked about for Greenfield, that result is still there.
Speaker 2: Uh But the backward linkages for em DS they disappear.
Speaker 2: So we do not find that for MN A, um
Speaker 2: we can only speculate on why that might be um
Speaker 2: one speculation is the following. You know, when you have
Speaker 2: Greenfield investment
Speaker 2: in an emerging economy, almost by definition, you are expanding
Speaker 2: the market for local suppliers, right? Because we are you
Speaker 2: are you are adding new business activities. So there's more
Speaker 2: business for the local suppliers
Speaker 2: if you've got ma what you're doing is essentially you're
Speaker 2: taking over something that already exists. So you're not necessarily
Speaker 2: adding to the demand for local suppliers in the same
Speaker 2: way that Greenfield is. And in fact, if you're taking
Speaker 2: over an existing firm, you may disrupt um you may
Speaker 2: disrupt existing local supplier relationships. For example, you may
Speaker 2: to import your inputs. Um you know, compared to the
Speaker 2: old system where you were looking to local suppliers. So
Speaker 2: these may be some reasons why we do not find
Speaker 2: for MN A, the same backward linkages that we found
Speaker 2: for Greenfield. But I think this is an area that's
Speaker 2: going to take a lot of further research to actually
Speaker 2: sort out and explain uh some of these, some of
Speaker 2: these results
Speaker 1: here, I'm thinking aloud if the types of industry make
Speaker 1: a difference like FD I going into oil and gas,
Speaker 1: which has, you know, all sorts of negative external its
Speaker 1: and may not be the passion of, you know, improvement
Speaker 1: in productivity given that they are largely mechanized industries. Anyway,
Speaker 1: maybe we don't get as much productivity bang or spill
Speaker 1: over there. As opposed to say FD I going into
Speaker 1: high tech industries which would immediately diffuse into the rest
Speaker 1: of the sector. What's your thought on that?
Speaker 2: Yeah, I think that's, that's a fascinating area for research.
Speaker 2: We don't have the kind of finely grained sector decompositions
Speaker 2: that you would need to answer that type of question.
Speaker 2: But I think that this is very relevant. You know,
Speaker 2: a lot of people are also talking about strategic sectors
Speaker 2: and you know, whether, you know, you're, you're aware that
Speaker 2: in things like trade disputes and FD I restrictions, there's
Speaker 2: a lot of concern that
Speaker 2: you know about strategic sectors in pa in particular. And
Speaker 2: these strategic sectors are often the kind of high tech
Speaker 2: sectors that you mentioned. So, so yeah, I think, I
Speaker 2: think the profession will need to try to discriminate between
Speaker 2: these different sectors and, and look at how important spillovers
Speaker 2: are from a heterogeneous point of view.
Speaker 1: Oh, that's a very good segue to my final question.
Speaker 1: Trigger on industrial policy because the moment you said, you know,
Speaker 1: strategic sectors and so on, I mean, look, it's so
Speaker 1: much in vogue now it was something that East Asian
Speaker 1: countries did and now everybody wants to do it. So
Speaker 1: what's your thought on industrial policy?
Speaker 2: So, so look, I I think first of all, like,
Speaker 2: you know, everybody uses industrial policy in a different way
Speaker 2: and they mean different things and the conversation can often
Speaker 2: get derailed because the participants in it mean fundamentally different
Speaker 2: things by industrial policy. So let me perhaps start by
Speaker 2: saying that,
Speaker 2: you know, I would be in favor of industrial policy
Speaker 2: if you defined it in a certain way, as I'm
Speaker 2: sure would be 99.9% of professional economists. So if the
Speaker 2: idea was that sometimes there are externalities and governments need
Speaker 2: to have public policy measures to cure these externalities. Let
Speaker 2: me give you an example. Climate change is perhaps the
Speaker 2: biggest externality of our generation
Speaker 2: to the extent that governments try to have public incentives
Speaker 2: to channel resources into industries, which would combat climate change.
Speaker 2: I think an overwhelming majority of economists would say that
Speaker 2: that's fine. That's good. That's what the econ 11 textbook
Speaker 2: suggests that you should be doing.
Speaker 2: So, you know, if it's simply incentivizing the private sector
Speaker 2: to tackle something to, to overcome an externality, I think
Speaker 2: we can all be in favor of that. I think
Speaker 2: what's much more insidious is trying to pick winners and
Speaker 2: losers among particular firms and particular industries. Um when there's
Speaker 2: no obvious externality when it's just the government,
Speaker 2: you know, thinking that this is the sector of the
Speaker 2: future and we have to support it. First of all,
Speaker 2: we know that governments have a terrible track record with
Speaker 2: picking winners and losers. And it's not obvious that they
Speaker 2: have a better crystal ball um than Wall Street and financiers.
Speaker 2: So if there's no obvious externality, it's not clear why
Speaker 2: the government should be involved. Um And, you know,
Speaker 2: my personal history is, I'm from India, I lived through
Speaker 2: the era of Nehru and socialism where, you know Indian
Speaker 2: planners were constantly trying to channel resources to favored sectors.
Speaker 2: You had government monopolies in the commanding heights of the
Speaker 2: economy and it wasn't such a successful experiment, right? It
Speaker 2: took the liberalization of the mid 19 eighties and the
Speaker 2: mid 19 nineties to get away from that mindset.
Speaker 2: And once that was in the rearview mirror, you had
Speaker 2: a step change in economic growth, you had a massive
Speaker 2: reduction in poverty, you had all kinds of things that
Speaker 2: weren't going on. Uh you know, during what you might
Speaker 2: call the industrial policy era. Now, you know, people have
Speaker 2: pointed to successful examples of industrial policy. Uh South Korea
Speaker 2: is often mentioned, but uh again, I think one needs
Speaker 2: to go into the nitty gritty of it. Um First
Speaker 2: of all,
Speaker 2: I think one needs to have an honest effort at
Speaker 2: the counterfactual, you know, South Korea had a highly educated population,
Speaker 2: it had clean standards of governance, it had excellent rule
Speaker 2: of law. Um So it's not clear to me that
Speaker 2: in a counterfactual where they didn't do industrial policy, they
Speaker 2: wouldn't have done equally well, maybe they would have done
Speaker 2: even better, right? Given that they had all these other
Speaker 2: conditions for for growth which we know are very important
Speaker 2: for growth.
Speaker 2: Secondly, to the extent that they subsidize the table,
Speaker 2: it should be noted that the c were export oriented
Speaker 2: firms which faced market discipline in international markets and global
Speaker 2: competition from other world leading technology firms. So I think
Speaker 2: that's one important lesson like if you must do industrial policy,
Speaker 2: at least do it in an export oriented sector which
Speaker 2: faces natural competition from outside, you know, in India, the
Speaker 2: industrial policy was for
Speaker 2: was for companies which were supposed to service the domestic
Speaker 2: market and essentially had no competition. And then of course,
Speaker 2: there's the danger that you're just throwing bad money off
Speaker 2: to good and there's no competitive pressure to make sure
Speaker 2: that there's any kind of actual advancement.
Speaker 2: So Yeah, it's a subtle issue. Um, I think it
Speaker 2: depends on what exactly you mean by industrial policy. If
Speaker 2: it's a matter of getting the basics right. Um, incentivizing, uh,
Speaker 2: public externalities to be, to be combated, then I think
Speaker 2: it's an excellent idea. If it's about picking winners and losers,
Speaker 2: individual firms in individual industries, then no.
Speaker 1: Yes. Also there is a issue related to survival bias.
Speaker 1: We've looked at certain industries in Japan and Korea that
Speaker 1: succeeded ignoring the fact that many, many billions of dollars
Speaker 1: were wasted in corruption or poor investment ideas. Because to
Speaker 1: your point, bureaucrats can't really pick winners and losers that
Speaker 1: efficiently Shekhar. What about the lesson from China, which of
Speaker 1: course has also been,
Speaker 1: you know, designating industrial champions. But I think one thing
Speaker 1: that characters somewhat differently from others, it's a big economy
Speaker 1: and which allows it to have substantial interprovincial competition.
Speaker 1: Uh so capital can go to certain industries here and there.
Speaker 1: But then it's not just for one company and many
Speaker 1: companies fight each other, which we're seeing with Chinese EVs
Speaker 1: for example. So would that be a kind of a
Speaker 1: lesson that you would take that if somebody wants to
Speaker 1: pursue industrial policy, that they would, they should ensure that
Speaker 1: competition stays?
Speaker 2: Absolutely. I mean, II I think you couldn't have said
Speaker 2: it better. Let me first say that the point you
Speaker 2: made about survival bias I think is a very important
Speaker 2: one and I think it's kind of related to the
Speaker 2: point that I'm making about counterfactual, right? One doesn't know
Speaker 2: what the counterfactual would have been in the absence of
Speaker 2: industrial policy.
Speaker 2: Um Yeah, so I indeed, so you're pointing to alternative mechanisms,
Speaker 2: so competition can occur at the export level where you're
Speaker 2: competing with other countries and other global firms, but it
Speaker 2: can occur internally as well in terms of interprovincial competition.
Speaker 2: However, whatever the source of the competition, I think it's
Speaker 2: extremely important to keep competition alive if you've got industrial
Speaker 2: policy because industrial policy without the competition is almost a
Speaker 2: guarantee that, you know, you're just sending bad, good money
Speaker 2: after bad and there's no accountability and no sense in
Speaker 2: which an inefficient firm will ever exit the market. So,
Speaker 2: so one must try to avoid that at all costs.
Speaker 1: Um I've been thinking about this issue of tech related
Speaker 1: industrial policy lately that the US and its allies are
Speaker 1: very keen to make sure certain leading as technology does
Speaker 1: not fall into the hands of the Chinese that they
Speaker 1: don't have the capability of replicating some of the,
Speaker 1: you know, tiniest chips that's out there. Uh And uh and,
Speaker 1: and I hear these arguments that it's really not possible
Speaker 1: to fragment the world that way anymore. Uh chips are
Speaker 1: available in open markets, they can leak into China even
Speaker 1: if the West is keen on preventing it. And therefore
Speaker 1: this just creates inefficiencies, but ultimately, it is futile. Uh
Speaker 1: Any thoughts.
Speaker 2: Yeah, I I think that there's two different things going
Speaker 2: on here. So one is kind of the technological element
Speaker 2: that you refer to. So is it really possible when
Speaker 2: you have, let's say dual use technology for chips to
Speaker 2: kind of distinguish between chips that have military applications and chips,
Speaker 2: which are high tech without being military, maybe technologically, it's
Speaker 2: just not possible to do that division
Speaker 2: but the the danger that I see as even greater
Speaker 2: than that is the political economy danger. Because once you,
Speaker 2: once you tell a politician that yeah, you know, you can,
Speaker 2: you can ban this or you can put non tariff
Speaker 2: barriers uh by appealing to national security. Then very quickly,
Speaker 2: the definition of national national security becomes extremely elastic. So
Speaker 2: I would remind you of, of the Trump tariffs on
Speaker 2: steel and aluminum,
Speaker 2: these were imposed on national security grounds, right? I mean,
Speaker 2: this is something that hadn't been used, I think for
Speaker 2: 20 or 30 years before that
Speaker 2: national security grounds, but steel and aluminum across the board,
Speaker 2: including from the Eu and Japan. So that's a very
Speaker 2: elastic definition of national security.
Speaker 2: Recently, the Joe Biden administration was raising questions about Nippon
Speaker 2: steel investing in the steel sector in, in, in the US. So,
Speaker 2: you know, when you're talking about, about things like security
Speaker 2: in the context of Japan, there's hardly a closer ally
Speaker 2: that the US has, it becomes very elastic. So my
Speaker 2: concern is not just the tech
Speaker 2: logical point you're raising about whether you can distinguish national
Speaker 2: security related trade from, from other types of trade. But
Speaker 2: also the political economy dimension is very tempting for politicians
Speaker 2: to just become protectionist under the guise of national security.
Speaker 2: So I think it's very dangerous path to go down.
Speaker 1: Ok. That's a very, very apt note to end on Shekhar.
Speaker 1: I know you've been nursing a call. So I'm really
Speaker 1: grateful that you made the time to come to this
Speaker 1: podcast and talk about these two very important subjects. So
Speaker 1: thank you very much for your time and insights.
Speaker 2: Thank you, Temur. Thanks for inviting me. Great to be
Speaker 2: with you.
Speaker 1: Fantastic. And thanks to our listeners and viewers as well.
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