A Grounded Demolition of Richard Hausmann’s Economic Thinking for Lanka

 Sirmevan Colombage, courtesy of The Business Times, where the title runsHarvard’s Ricardo Hausmann has no fresh message for crisis-ridden SL economy” … and also challenges the title deployed in a Thuppahi Item …


ranil at forum …Ranil Wickremasinghe at the Forum and then in Suisse RANIL IN SUISSE

The Sri Lanka Economic Forum held recently was aimed at setting the stage for an in-depth analysis and discussion of the need to develop government policy along the identified areas of importance, according to the media release issued by the organisers.  In my opinion, however, it is doubtful whether the Economic Forum served its purpose considering the lack of innovative policy focus in the discussions, as I pointed out in the last Sunday’s column. In this article, I intend to examine Prof. Ricardo Hausmann’s presentation, which is available at the official website (http://srilankaeconomicforum.org/)

The Economic Forum is reported to have dealt with the findings of a preliminary study on Sri Lanka carried out by the Harvard University’s Centre for International Development headed by Hausmann. In his presentation titled “Constraints to Sustained and Inclusive Growth in Sri Lanka: An Initial Diagnosis and Key Topics for Discussion”, Hausmann merely repeats the age-old textbook stuff relating to export-constrained economic growth, low government revenue, structural transformation, urbanisation and economic growth. In this regard, I am compelled to disagree with Mr. W.A. Wijewardena, my former colleague in the Central Bank, who dedicated his column in the Daily FT of 11 January 2016 to exaggerate the so-called ‘message’ of Ricardo Hausmann.
BOP-constrained growth is not an original finding of Harvard: At the outset, Hausmann poses the question, “Is growth constrained by exports and the balance of payments?” Using a simple line chart depicting the balance of payments (BOP) deficits and GDP growth in Sri Lanka for the last two and a half decades, he argues that the growth is constrained by BOP.  The BOP-constrained economic growth is a well-tested hypothesis in the economic literature articulated by Prof. A.P. Thirlwall of Kent University in his seminal paper published in 1979. Moreover, the benefits of export promotion vis-à-vis import substitution have been well documented in the two separate synthesis volumes authored by Prof. Jagdish Bhagwati and Prof. Anne Krueger in 1978 under a special conference series themed ‘Foreign Trade Regimes and Economic Development’ of the US-based National Bureau of Economic Research.
Many more research publications and policy studies on the subject have appeared since then. In an econometric study conducted by Dr. Lloyd Fernando and myself in 2002 through the Marga Institute for a regional study of the South Asia Network of Economic Research Institutes (synthesis report available at http://saneinetwork.net/Files/02_05.pdf), it was proved beyond doubt that there is strong short and long-term bi-directional causality between exports and GDP growth in Sri Lanka.
Fiscal-monetary policymakers are well aware of imbalanced-budget  consequences
On the question of weak public finances, Hausmann depicts few charts on the low level of government revenue in relation to GDP, negative public savings and the excess of fiscal deficits over public investment in Sri Lanka without making an in-depth analysis or suggesting alternative policy options.  Again, these are well known facts. The escalation of fiscal imbalances to today’s high magnitudes is not due to the ignorance of the policymakers at the official level in the Treasury or in the Central Bank, to be fair by them. Unquestionably, these officials are quite familiar with the fiscal constraints pointed out by Hausmann. Challenges for optimal monetary-fiscal policy mix have been highlighted in almost all annual reports of the Central Bank for decades.
But rectification of such imbalances has become impossible at the implementation stage owing to political economy factors. Various forms of populist handouts, subsidies and tax concessions along with a huge public sector workforce created by the successive governments for short-sighted political gains exert enormous fiscal strains thus, overriding the dire need to reduce the budget deficit.  I do not think that Hausmann offers any policy alternatives to address these political economy complications.
Economic transformation too discussed here frequently:As regards economic transformation, Hausmann points out that, countries, as they grow, need to diversify and evolve their comparative advantage into new areas. This process is not merely shifting from agriculture to manufacture, but also to services such as ICT, BPO, KPO, bunkering and tourism. Hausmann stops there without presenting any policy directions.
Economic transformation and export diversification are subjects that have been discussed extensively in Sri Lanka as well as in other developing countries over the last so many decades, and there are numerous empirical studies on the subject.  The points raised by Hausmann on issues relating to urbanisation and regional disparities look rather vague. It is not clear how those fragmented ideas could be integrated into an overall policy analysis, which was claimed to be the main objective of the Economic Forum.
Domino effects of ill-advised policies are disastrous: Regrettably, Hausmann’s address at the Economic Forum appears more like a defensive power-point presentation of a postgraduate student, rather than a vigorous initiative to spearhead policy reforms for the ailing Sri Lankan economy, which is supposed to be the very purpose of inviting these foreign experts to the island at this juncture. The views expressed by Prof. Joseph Stiglitz at the Forum are no better, as I already pointed out in the previous column of this series. Instead of suggesting robust policy alternatives geared to growth acceleration, Stiglitz has presented some scattered ideas on the role of the government in steering the economy and lessening income inequality through taxation.
II. Prema-chandra Athukorala: “Limitations in Prof. Hausmann’s policy recommendations”
The policy recommendations made by Professor Ricardo Hausmann in his presentation at the recent Colombo Economic Summit are based on the ‘product space’ analysis developed and popularised by him and his co-researchers at the Centre for International Development at Harvard University. This approach has a fundamental limitation as policy guidance in this era of economic globalisation, even though their ‘ pictures’ (product space diagrams) look very impressive and have a great appeal to policy makers who take them at face value.
   Product space analysis is based on the conventional approach to analysing trade patterns, which treats international trade as an exchange of goods produced entirely from beginning to end within national boundaries. This approach is based on the assumption that factors of production are locked in within national boundaries (that is, it assumes away foreign direct investment, and cross border movement of labour and all inputs used in manufacturing). It completely overlooks the ongoing process of global production sharing (GPS), the breakup of the production processes into separate stages, with each country specialising in a particular stage of the production sequence, which opens up opportunities for countries to specialise in different tasks within vertically integrated global industries.
   Parts and components, and final assembly traded within global production networks (‘network trade’) have been growing at a much faster rate compared to trade in goods wholly produced within countries (‘horizontal trade’, the focus of product space analysis). Global production has been the prime driver of export-oriented growth East Asian countries. According to my calculation network trade accounts for over 60 per cent of total manufacturing exports from China, Korea, Taiwan, Malaysia, Singapore, and Thailand. A number of countries in the region (Vietnam and Cambodia are the latest example) have successfully moved from primary product specialisation to exporting manufactured goods (parts and components and final assembly) by joining production networks. This certainly is not ‘Monkeys jumping from low trees to taller trees’ as depicted in product space diagrams.
   Policy inferences based on the product space analysis is not consistent with the objective of reaping gains from joining global production networks. As Professor Gerald Helleiner has aptly stated in a best-known article, “The introduction of the possibility of component manufacture and middle-stage processing within international industries knocks the bottom out of any stage theory of the development through industrialisation and trade which focuses upon final products” (Helleiner, Gerald K. (1973), ‘Manufactured Exports from Less-Developed Countries and Multinational Firms’, Economic Journal, 83 (329), p 43) It seems that Prof. Hausmann’s policy advocacy of export promotion has basically been shaped by the Latin American experience.
   The Latin American countries’ lack-lustre record of manufacturing export expansion can be explained to a greater extent by these countries’ failure to reap gains from the ongoing process of global production sharing. I was surprised to note that in the website posting on the Sri Lankan visit, Prof. Hausmann has used Venezuela as a comparative foundation in justifying his policy advocacy for Sri Lanka! Sri Lanka needs to learn lessons from its own past and from the successful countries in our Asian neighbourhood, not from a failed state in Latin America. In the aftermaths of the 1977 liberalisation reforms, a number of electronics multinationals came to Sri Lanka to set up assembly plants. We sadly missed the opportunity to become an export hub based on global production sharing because these MNCs soon left the country in the early 1980s as political instability set in.
   Among these lost investment projects was a large assembly plant (with a planned employment of 3000 workers), which made headlines in a Harvard Business Review article. Chet Singh, the founding chairman of the Penang Development Corporation, recently told me that Motorola’s decision to come to Sri Lanka was a big concern to him and the Penang state government at the time because Sri Lanka was a much better location for electronics assembly compared to Penang. Luckily for him (and for Penang) Motorola eventually gave up the Sri Lanka option and set up a plant in Penang. The Motorola plant in Penang currently employ 8500 workers and also acts as the regional R&D centre of that giant multinational enterprise. We need to strive to regain such lost opportunities.
prema-chandra_athukoralaPrema-chandra Athukorala is a graduate from the department of Economics, Peradeniya University and is presently Professor of Economics, Arndt Corden Department of Economics, Crawford School of Public Policy, Australia National University …. SEE https://crawford.anu.edu.au/people/academic/prema-chandra-athukorala
… while Colombage is an economist, academic and former central banker,who can be reached at sscolom@gmail.com


Gerald H. Peiris: “The Doctrine of Responsibility to Protect: Impulses, Implications and Impact,” 30 June 2010, http://www.slguardian.org/2010/06/the-doctrine-of-responsibility-to-protect-impulses-implications-and-impact/ AND https://mail.google.com/mail/u/0/#search/from%3A(geraldpeiris%40yahoo.com)+OR+to%3A(geraldpeiris%40yahoo.com)/1510fc7141751033?projector=1

Michael Roberts:Lilliputs in a World of Giants: Marga and CHA bat for Lanka in the Propaganda War, 2009-14,” 18 November 2015, https://thuppahis.com/2015/11/18/lilliputs-in-a-world-of-giants-marga-and-cha-bat-for-lanka-in-the-propaganda-war-2009-14/#more-18467

International Pressures & Island Fissures: Gunatilleke faces Ratnawalli,” 5 November 2015 https://thuppahis.com/2015/11/05/international-pressures-island-fissures-gunatilleke-faces-ratnawalli/

Richard Gowan 2015 “A Hardline R2P Interventionist? An American Analyst’s Interpretation of Samantha Power,” 22 November 2015, https://thuppahis.com/2015/11/22/a-hardline-r2p-interventionist-an-american-analysts-assessment-of-samantha-power-in-april-2014/#more-18552

Sunday Times: “Marga/CHA confront the OISL Investigation in Geneva, September 2014: Godfrey Gunatilleke in Q and A with Lasanda Kurukulasuriya,” 19 November 2015, https://thuppahis.com/2015/11/19/margacha-confront-the-oisl-investigation-in-geneva-september-2014-godfrey-gunatilleke-in-q-and-a-with-lasanda-kurukulasuriya/#more-18492

Jeevan Thiagarajah: “Marga/CHA in Advocacy with BRIC Nations at Geneva, September 2014,” 19 November 2015, https://thuppahis.com/2015/11/19/margacha-in-advocacy-with-bric-nations-at-geneva-september-2014/#more-18498

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