Wednesday, August 20, 2014

Institutions and sovereignty

As pointed out by Thomas Piketty in "Capital in the XXI Century", the most important debate we face today is how we adapt to global challenges such as inequality, financial instability, excess of debt or climate change. Of course there are local problems, but it is probably too late to try to reduce reduce the size of the problems. In this context, it does not make much sense to try to find one single exclusive sovereign area or one "demos" (Spain, Catalonia, the UK, Scotland), but to acknowledge two important facts:
-Most of us are governed by several levels of administration: local, regional, national, European, global. No referendum is going to change this or make us suddenly "free."
-Most of us have several identities, and if one believes he or she has only one identity, chances are that he or she shares the house, the street or the city with people that have other identities. There are no territories in Europe with one single "us."
Sovereingties are overlapping and shared.
This is the reality of Europe in the XXI Century and our democracy should adapt to it, not try to create another reality.
The nation-state in Europe in the XXI century is obsolete, as brilliantly pointed out by Joschka Fischer in a recent article (did the Scottish Green read it?). Identities are social issues, and those that naively wave them should be aware of the unintended consequences: the path to hell is paved with good intentions.
In Catalonia, if a referendum with a yes victory for independence was followed by a negotiation, the outcome in the euro zone would be the same as the outcome of a referendum, much less divisive, that rubber stamped an ex ante broad agreement. If we consider the possibility of unilaterally exiting the euro zone, that is uncertainty and probably financial ruin of the greatest scale.
As argued earlier here, the possibility that a tight majority in a relatively rich region may alter the remaining borders of a euro zone country is the ultimate commitment problem. In our institutional architecture, we need innovation, flexibility, FOCJs (functional, overlapping and competing jurisdictions), and be aware that with globalization, states and markets should fit as much as possible in size and fluidity.
A referendum to endorse a broad agreement among a large majority of citizens that share common values is a better way to democratically decide things than a secession referendum. This would be as consistent as the proposed consultation in Catalonia with the existing broad support for some kind of decision or consultation, and it would fit much better with the current Spanish and European legal framework. It would be a way to decide on institutional architecture that fits with the reality of bodies that are for good reasons evolving towards federalism (Spain and Europe).

Saturday, August 16, 2014

The book by Calomiris and Haber, "Fragile by Design"

This is an excellent book by two decent conservative economists. Decent because they make explicit their absolute support for democracy, although they distinguish between liberal democracy and populist democracy. And decent because as opposed to other right-wing economists, they do not have any problem in qualifying governments such as Pinochet's in Chile as a "brutal dictatorship" (and not only a military government). They combine economic theory, history and political science to give a political economy account of the evolution of banking systems and financial regulation in several countries. Unfortunately, none of their examples include continental Europe. They explain the political nature of the web of contracts that make banking possible. Depositors must trust bankers, and bankers must trust debtors, and the relationships among all of them are possible because there is some government that enforces property rights and the rule of law. They explain very well the trade-off between deposit insurance and competitive incentives. The idea of unregulated laissez-faire banking is non-sense. Besides, states need banks to finance their increasing needs when the democratic franchise expands, and because they need to maintain expensive armies. States need banks and banks need states. It is impossible to understand the evolution of banking without understanding the political underlying forces behind banking structures. In some countries, history has been such that the political equilibrium has been a banking industry too much inclined towards risk, such as the United States, whereas in other countries history has been such as to make possible stable banking, such as it happened in Canada. The authors rightly argue that what matters is this basic structure, and that individual regulators or regulatory agencies are just responsive to these underlying forces, and therefore we should not have too much faith in these regulatory solutions. Calomiris and Haber emphasize the relationship between increasing risk taking by politicized financial institutions and redistributive pressures. If the latter are not addressed through the appropriate instruments of transparent tax and transfers, distortions such as reckless risk taking may have very costly consequences in the long run. They spend considerable space explaining this argument, but they seem to be left without arguments on the relationship between the Thatcher revolution in the UK, which they very much admire, and the financial crisis there, about which they merely spend a couple of pages. Perhaps the question marks they leave open will be answered by my next reading, the book by Atif Mian and Amir Sufi, "House of Debt."

Monday, August 11, 2014

In Dublin

I have been in Dublin for the last few days, on holidays. People drive on the left, buy in Tesco supermarkets, speak English, have Boots pharmacies, two level buses... I mean, perhaps they had good reasons to completely secede from the Unted Kingdom in 1922 (although they had to fight a civil war about that because the moderate nationalists were not in favour of full independence), but today the Irish society looks the closest thing that one can imagine to a British society, at least in the capital Dublin. After independence, it took decades for them to prosper, and no doubt after joining the EU they experienced rapid growth, which stopped, as in the UK, with the global financial crisis of 2008. Of course, there was a big difference between the UK and Ireland back in 1922 and possibly today: Ireland is a Catholic country. As an independent state, it took decades for them to separate church from state, as in the UK they still have some lingering remnant of unnecessary Protestant influence (the Queen is the head of the Anglican church). But if that is the big difference, that one country is Catholic and the other is Protestant, to an atheist like me, this does not seem to be a big difference either. In the part of Ireland that did not secede, these two branches of the Chirstian religion have been fighting and killing each other in the streets until recently. Was all this necessary? Given all the good that membership in the EU has done to both countries, it seems to me that this is the way ahead: increased cooperation in a unified Europe. Actually, it was close cooperation and a European and global perspective what brought the best that both countries have achieved in their history: peace in Norhern Ireland in the late 1990s. But it is still a fragile peace, non the least because of the remaining influence of radical nationalists (not only Irish Catholics, but also radical Unionists).

Tuesday, August 5, 2014

The institutional architecture of regulation and competition

I just submitted a paper about the institutional architecture of regulation and competition, with an application to the recent regulatory reform in Spain. This is the conclusion: "Competition policy and the regulation of liberalizing industries must be coordinated. This coordination is not easy because several market failures and other public concerns interact. There are few examples in the world where this coordination is achieved through full integration of regulation and antitrust agencies, the Spanish reform analyzed above being thus an extreme case. The reason is that there are good policy and incentive reasons, reviewed above, to keep separate agencies with different mandates. Although the influence of the decision of separation vs integration on regulatory capture is theoretically ambiguous, in countries with very powerful large firms with national and international champions ambitions, the large firms could have a preference for as few regulators as possible and keeping them as close as possible to the executive powers. The incumbents have long term strategies of political connections and international expansion, and may prefer to have a single agency to lobby no matter its size, and to deal with a government that keeps most of the relevant decisions. In addition to this, different industries and policy instruments require different levels of regulatory independence; and there is a trade-off between regulatory independence, which requires accountability, and multi-dimensional tasks, which makes this accountability more difficult. Industries that are being partially liberalized should be regulated balancing the trade off between the need to have clear objectives and the economies of scale and scope that come from regulating similar industries. The Spanish case analyzed above illustrates that independent regulatory agencies are fragile institutions. If this is the case in Spain, a member state of the European Union, what may not happen in countries that are less constrained from an institutional point of view. The EU should reflect about the difficulties experienced, not only in Spain, but also in Denmark and other countries, with de facto independence. It apparently seems that the institution of regulatory independence lacks the resilience and public support that, at least until recently, enjoyed central bank independence (now this is also questioned after the global financial crisis). There is a broad consensus among scholars and practitioners that institutional quality is important, but it is more difficult to say which specific attributes conducive to institutional quality should be adopted. Many of the relevant attributes are probably difficult to measure and define: credibility, stability, good appointments... Both written and non-written rules matter. Institutions are endogenous and they are not good travellers, in the sense that they must fit and complement the previous institutional endowment (see Levy and Spiller, 1994, and Spiller and Tommasi, 2007). In future research, the analysis of regulation and competition laws and institutions should take bounded rationality seriously into account (lack of immediate feedback, biases that especially affect experts): ex post evaluation of regulatory decisions, and de-biasing strategies should be contemplated in any reform (see Cooper and Kovacic, 2012, and Rachlinski and Farina 2002). Behavioral economics insights may include that the saliency of one or several ex ante agencies could help them in their conflict with ex post concerns, when these occur. Monopolistic agencies likely tend to aggravate biases such as confirmation or overconfidence. But one size does not fit all. There is no universal blueprint and policy experiments are necessary as a learning process when there is technological, institutional and demand uncertainty. A good appointment as head of a merged agency might overcome any of the problems of an integrated agency that have been raised here. In the case of the integration of agencies in Spain, to evaluate its future performance the focus will have to be on the wisdon of appointments, and on the ability of the regulators to build a reputation for independence from government and from incumbent firms.The structure of regulation and supervision is only one aspect that affects its effectiveness and efficiency.  This paper has only focused on the institutional architecture at the national level. In many EU countries, this level is strongly constrained from above by EU treaties and directives and from below from decentralization. Cihak and Podpiera (2006) claim that “The literature generally concludes that the question of the most appropriate structure for regulation and supervision is to a large extent a practical one and the answer depends on the interaction of a number of factors that, moreover, evolve over time. Therefore, there is no strong theoretical argument for any particular organization of supervision; there are only potential advantages and disadvantages of various setups, the importance of which depends on the conditions in place in a given jurisdiction”. The key issue remains that regulation takes into account other market failures (such as externalities or information asymmetries), public objectives (such as equity) and dynamic considerations, that are typically not considered by competition policy. Of course these additional considerations open the door to special interests. How (taking into account the imperfections of government and the imperfections of individuals) democratic societies deal with these concerns under any institutional architecture is a fundamental aspect of their future evolution.


Sunday, August 3, 2014

Regulation of finance and network industries

There are very interesting parallels between financial and network industries' regulation. Public interventions in network industries have historically addressed a number of concerns. Market power is perhaps the most prominent one, but there also concerns with externalities (positive and negative) and with asymmetric information. Equity concerns have also played a role, for example in universal service policies or secutirty of supply. Some of these policies have different time horizons: allocative efficiency concerns have typically a short run horizon but universal policy or security of supply have a longer run horizon. Some of the interventions operate ex ante (typically regulation), and others operate ex post (typically antitrust). Sometimes ex ante and ex post concerns are complementary and in other occasions theu are substitutes. These policies interact: for example, it is difficult to maintain universal service policy in the absence of new policy instruments when an industry is liberalized. In this sense, network industries are not very different from other industries, such as financial industries, where a number  of market failures and policy concerns interact, as the global financial crisis has made clear. A lender of last resort instrument (which has a clear distributive component) cannot exist without instruments of monetary policy, and the lender of last resort effectiveness depends on the effectiveness of policies of financial supervision (which have to do mainly with asymmetric information problems). And all these operates on an industry (banking) that is imperfectly competitive, and where the degree of competition, together with the degree of insurance guaranteed by the lender of last resort, affect the risks taken by agents (institutions and individuals). In the global financial crisis, market power concerns have clearly been trumped by the other concerns. Politicians are better at making decisions when the policy has far reaching redistributive implications so that compensation of losers is important; criteria of aggregate efficiency do not easily pin down the optimal policy; and if there are interactions across different policy domains so that policy packaging or evaluating controversial trade-offs is required to build consensus or achieve efficiency. The introduction of multi-dimensionality and distributive concerns in banking regulation and monetary policy after the global financial crisis has caused Central Bank independence becoming more vulnerable.
In the field of monetary policy and financial regulation, although banking supervision and monetary policy interact (as it is widely acknowledged after the global financial crisis), given the difficulty of measuring output on supervisory tasks, the systemic risk supervisor must necessarily be more accountable and less independent than central banks are on their monetary task. And since explicit incentives are not very useful, they must develop a strong culture and ethic, a sense of intrinsic preferences for doing their job well, because little credit is given if things go well, but a great deal of scrutiny and criticism are given if things go badly (specially for some interest groups). Although the literature argues that a single, large supervisory authority is better able to attract, develop and maintain professional staff expertise, this has not been found to be the case in other domains, where specialized agencies can offer a congenial environment to the experts in that field irrespective of size. Enlarging the focus of regulatory agencies has thus organizational and incentive costs. But as it was seen with the financial crisis (for example with the Northern Rock debacle in the UK), the central bank’s absence from supervision has also enormous costs.

Friday, August 1, 2014

Woodrow Wilson was wrong

The US President Woodrow Wilson, at the end of the first World War, to finish with the power of empires, proposed to implement the right of self-determination for all nations: a state for each nation. He became to our days a myth for several nationalist generations all over the world. With the benefit of hindsight, it is easy to see Wilson’s mistake in the origin of many later problems: the expansion of Germany prior to the second world war, Ukraine, Yugoslavia, the wars in Israel…
The great Italian writer Claudio Magris summarizes in his book Danubio, all the problems of implementing Woodrow’s receipt, at least in the European continent. It is impossible to cut the map of Europe in separated nations, because national groups are mixed in each and every one of the corners of Europe.
The economist William Easterly in his new book “The Tiranny of Experts” explains the contraditions between looking for freedom for peoples and pursuing freedom for individuals: for example, Wilson wanted peoples’ self-determination but defended racial segregation at home.
In the XXIst century nation-states are a bad unit of analysis and of action. We need more institutional diversity tan that. Terry O’Rourke remarked that “Wilson's legacy proved to be a hodge-podge of simplistic and emotion-laden concepts, which Hitler successfully used to manipulate and divide Western opinion.”
Margaret MacMillan says that “The Paris Peace Conference was only partly about making peace settlements and about making a better world; it was also the focus of the hopes and expectations of nations trying to reconstitute themselves, in the case of Poland, who wanted their independence from an empire, in the case of the Baltic states, or who were new nations such as Yugoslavia, Czechoslovakia, or Kurdistan. Paris was in the six months between January and June 1919 the centre of world power, perhaps even a sort of world government. The peacemakers rapidly discovered that they were dealing with an agenda which kept on growing.”

Saturday, July 26, 2014

Independence is not what it used to be (a brief comment about McCrone's book)

The book by Gavin McCrone "Scottish Independence. Weighing Up the Economics" is a comprehensive account of the economic issues involved in the referendum about the independence of Scotland that will take place in September. There are chapters on welfare, on monetary policy, on financial regulation, on energy, on fiscal issues, and others. Two of the main ideas are i) that even in the case of "independence" the Scottish powers will be strongly constrained by the realities of economic links, and ii) that the intention of the Scottish nationalists to remain in a currency union with the UK after independence is contradictory with other objectives of secession. On the first issue, the constraints of an independent Scotland, it is quite clear that an "independent" nation-sate in the European Union in the XXI century is not the same as an independent nation-state say in 1922, when Ireland became independent (and as the author explains, started a long and painful road until becoming a rich nation), let alone when Scotland was independent until 1707. Many of the discontinuities between national borders in the past have today disappeared in Europe, and a national government is today constrained by flows of people, capital, and by the rules of the European Union. Relatedly, many policies that the Scottish nationalists claim that would be possible under independence are possible today and are not being implemented, or would be possible under enhanced devolution. On the second issue, the problems of a currency Union with the UK, McCrone stresses the difficulties of keeping a currency union and at the same time pretending to have fiscal sovereignty, something that was also pointed out by the Governor of the Bank of England, Mark Carney. This is an excellent and very balanced book by one of the persons that better knows the Scottish economy. He claims that an independent Scotland would be a perfectly "viable" state, and does not use any scaremongering arguments at all. But his conclusion is clear: the uncertainties and contradictions of the project for Scottish "independence" are such that the alternative of a better devolution scheme in the context of a rebalanced (federal?) United Kingdom is much stronger.