LESS LAISSEZ FAIRE, MORE INTERVENTION NEEDED

6:44 AM Jul 26, 1994

LESS LAISSEZ FAIRE, MORE INTERVENTION NEEDED
Geneva 26 July (Chakravarthi Raghavan) -- Pragmatic, rather than orthodox approaches to structural adjustment -- doctrinaire approaches to deregulation and liberalization -- and less emphasis on laissez faire and more on direct interventionism by governments are needed for sustained growth and poverty reduction in the near future, according to the UN Conference on Trade and Development.

The UNCTAD view is in an issue paper for the Standing Committee on Poverty Alleviation which began a week-long second session Monday.

The paper, the secretariat notes, addresses the effects on poverty alleviation of three issues -- each "intrinsically distinct and important in its own right", but all dominated by structural adjustment and the common link they have with gainful employment of the poor.

Without a system of compensation for external shocks, increase in poverty was inevitable in developing countries that experienced the debt crisis and reversal of terms of trade in the 1980s.

It would hence be incorrect to impute to structural adjustment policies those adverse effects on poverty mainly attributable to debt crisis and the austerity measures which that crisis triggered, UNCTAD says.

The report goes on to make a distinction between the effects of the stabilization policies and the subsequent structural adjustment policies and programmes -- both formulated and pushed on the Third World by the Bretton Woods Institutions.

Declines in per capita spending, it says, have been more associated with the budget stringency of stabilization policies and demands of rising claims of interest payments on debt rather than specific structural adjustment measures as such.

But the document does not make clear whether and how the two could really be distinguished -- given that both came neatly formulated and packaged and tied with ribbons from the Bretton Woods institutions, and given that the Bank's SAPs and lending were conditioned upon an IMF stabilization policy and programme.

It however goes on to add: "That said, it is also true that, because of the knock-on effects of structural adjustment on the macro-economic variable, austerity measures have had to be intensified and extended beyond the time-frame necessary to achieve macro-economic adjustment"

"Interest rate liberalization has intensified the effect of tight monetary policy; trade liberalization has created pressures for further currency devaluations; and the foregone revenues from trade and financial liberalization have augmented and extended the need for public expenditure reduction policies."

On the positive and negative effects of structural adjustment on poverty, the report says that on the positive side, smallholder farmers who grew food and export crops had in some cases benefited by economic liberalization.

A footnote though adds that real prices for export crops received by producers of primary commodities had been reduced, but that this was due to the fallacy-of-composition issue and only "loosely related to the direct effects of structural adjustment measures on poverty".

Unfortunately, this does not address the fact that individual country desks at the World Bank, in individual structural adjustment programmes, had thrust policy advises for expansion of export commodity production without looking at the fallacy-of-composition effects which, in any event for ideological reasons is rejected by the Fund/Bank top managements.

The SAPs, UNCTAD however notes, eliminated the government marketing boards and did not pay sufficient attention to ensure that benefits of incentives to exports were passed on to small producers rather than captured by the traders and other middlemen.

The incomes of most urban poor households and a large proportion of rural poor engaged in non-tradeable activities have declined as a result of the SAPs. Price increases have occurred over a wide range of essential and mass-consumption goods, including public utilities, schooling, health care and food staples at official prices.

The higher prices have hurt the urban poor more. The rural poor have little if any access to these goods.

The urban poor have unambiguously been negatively affected in the medium term by the SAPs, while the impact on rural poor has depended on a variety of factors, not least of which have been the degree of concentration of landownership in the production of export crops and the extent to which export incentives have been passed on small producers.

The SAPs have also had distributional effects because of the patterns of investment, consumption and resources concentration which they induce. In some instances it has already become evident that the regressional distributional shifts of SAPs have hurt the poor more than would otherwise have been the case. SAPs have affected income distribution through supply and price factors.

For instance, a rise in domestic interest rates reflecting relative scarcity and greater international mobility of financial capital, as compared with relatively abundant and non-tradeable wage-labour, has led to a functional redistribution of income in favour of owners of financial resources who have been able to command high rates of return on financial assets kept inside the country. The liberalization of capital and foreign exchange markets have given them the option otherwise of moving resources abroad.

Wage earners in contrast have seen their primary incomes in real terms decline as a result of liberalisation of labour market, trade and financial markets.

This growth of adjustment-related poverty, and in particular the regressive changes in relative incomes among households, has been clearly evident in Latin America where the declines in real incomes and in access to and quality of services first triggered by the severe economic crisis of the 1980s has continued under the stabilization and SAPs undertaken in the region.

While in some cases these have been attenuated by abatement of inflation and a fragile return to growth, SAPs-based modalities of development in the region have perpetuated greater income inequalities and more precarious employment conditions than in the pre-adjustment period.

The share of wage earners in GDP fell by six percent, while that of economic agents rose by eight percent between 1980 and 1990. There is also little evidence that incipient signs of economic recovery are bringing any relief to the poor in Latin America as a whole.

The proportion of the poor have risen from 41 to 46 percent between 1980 and 1990 -- with urban poverty increasing from 30 to 39 percent and rural poverty remaining steady at 60 percent. Numerically, the numbers of urban poor doubled -- from 62.9 million in 1980 to 115.5 million in 1990, while rural poor grew from 73 to 80.4 million.

The proportion of the urban poor in destitution rose from 9 to 17 percent, while that of the rural poor rose from 28 to 30 percent.

There have been similar trends in incomes and poverty in much of Africa, though income inequality was generally diminished rather than augmented. Factors accounting for this included debt burden which exceeds the GNP, falling terms of trade, droughts and, in some cases, civil strife. The minimum real wage of most sub-Saharan Africa declined by over 40 percent in 1980s as compared to the 1970s, while proportion of the poor grew from 21 to 29 percent in urban areas and remaining unchanged at 54 percent in rural areas.

But the SAPs have not yet been successful in moving national economies unambiguously towards sustained growth.

Contrasting these experiences with those of East Asian economies, UNCTAD says prompt economic action by these countries when faced with emerging macroeconomic imbalances, combined with swiftly-implemented measures of benefit to the poor, enabled them to return to a path of sustained growth and falling poverty after only a few years of interruption.

Also, it adds, "the economic adjustment programmes which these countries designed and implemented were premised on a firm and direct, interventionist role for the State in trade and other aspects of the economy. By adjusting continuously, in their way and of their own volition, to changing circumstances, these countries have been able to expand their export of manufactures and successfully combine high and sustained rates of growth with poverty reduction and macro-economic stability."

Commenting on the various SAP instruments used and their effects on the poor, the report notes that financial reform was necessary and there has been a consensus on eliminating subsidy from many elements of directed credit, on raising deposit rates in line with inflation, and on elimination of real negative interest rates to remove the bias favouring capital over labour.

Orthodox structural adjustment policies, however, call for prompt and complete deregulation of credit markets and interest rates, which in practice has proven to be counter-productive when at the same time macroeconomic conditions have been unstable and lending institutions have had weak balance sheets. Financial liberalisation have also not been gradually and pragmatically phased and have worsened inequality and poverty.

Hastily instituted financial liberalizations have produced a rise in interest rates -- very high and volatile in real terms. With capital investment driven out by short-term uses of credit (consumer credits and portfolio speculation by the wealthy), fewer new jobs have been created. Small enterprises' access to credit have virtually dried up. The high interest payments firms have to make on borrowed capital have been taken out of the wage bill, thus driving down real wages.

High interest rates also raised the cost of government debt and the loss of net revenue has placed continuous pressure on monetary and fiscal policies, thus prolonging the duration of economic austerity.

As for trade liberalization, another SAPs instrument, UNCTAD notes that over the long term this might prove beneficial in middle-income countries where overvalued exchange rates and quantitative restrictions have led to inefficient patterns of industrialization.

But the impact on poverty has been mixed. Initial substitution of QRs by import tariffs could have beneficial revenue effects. But since most countries suppress imports for BOP, in practice the increase of revenues has not been all that substantial.

Small enterprises and small farmers have gained relatively little from effects of currency devaluation and reduced or eliminated export taxes.

The uniform reductions in import tariffs, at the next stage and core objective of trade liberalization, has deprived governments of revenues. Reduction in overall levels of protection have made imports cheaper, weakening the BOP. Given the binding external financing constraints, further devaluations have been needed to alleviate foreign exchange bottleneck.

"By exceeding the realistic exchange rates required for macroeconomic adjustment, devaluations associated with trade liberalization have thus added to stagflationary impulses in the economy"

The wealthy have also contributed to further bidding up exchange rates in foreign currency auctions in order to import luxury consumer goods. And as importation of wage goods and intermediate inputs for domestic industries engaged in production of non-tradeables become increasingly expensive, the consumer needs and employment security of much of the population including many of the poor have been negatively affected.

Although import competition may in the long run increase productivity of local manufacturers, in the short-term importation of prestigious brand-name consumer goods drove out of business many competing local firms, eliminating the jobs directly or indirectly associated with them.

The impact of trade liberalization have been more successful on exports of labour-intensive activities than on those needing imported inputs. The income effects on the poor have been more positive in predominantly agricultural countries and regions where export crop production is labour intensive and dominated by small-holders as opposed to plantation based production.

But even in the best of cases, the proportion of poor directly engaged in export commodity production has been smaller than conventionally thought. Also, despite efforts in a number of countries to improve real prices for producers -- by reducing export taxes, increasing administered producer prices and passing on to producers part of higher local currency earnings from depreciation of real exchange rates -- these have generally been insufficient to compensate for fall of primary commodity prices in world markets during the past decade.

"Individual producer returns have been even lower in countries where government marketing boards have been abolished and traders, instead of producers, have captured most of the benefits...Also, when marketing boards have been eliminated, the resulting decline in quality of exports have eroded the position of thee countries in world markets, resulting in producers suffering a further decline in prices."

As for effects of liberalization of labour markets (by reducing or eliminating wage-indexation, minimum wage legislation or other regulations affecting working conditions), the wages in the formal sector fell considerably in the 1980s, but even more in the informal sector. Even in the 1990s, the liberalization of labour markets have not produced the expected additional demand for labour in the formal sector. Many firms that reduced employment during crisis years have not reversed the new recruitment.

The net result has been for labour supply to increase and for real wages to remain depressed.

As for privatization, the question is not so much whether privatization is desirable but rather whether all public enterprises should be privatized. Privatization programmes have gone to extremes when public utilities with substantial externalities have been sold off. When suitable governmental regulations and consultative mechanisms have not been part of the privatization package, there has been the risk that privatized public utility companies may disconnect supply of electricity and running water to entire uncontrolled urban settlements with poor households and many illegally hooked up to the services.

"Orthodox approaches to structural adjustment, in their present form, have often impeded successful economic transformation and revitalization during the medium-term," UNCTAD says.

Doctrinaire approaches to deregulation and liberalization have exceeded the pragmatically optimal, harming rather than helping low-income countries that have limited scope for reorienting their economies in the medium or even long-term.

Also, proper sequencing and phasing are all important. It makes little sense to liberalise economies before basic improvements in financial and BOP positions have been achieved.

"Indeed," UNCTAD adds, "liberalization policies have had knock-on effects on macroeconomic policies... and have prolonged and intensified the social hardships of stabilization programmes.

"All things considered, it makes sense to replace blunt liberalization policies with more nuanced, pragmatic measures; to introduce a more gradual and calibrated sequencing and phasing of structural reforms; to maintain an active governmental presence in compensating for market failure and to intervene directly in export promotion, investment incentives and parastatal reforms."

Partly because of these, the impact on the poor of structural reforms have been on balance negative in most developing countries. Rural poverty has stagnated while urban poverty has risen. And as most of the poor are economically active in non-tradeable production, their incomes have fallen while cost of many wage goods have risen. Financial and trade liberalization have hurt their employment prospects in both short and medium-term.

While markets play a very important role, "the historical fact is that poverty reduction does not happen in a fully free market regime," the UNCTAD report points out.

"A free market can be an efficient arbitrator in allocating scarce resources. But it does not correctly value public goods which are the main determinants of the poor's ability to satisfy their basic needs. Less emphasis on laissez-faire and more on direct interventionism by governments is therefore needed if sustained growth and poverty reduction are to be achieved in the near future," says UNCTAD.

The report adds: "Given the tendency of adjustment measures to increase income inequality, there will continue to be a need for complementary policies and programmes involving effective targeted interventions rather than reliance on market mechanisms and trickle-down to alleviate and reduce poverty. Indeed, a proper balance between sound macro-economic structures and policies, on the one hand, and pro-poor policies, on the other, is a pre-requisite to the success of sustainable growth with poverty alleviation."