Belyanin on Russian fiscal policy

https://notes-from-the-golden-horde.blogspot.com/2018/01/the-putin-redistribution-introduction.html.

The National Sphinx of Kazakhstan

Why is the central bank cutting interest rates?

To read the news, you would think that Kazakhstan’s central bank must look like the Sphinx. On January 15, the National Bank cut the base interest rate -- which affects rates throughout the economy -- from 10.25% to 9.75%. The Conway Bulletin said this was partly due to the fact that “the economy is on the mend.” Pause here for head-scratching: Usually central banks cut interest rates because the economy is not on the mend. Lower interest rates spur borrowing and spending; firms respond by producing more. An interest rate cut is the prescription for an anemic economy, not a healthy one.

In reality, the Bank attributed its rate cut partly to “the continuing weak recovery of the domestic demand.” The operative word in that phrase is “weak.” The Bank wants to boost demand, so it is cutting rates.

This Keynesian policy is a little questionable. The government’s statistical committee puts the annual rate of economic growth at 5.2%, which is not exactly anemic. Note that the base interest rate affects all demand for Kazakhstani products, not just the demand of Kazakhstanis. A rate cut can weaken the tenge, making the country’s products cheaper for foreigners to buy (by lowering their dollar prices) and thus boosting demand for its exports. In short, the rate cut might push production towards full capacity -- boosting prices rather than output, since the economy is already producing as much as it comfortably can.

So the key question is whether the economy is so close to full capacity that a stimulus to demand could tip it over the cliff. One approach is to see whether the unemployment rate – the share of the labor force that is looking for work but cannot find it – is unusually low.  The answer is not clear. Last December, the unemployment rate was 5% -- a bit below the average December rate in years since 2010, when the economy began to recover from the financial crisis (5.2%).     

The Conway Bulletin goes on to say that the Bank recognized “some downside risks to its forecast,” like “external factors such as oil prices sliding once again.” What the Bank actually said was this: “Continuation of the OPEC+ agreement about the oil production cuts while keeping the current quota in November 2017 reduces the risks of the significant oil price drop.” Granted, the Bank’s command of English is rather funky, but its point is that oil prices have become less likely to fall.

And now, the news…

In addition to misstating the Bank’s stance, the media are missing the real news. At the end of its news release, the Bank suggests that it is targeting the real rate of interest. This is the normal interest rate (I mean the rate that banks quote for loans) minus the expected rate of increase in prices (inflation). To the real interest rate, lenders tack on the expected rate of inflation because they anticipate getting paid back after prices have risen, which would reduce the purchasing power of their dough. If lenders think that prices will rise 10% next year, they will raise their normal interest rates by 10% to compensate. The Bank said that it was cutting the base interest rate because inflation rates were likely to fall.  Since the real interest rate is the normal rate minus the rate of expected inflation, it appears that the Bank is stabilizing the real rate.  

For example, suppose that the normal rate is 10% and the expected rate of inflation is 8%.  Then the real interest rate is 10% - 8% = 2%.  Now suppose that expected inflation falls to 7%.  The real interest rate would rise to 3% (10% - 7%). If the Bank is targeting the real interest rate, then it would lower the base rate to 9% (since 9% - 7% = 2%). This seems to be what the Bank has in mind.

But as the Bank governor, Daniyar Akishev, recently told a Russian-language newspaper, Delovoy Kazakhstan, the Bank’s priority is to reduce the rate of inflation. This is not consistent with targeting the real interest rate. For example, a rise in demand for Kazakhstani products will push up the real interest rate by boosting demand for tenge and loans. If the Bank is targeting the real interest rate, it will have to print money in order to lower it. (Abstruse digression: The real interest rate is the price of holding tenge, since you must forego interest payments if you put your money in the mattress rather than in securities. As with any other product, an increase in the supply of tenge will lower its price.) The new money could easily overheat the economy, raising the unexpected rate of inflation. So, what does the National Bank really want to do? Dampen inflation, or hold steady the real interest rate? – Leon Taylor tayloralmaty@gmail.com

References

The Conway Bulletin. Kazakhstan cuts interests, says economy is improving.  January 21, 2018. Online.

Алевтина Донских.  Данияр Акишев: «Регулятору важно всегда быть бдительным». Деловой Казахстан. December 21, 2017.

National Bank of Kazakhstan. Press-release No. 1: The base rate reduced to 9.75%. January 15, 2018. www.nationalbank.kz

Belyanin on redenominating the ruble

http://notes-from-the-golden-horde.blogspot.com/2017/12/the-introduction-will-loaf-of-bread-in.html

Pandora’s revenge

In August 2015, the central bank of Kazakhstan took its mitts off the exchange rate, leaving it to the vagaries of the currency market. From July to September, the number of tenge trading for a dollar rose from 187 to 258 – and averaged 366 in January, a virtual doubling in five months. In other words, the amount of foreign goods that tenge holders could buy nearly halved. Who suffered most in this drastic depreciation?

At first glance, you would think that the rich had more to lose than the poor. Those with tenge wealth saw their dollar value vanish. The poor had no wealth, much less tenge wealth, so they got off scot-free.

At second glance, things are not so simple.  A depreciation raises local prices, since it raises foreign demand for local goods, forcing residents to compete for them by paying more.  Some prices rise faster than others. Who is unlucky enough to face these prices?

A recent study addressed this question by analyzing the 1994 crash of the Mexican peso.  Political violence and other factors that year caused investors to lose faith in the peso.  To keep it from weakening in terms of the dollar, the central bank bought pesos and sold dollars.  Since the peso was overvalued, investors dumped it. By December, the central bank was running out of dollars, so it floated the peso. The currency tanked, prices soared, and a few banks collapsed.  Sound familiar?   

In their careful study of the Mexican crisis, Javier Cravino and Andrei Levchenko concluded that prices paid by the poorest tenth of the population nearly doubled while those paid by the richest tenth rose three fourths. This happened partly because the rich spent more of their income on services than the poor did. Most services are bought at home, not abroad; so when the currency goes south, their prices rise less rapidly than those of traded goods like grain.  Even within a category like food, prices rose more rapidly for the poor, who were accustomed to buying cheap food from abroad.  Overall, in the two years following the swooning of the peso, the purchasing power of the poor fell by half but declined less rapidly – by 40% -- for the rich.

Did the 2015 tenge crisis worsen the income distribution in Kazakhstan as well?  A question, perhaps, for the National Bank. --Leon Taylor, tayloralmaty@gmail.com

Good reading

Aldo Musacchio. Mexico's financial crisis of 1994-1995.  Harvard Business School Working Paper. No. 12–101. May 2012. 

Wikipedia.  Mexican peso crisis.  https://en.wikipedia.org/wiki/Mexican_peso_crisis

References

Javier Cravino and Andrei A. Levchenko.  2017. The distributional consequences of large devaluations.  American Economic Review 107(11): 3477–3509. https://doi.org/10.1257/aer.20151551.

National Bank of Kazakhstan.  Official exchange rates on average for the period.  www.nationalbank.kz

 

Higher miseducation

Has Kazakhstan's educational policy gone astray?

In higher education, Kazakhstan doesn’t harvest the forest because it perceives only a few trees.

During the early years of independence, the government cut back sharply on its funding of colleges, which now amounts to less than a third of a percent of the size of the economy (measured as gross domestic product), according to the Organization for Economic Cooperation and Development, a research group comprising rich nations.  Of this amount, more than a third goes to Nazarbayev University, which the government regards as the country’s flagship among research universities, and to the Bolashak program, which finances advanced study abroad.  This leaves less than a fifth of one percent of GDP of public funds for all other schools of higher education. 

Among them, the government favors vocational and technical colleges. This year it announced its intent to make this education free, which may accelerate the long-term rise in their share of all students of higher education, already above half despite a slight drop in the past few years. Free vocational education may be a step towards diversifying the economy away from oil exports, which account for roughly a fourth of GDP.

The logic behind this policy is a little shaky.  At the margin, graduates of vocational schools will realize most of the value of their education in the form of higher wages.  As long as they can borrow money for school, they seem likely to choose the right amount of education by comparing its value to its cost (such as the wages foregone by studying rather than working for three years).

Wild swings

Yes, vocational education might also confer a value on society, rather than on the graduate, by diversifying the economy, since this mitigates the oscillations in GDP that stem from volatile oil prices. The youth might not take this value into account when she mulls going to college.  But aside from this, the market will provide enough vocational education even if the students pay full tuition.

The area that may be under-funded is liberal arts education, ranging from art history to political science.  This education creates general skills for solving such problems as how to reduce inequality in the nation’s distribution of income – problems that matter to society but that do not necessarily offer high wages motivating anyone to seek a solution.  The OECD notes that general problem-solving skills are much weaker in Kazakhstan than in the West.

Liberal arts also promote a sense of civility among graduates that makes life pleasant for all of us. The youth contemplating college cannot cash in these benefits as higher wages, so he is likely to ignore them when choosing his field of study.  A subsidy to the liberal arts may correct this deficiency.

The OECD has complained that Nazarbayev University’s share of public funds is too large to benefit higher education. “At best, this is an experiment that carries substantial risks: It is an open question whether any excellence that the university may achieve can outweigh reduced funding for the rest of the [higher education] system.” It could have said the same thing about Kazakhstan’s skimpy funding of colleges in general. –Leon Taylor tayloralmaty@gmail.com

References

OECD (2017).  Higher education in Kazakhstan 2017, Reviews of national policies for education. OECD Publishing, Paris.  http://dx.doi.org/10.1787/9789264268531-en