Economic Growth Damage in Developing Countries Essay

We can argue that the creation of a European single currency without a fiscal union is structurally flawed. Explain the readings and lectures surrounding the European sovereign debt crisis.

The Eurozone has many institutional faults and that is why the creation of a European single currency without a fiscal union is unstable. In early 2010, for instance, financial markets reported that the fiscal positions of several Eurozone countries, starting with Greece, were unsustainable. Despite the urgent warning, European leaders and institutions delayed in their policy responses towards the situation. The banking sector also seemed weak and this caused fears over possible Greek default spreading to other nations such as Spain and Italy.

The 1992 Maastricht Treaty laid out the criteria that nations had to meet before becoming members of the European Monetary Union (EMU). However, the treaty did not create any conditions that would allow the European Central Bank (ECB) to come in aid of Eurozone members during the economic crisis. Rather, the treaty suggested that each member must finance its deficits, a condition that is not always possible considering that some members may not have adequate resources to do so. The existence of a fiscal union would have identified and filled this gap.

During the creation of the European single currency, the EMU left the fiscal policy to the individual member states. Poor execution of fiscal discipline has led to increasing public debts in states like Greece. It is hard for the exporters to cope with the devaluation of the currency and enormous debts since there are some Euro restrictions.

Eurozone members that are leading in debts have had to reduce public expenditure and increase taxes to enhance their economic positions. The existence of a fiscal union would put measures in place to see that Greece complies with all conditions established by the institution, or otherwise, establish fiscal policies aimed at enabling nations with large public debts to come out of the situation.

We can also argue that the establishment of the Euro made members of the Eurozone lose their potential in using fiscal policy tools during harsh economic conditions. The unavailability of monetary and exchange rate apparatus tied with a lack of a regular fiscal plan creates anxiety as Eurozone members face limitations when dealing with economic shocks.

Lastly, the monetary union lacks adequate adjustment mechanisms that can bridge the gap in competitiveness between countries such as Germany, in the wealthy north, and the more spendthrift countries in the south, such as Greece. A fiscal union would establish a common fiscal policy to address these persistent economic imbalances.

Since the collapse of Doha negotiations in Cancun and the ambiguity of Hong Kong, U.S, and EU protection programs for sugar, dairy, and other commodities have contravened the spirit of the WTO. Explain how agricultural subsidies and protections are not only disruptive to global trade but also detrimental to economic growth in most developing countries.

. Developed countries are unfairly excluding Less Developed Countries (LDCs) product imports while subsidizing their producers at about $300 billion annually. The European Union, for instance, allocates one out of every two Euros from its common budget to agricultural protection. Subsidization of agricultural products in developed countries leads to overproduction and thus affecting the trade cycle. For instance, when the United States and the EU ship underpriced produce to a country where 50-80 percent of its economy is based on agriculture the consequences, which include loss of employment and wages, are exacerbated. Because of protectionism and subsidies, farmers in developing countries continue to compete with artificially low prices, lost market shares, and unfair competition.

According to the principle of comparative advantage, countries should export the goods in which their production costs are relatively low. Nevertheless, developed countries have ignored this ideology by introducing agricultural subsidies and protections and that is why developing nations went to Cancun. Developing countries went to Cancun with the main objective being to dismantle agricultural subsidies and other tariff and nontariff barriers placed on certain agricultural and processed products in which they have a comparative advantage. Agricultural subsidies and other protection measures have reduced the number of agricultural products exported from developing nations, and thus affecting the economy of these countries. On the same note, LDCs are demanding an opening of markets and a rapid phase-out of agricultural subsidies, which they cite as the primary cause of export dumping in the developing world, which in turn interferes with the sale of locally grown products.

Another important detriment to the internal growth of LDCs is import tariffs. Although they do not receive the attention that export subsidies do, some of them are extremely harmful to LDC’s development. For example, the EU average tariff on agricultural products coming into its countries is 22 percent, while the average for the U.S. is 14 percent. This is nearly four times more than tariffs imposed on other industrial and manufactured goods.

Finally, agricultural subsidies and protections harm multilateral trade. According to the World Trade Organization (WTO), multilateral trade agreements would force all nations to trade on the open market, which would correct many of the poverty problems of the LDCs. At Cancun, WTO expressed the view that most small and poor countries, landlocked or geographically isolated states, and those states with relatively unattractive markets would lag due to protectionist and subsidization policies in developed nations.

Should outsourcing decisions remain with the free market or should governments play an active role in limiting a company’s freedom to outsource jobs to overseas branches, subsidiaries, contractors, or firms. Explain what outsourcing is, why it happens, why it is politically controversial, and what, if anything, should the government’s role be in the process of legislating MNCs?

The government should not limit a company’s freedom to outsource jobs because trade protectionism has no benefits in this effect. Trade protectionism results in an incompetent subsidy for uncompetitive divisions of the market, and this triggers a reduced rate of return for investors and increased prices for consumers. Protectionism conserves jobs in less viable sectors while devastating existing along with future jobs in areas that have a comparative advantage. Assuming that the government creates barriers to stop offshore outsourcing, the general impact will be to destroy jobs and not to create them. For that reason, governments should allow the free market to make decisions concerning outsourcing without any interference.

Outsourcing arises when a company hires and delegates its tasks to an outside provider. The existence of standardized software packages and reduced communication overheads has made it feasible to subcontract many business functions including customer service and file management.

Outsourcing is politically controversial because the proceeds from trade cut across the economy, while the costs of trade are intense. Consequently, those negatively affected by open borders comprise the more motivated faction. Again, public opposition toward trade rises in times of economic recession. When presented with arithmetical proof indicating that trade is beneficial for the country and anecdotal proof of job losses owing to import rivalry, Americans support the anecdotes.

Outsourcing jobs overseas adds two more pressures that are political. One pressure originates from the fact that modern inventions have transformed non-tradable segments into major areas of trade. For manufacturing employees, global competition is nothing new. On the other hand, global completion is new to employees in white-collar service areas such as law and medicine and they are not pleased about it. Their political response to the threat of competition from other areas is furious.

Another pressure is that the Internet has enhanced political organization significantly, thus easing the processes of public meetings, including meetings of those who come together to oppose outsourcing.

The government ought to practice restraint in legislating MNCs. Restraint is anathema to the political class, yet it is the most significant reaction to the uproar on offshore outsourcing. a different choice would be to assist companies to acquire targeted insurance policies to compensate for the transition overheads to employees who are directly hurt by offshore outsourcing. Since the perception of likely unemployment is significantly larger than the real possibility of losing employment, insurance policies would require a very small amount of money from corporations, though alleviating a great level of employee nervousness.

How do the various theorists or schools of thought suggest that we frame our understanding of the role finance has in exacerbating business crises? In your response, consider the following: Access to credit; leverage; regulation; market psychology; and what to emphasize in responding to a crisis.

1. Access to credit (role of central banks)

The Austrian School considers the banking function of connecting savers with borrowers as the basis upon which it builds a theory of boom and bust business cycles. Excessive credit growth driven by government intervention via interest rate policies and other incentives is at the root of speculative booms and busts.

2. Leverage

Minsky’s key contribution was the proposition that after long periods of economic stability, endogenous destabilizing forces in the economy begin to develop, forces that eventually lead to financial instability, that is, leverage.

The roots of this internally produced instability are in three primary forms of debt whose classification is according to their respective ability (or inability) to pay interest and principal from normal cash flows.

1. Speculative financing: riskier because interest expenses are payable but the principal becomes refinanced on maturity. As Minsky explains, the speculation is that refinancing will be accessible when required. More risk occurs, as the availability of debt for refinancing may be available at materially different prices than originally envisioned.
2. Ponzi financing: one is dependent on the availability of additional debt to pay interest on existing debt. Given the inability to pay interest expense out of cash flows, the possibility of principal paydown is nonexistent in Ponzi financing structures. The assumption here is that values will continually rise, allowing for easier and more advantageous refinancing terms.
3. Hedge financing: one can pay back both the interest owed as well as the principal due via normal cash flows. This approach is not particularly risky and is not subject to changing market conditions.

3. Regulation

While the Australian business cycle would agree with Keynes and Minsky that excessive asset and credit bubbles lead to dangerous crises, they do not blame capitalism for that problem. Instead, they point to government policies, namely easy monetary policy, along with regulations and interventions that allegedly interfere with the workings of the free market.

4. Market psychology

Central banks in democratic capitalist societies are motivated to keep interest rates below their appropriate level, and the result on investment decisions is an inappropriate increase in long-run investments. Eventually, bad investments and/or overconsumption ought to receive address and an overly consumed society finds itself with too much debt (due to the low cost of money) and a need to increase savings. At this point, the bust portion of the cycle begins and the possible deflationary tendencies.

In the process, socialization of private losses occurs: they become the burden of society and, by implication, of the national government, as budget deficits lead to unsustainable increases in public debt. In extreme cases, this kind of burden will lead the government to default on its debt or to start printing money to buy back its debt which can trigger possible bouts of high inflation.

5. What to emphasize in responding to a crisis

Fisher, Friedman, and Minsky counseled that a central bank should step in to play the role of lender of last resort providing the necessary financing for banks and even for corporations and individuals.

Explain how a variety of actors and processes (both domestic and global) coalescing within the United States facilitated a financial contagion that eventually spread across the globe. Besides, are such processes endemic to capitalism to the extent that Marxists rightly predict capitalism’s implosion, or can Hayekian or Keynesian prescriptions help prevent the collapse?

1. Federal Reserve-Housing prices soared into a speculative bubble.

Federal Reserve (FR) officials ensured foreclosure rates on subprime mortgages remained relatively low but did not examine what might happen if housing prices flattened out or declined.

2. Households who borrowed recklessly to buy homes

The FR is currently working on clearer mortgage disclosures to help borrowers understand.

3. Lenders

Lenders led many unsophisticated borrowers into risky mortgages.

4. Bank regulators

Approximately, half of the recent subprime mortgages came from mortgage corporations that were not part of any bank, and thus stood outside the federal regulatory system.

1. The Office of the Comptroller of the Currency was in charge of nationally chartered banks and their subsidiaries.
2. The F R covered affiliates of nationally chartered banks.
3. The Office of Thrift Supervision oversaw savings institutions.
4. Federal Deposit Insurance Corporation insured deposits of both state-chartered and nationally chartered banks.

5. Investors

Many investors failed to pay close attention to what they were buying. Subprime loans were extremely complicated and loaded with hidden risks.

6. Investment bankers

They created complex debt instruments and marketed them aggressively. An inordinate share of the riskiest mortgages granted in recent years originated outside the banking system.

7. Rating agencies- Investors placed too much faith in the rating agencies.

For Marx, economic crises were endemic features of capitalism. Marx writes that when a sufficient proportion of capitalists invest, a generalized crisis of the dimensions we are now experiencing will evolve. He further says that poor regulation or lack of regulation of lending institutions might exaggerate a crisis, but no specific regulation of banks could avert the general and constant phenomenon of capitalist crises.

Therefore, Keynesian prescriptions can help manage the crisis through government regulation. In the Keynesian view, fiscal and monetary injections must flow so that investment does not collapse and usher a depression.