The Third Pillar

by Raghuram Rajan

  An alternative might be to subsidize job creation directly through measures like the US Earned Income Tax Credit (EITC), which effectively gives a federal top-up to worker pay at low levels of income. The top-up rises with income over a range, stabilizes, then tapers off as the individual’s income rises further. In order to encourage job creation in distressed areas, the EITC could be enhanced for jobs there, though there are obvious difficulties in measuring where exactly a job takes place, and there is some risk of fraud.16 This is why the top-ups that we discussed in the last chapter, paid through the community, may be more useful. Perhaps, though, the most effective government intervention might be to support community efforts to retrain its adults. Most countries have a plethora of programs attempting this, and most programs are spread too thinly and are uncoordinated. Neither the affected people nor the communities have a full understanding of what is available and how to use the funds.17 If the available funds are aggregated and made available to the community and the leadership team, it could utilize it in a way that could most serve the needs of the people in the community. In some communities, these funds could bring in career counselors who can chart out a plan of action for each person. The funds could also subsidize tuition for the courses each one needs to take. In other communities, funds could go to setting up evening nurseries where children are looked after while parents study, and in yet others, it could buy machines, or hire specialized faculty for the community college. The point is that most communities know what is needed, and apart from ensuring funds are spent transparently and effectively, the federal government should give them the freedom to choose.

  FINANCING COMMUNITY REVIVAL

  The problem with too much easy money is that it tends to get wasted. One of the biggest hurdles in financing local governments is the lack of transparency about their revenues, their spending, their assets, and their liabilities. One of the first steps in community revival is therefore to clarify the community’s financial situation and to make its budget and accounting fully transparent. Once this is done, the leadership team, community members, as well as investors, will have a much better sense of how much room there is to raise more money.

  Much of the funding for community revival should be raised from sources that offer a second pair of eyes as to how it is spent. This does not mean that all the finance has to be on market terms. Philanthropists and foundations are often willing to provide patient seed money or long-term low-interest loans, as are social-impact funds. Pension funds increasingly are willing to finance long-term infrastructure projects as they look to match their assets with their long-term payout liabilities. Many countries have community-development institutions that focus on community support, and some have mandates for large financial institutions to reinvest in communities from which they raise deposits. Local banks and finance companies have a very close relationship with community businesses. All these can be sources from which the community can raise funding.

  While the bulk of funding can come from outside investors, some projects will require the community to put up equity, and this is where it will have to draw on friendly sources like philanthropies or its own saved resources. To enhance these own resources, some of the community’s assets can be commercialized and used to raise money, without compromising the people’s access to public services. For example, parks can do double duty after closing hours for private parties or gatherings. Certain superfluous assets, such as parking lots or excess community-owned land and buildings, can be leased out and eventually sold as the revival gains steam. The sales receipts can be the equity to catalyze the building of more needed assets.

  The community can also raise money against future increases in tax receipts, especially if it needs to make large up-front investments. For example, it is natural that property prices and taxes would rise as the community’s investments in the neighborhood’s public assets like schools and parks pay off. Increments to tax receipts could be securitized and sold.

  DEALING WITH FAILURE: GIVING UP, GETTING ACQUIRED, LEAVING

  Much of this chapter has been about how the community can get up and running when it has leadership that allows it to find its inner strengths. What if that leadership does not emerge? What if there is no viable economic value in the local area? What if people have become irretrievably apathetic, cynical, and self-destructive? Every country will have pockets of such despair, communities that were once normal but now seem beyond redemption. It is important not to give up easily. Nevertheless, some communities may simply not have the administrative or economic capabilities, or the social will, to survive independently.

  Some of these may still find a future by merging with another, more vibrant community. They may lose some powers, but may retain a feeling of self-determination because of their voice in the larger community. Some communities may, unfortunately, be so distressed that they have no hope of survival, and no one has any desire to absorb them. As countries age and resist immigration, some communities will literally die out. Other communities may be too small or too remote to have a chance, but may also have young people. Rather than spending enormous amounts of money to preserve such communities, it may well make sense to ease the way for the young to emigrate to other, more vibrant communities. Too many people across the world are trapped by non-portable unemployment benefits, health insurance, or just the support of a warm, even if impoverished, community. The safety net should be portable across the country, and indeed countries and communities should explore the possibility of subsidizing moves by the unemployed from high-unemployment communities to elsewhere in search of employment. Out-migration may indeed be the best future for some declining communities.

  CONCLUSION

  It seems paradoxical that as technology is bringing the whole world to us, the proposed solution to some of our problems is to embrace what is near—the community—rather than what is far. What is near anchors us, a necessity as our experiences become more virtual. Reviving what is near is therefore essential to ensuring our continuing humanity. As we work to improve the troubled world, that has to be our lodestar.

  12

  RESPONSIBLE SOVEREIGNTY

  The two Opium Wars, the first fought between 1839 and 1842 and the second fought between 1856 and 1860, were among the most shameful of wars in humankind’s long and sorry history of wars. The primary protagonists were the British and the Chinese. In the early 1800s, British traders imported large quantities of silks, porcelain, and tea from China. China seemed to want few British goods in return, in part because China restricted foreign merchants to doing business only out of Canton. Not surprisingly, traders found it hard to sell British manufactures to the Chinese. As British gold and silver disappeared into China in payment for Chinese exports, British traders tried desperately to find something they could sell to China. Opium, procured in India by the British East India Company, was the answer. Opium was addictive and its exports grew quickly as it morphed from an indulgence of the rich Chinese into a debilitating affliction for the masses. Fearing economic and social breakdown, the Chinese emperor banned the opium trade, and his agents confiscated the opium that British traders intended to smuggle into China. In response, the British sent warships and soldiers, ostensibly to recover their merchants’ goods and protect their trading privileges. Thus started the First Opium War.

  The real British objective, recognized even then in parliamentary debates in England, was more sordid. The British were protecting their freedom to peddle dope to the Chinese masses. When the war ended with China’s defeat, these “freedoms” were embedded in the humiliating Treaty of Nanking. The Second Opium War expanded European and American trading rights further. It is obvious today that the Chinese were the wronged party in these wars, that the British trampled over their sovereign right to ban the opium trade to protect the Chinese people. Chinese national resolve today is understandably shaped by the desire to never again be at the mercy of foreign powers as they were then.

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bsp; Nevertheless, and though it was well within their right, was there a cost to the Chinese of restricting European traders to Canton? Did they do themselves harm? Despite being the source of momentous inventions like gunpowder and the compass, China was technologically and militarily far behind Western Europe by the time of the Opium Wars, which explains its resounding defeat. Might China have been better able to stand up to the British if they had bought more modern European muskets for all their soldiers, and if they had a better awareness of European military tactics through deeper contacts with the outside world? Indeed, China’s willingness to absorb good ideas from anywhere in the world today may reflect learning from its historical experience of the consequences of isolation. At any rate, all these questions are even more relevant today.

  THE INTERCONNECTED WORLD

  It is commonplace to say the world is now much more interconnected. In addition to cross-border trade and capital flows, many countries have had to figure out how to deal with economic migrants as well as refugees from conflict. Our ancestors also experienced trade, capital, and people coming from across the seas, though perhaps to a lesser degree. In addition, though, we have new sources of interconnections. As a result of the ICT revolution, information and disinformation now flows across borders in real time. With the possible exception of China, no country has found a way to filter or censor the information its citizens receive over the internet. Data too traverses borders in massive quantities—Google knows more about the use of Indian roads through its map app than does the Indian government, while fitness apps can reveal the location of secret military bases around the world, since military personnel are the few in remote areas who are fitness buffs.1 Cybercrime, where hundreds of millions of dollars can be stolen in seconds, is a whole new area of opportunity for the malevolently intelligent, as the ICT revolution has brought vast unprepared populations within easy reach of cyber villains.

  Another new form of cross-border flow is service activities—the ICT revolution enables tasks such as real-time human monitoring of a building’s security cameras or mathematics tutoring to be done at a distance and across borders. Laws too, such as those governing intellectual property, now are applied across borders. Environmental damage also traverses borders, as carbon emissions generated anywhere in the world contribute to more volatile climatic conditions everywhere.

  How much control should countries exercise over cross-border flows? I have argued thus far that when policy is set by smaller political entities such as the community, which are closer to the individual, individuals are more likely to have a sense of agency. It is important to enhance such empowerment when markets and technological change tend to do just the opposite—make the individual feel they are buffeted by forces beyond their control. The decentralization of powers should apply as much at the international level as at the national and sub-national level, indeed more so because individuals have very little sense of ownership of decisions made at the international level.

  At the same time, for localism to be inclusive it has to be open to flows from, and to, the outside. So how should a country balance these two concerns? How much freedom should a country retain over policies, especially governing cross-border flows, and how much should it let itself be bound by international agreements and treaties? How much should it let its policies be driven by its global responsibilities? These are the questions we will examine in this chapter.

  RETAINING SOVEREIGN POWERS TO CONTROL FLOWS

  If the democratically elected representatives of the people exercise control over a country’s borders to avoid sudden, overwhelming flows, and to shape other flows so that they are beneficial and timely, citizens have a stronger sense of control. Populist nationalism has fewer grievances to exploit, while communities feel more in control. To the general principle that countries should control cross-border flows, I will add two caveats.

  First, while a country should retain powers to manage or deflect a particularly pernicious kind of flow, it is in its own interest that it should not protect itself permanently from engagement. No country can hope to remain an island forever, isolated from the rest of the world. Indeed, as China’s earlier experience suggests, the longer a country remains isolated, the further it falls behind the rest of the world and the greater the pain it faces on reconnecting.

  Second, there are categories of flows where the world is generally better off when most countries are open to them—and where countries may be tempted to choose wrongly when the decision is left to them. In such situations, the world has an interest in nudging countries to be open to them. Trade in goods and services is one such category in which the benefits of free flow across borders for countries that have reached a certain stage of development are clear, but in which these countries left unconstrained are apt to put up barriers. In the short run, free trade creates losers who are likely to oppose any reduction in trade barriers forcefully. Countries need to find better ways of compensating them. Revitalizing the community that is adversely affected by trade, as we have seen, is an important mechanism to mitigate its effects. The losses of a few, though, should not be allowed to derail the gains to many.

  Free trade creates a global market, and takes us a long way toward efficient global production. We thus save on global resources and limit environmental despoliation. In addition, though, free trade disciplines domestic producers and keeps them competitive. It diminishes the possibility of cronyism between government and private sector since foreign producers are outside the control of the government and hard to cartelize. As we have seen, all this is necessary for the independence of the private sector which, in turn, limits the arbitrary powers of government, protects property rights, and indeed protects democracy itself. External trade can also strengthen other domestic markets by limiting the influence of anticompetitive domestic interests; for instance, Luigi Zingales and I find that a country’s financial markets tend to be more developed when the country is more open to trade.2

  Low tariffs are an essential precondition for free trade and a global market, and its benefits are large enough that all countries ought to be willing to give up much of their right to limit cross-border flows of goods and services if they can be assured that others will also do so. No doubt, some countries that have been closed to trade for a long time will benefit from reducing tariffs gradually so that their people and corporations can adjust, while others that are hit by a sudden loss of competitiveness may want to raise tariffs temporarily. Yet there are always corporate interests and some professional or labor interests in every country that will use the excuse of costs of adjustment to resist ever freeing trade—free trade and competition is good, they say, but for everyone else, not for us. Even with the best democratic intent, it may be hard for a country to agree to, and stay committed to, low tariffs. A little international nudge is therefore often warranted to push countries into reducing tariffs—a nudge admirably given first by the General Agreement on Tariffs and Trade (GATT) and subsequently its successor, the World Trade Organization (WTO).

  By engaging in protracted international negotiations, these organizations have convinced countries to agree collectively to not raise tariffs above a (low) maximum pledged amount. When such an agreement is approved by a country’s parliament, it has other benefits. By signing on to a negotiated common tariff structure, a country avoids lobbying by powerful domestic interests to protect themselves through selectively high tariffs. Also, to the extent that countries continue adhering to international agreements when the government changes—which will be the case if there are significant costs to domestic industry of withdrawing from commitments—it gives firms across the world predictability of tariffs over time, and thus a stronger incentive to invest. As we have seen, such a low tariff regime has proven so attractive that a number of emerging markets have lowered tariffs significantly so that their producers can become part of global supply chains. All this is to suggest that we should resist the populist nationalist turn to
protectionism, and redouble our efforts to lower tariffs globally.

  The merits of cross-border flows other than those of goods and services are more uncertain and contingent on circumstances. As a series of financial crises have shown us, capital flows into a country are not an unmitigated blessing, especially if the flows are short-term in nature, and the country has poorly developed financial markets and institutions. Even rich countries like Ireland and Spain found such flows difficult to handle prior to the Global Financial Crisis. Likewise, the flows of information and data across borders can be benign, but they can also be used to manipulate or blackmail domestic residents. The recent controversy over disguised Russian involvement through social media in influencing voters in the 2016 US Presidential elections is just one example of what is possible, because bits and bytes do not have national identity stamped on them.

  Unlike trade, such flows are not so unconditionally beneficial that countries should be pushed to accept them. These flows have to be managed more judiciously and contingently, so a country’s people have to have stronger democratic control over their management. International agreements that peremptorily take away a country’s flexibility here seem a step too far. This is not to argue at all that these flows should be stopped, but that countries have a legitimate role in deliberating and determining policy without an international presumption that there is one best way that all countries should adopt. In other words, agreements on these issues should be bottom up rather than top down.

  NONTARIFF BARRIERS AND HARMONIZATION

  There is a further consideration even with trade. Countries do not just impose tariffs on imports, they can alter domestic taxes, regulations, safety standards, property rights, and so on. Some of these may effectively become nontariff barriers to trade. For example, in the 1980s, Japanese officials argued for keeping out US beef because Japanese digestive systems were different, US pharmaceuticals because they had not been tested on Japanese subjects, and US-made skis because Japanese snow was unique.3 While such arguments are so patently protectionist that they border on the facetious, and thus can quickly be called out for their protectionist intent, some countries have genuine reasons for the differences in their markets.