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Macroeconomic Policy Challenges in Southeast Europe

This paper explores the macroeconomic policy challenges in Southeast Europe, focusing on the six aspects of the Emerging-Europe Convergence Model. It discusses capital accumulation, FDI and technology transfer, trade liberalization, integration into the European and global economy, financial liberalization, labor market integration, and the prospect of EMU membership. The paper also examines different convergence stories, including the Jeff-Sachs convergence story, the Heckscher-Ohlin convergence story, and the Susan Schadler convergence story. The aim is to provide insights into achieving sustainable growth in the region.

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Macroeconomic Policy Challenges in Southeast Europe

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  1. Macroeconomic Policy Challenges in Southeast Europe David Vines Department of Economics and Balliol College, University of Oxford; Centre for Applied Macroeconomic Analysis, Australian National University; Research Director, PEGGED Research Programme on Politics and Economics of Global Economic Governance, European Union; and CEPR Paper for Conference on Achieving Sustainable Growth in Southeast Europe Athens, February 11, 2011.

  2. 1 Introduction • Advertisement: From Crisis to Recovery edited by Othon Anastasakis, Jens Bastian and Max Watson • This book shows that the European Emerging-Market Convergence Model was very particular – and very different from the convergence model in East Asia • This model has six aspects. It is worth reviewing these • cf the way in which Maynard Keynes examined pre WWI Europe in Chapter 2 of his Economic Consequences of the Peace, in order to understand the growth model of that time • I will briefly discuss each aspect in what follows • I will then discuss the policy agenda looking forward

  3. 2 The Emerging-Europe Convergence Model Six aspects of the Emerging-Europe Convergence Model • Capital accumulation, and • FDI and technology transfer • These two aspects create the Jeff Sachs convergence story • Trade liberalisation, and integration of the region’s production system within the European and the global economy • This aspect describes the convergence-through-trade story • Financial liberalisation • Labour-market integration • These two aspects capture the ‘super integration’ story • The Prospect of EMU membership

  4. 3 The Jeff-Sachs Convergence Story • “There are three groups of countries in the world” • 1.5 billion people in advanced countries, 4 billion in the middle (led by China), followed by the bottom billion (in Africa and elsewhere) • For the four billion people “in the middle” • Capital accumulation happens as in a Solow model • It is augmented by technical progress which happens through FDI and technology transfer • Asian debate in the ‘90s about capital accumulation: • Perspiration (which happens through savings) versus inspiration (which happens through technical progress) • Interestingly, C19 Europe, like Asia, saved a great deal • cf Keynes, Consequences, Chap. 2

  5. In Emerging Europe, savings have not been not high • although savings propensities differed between countries • Need a Ramsey model - with savings choice a policy issue • Interestingly the central idea about global resource allocation is that capital should flow to poorer countries • As Feldstein-Horioka showed, this has not happened • Lucas has suggested why • South East Europe is the one place where this has happened • The results have not been entirely successful

  6. 4 The Heckscher-Ohlin Convergence story • Think about a story with 3 sorts of goods: 2 kinds of tradeable goods plus non-tradeables • Exportables • produced but not consumed at home • prices determined in world markets - these are tradeable goods • Importables – which are not produced at home • consumed by not produced at home • prices determined in world markets – these are tradeable goods • Non-tradeables • produced and consumed at home • prices determined within the home economy • A framework for thinking about industrial structure as part of macro strategy: one examines which exports are important

  7. One factor price – the interest rate – and one goods price – the price of tradeables – is exogenous here • nb: ‘tradeables’ includes both exportables and importables • The endogenous variables here are the wage and the price of non-tradeable goods • Stolper-Samuelson theorem here shows how the wage and price of non-tradeables are determined • Trade liberalisation lowers the price of imports relative to the price of exports • The trade liberalisation choice can be analysed by this model • One must increase the return to exporting – ie increase the relative price of exportables, as a response to the liberalisation of imports, • One must lower the wage of non-tradeables are labour intensive • One way that growth happens is through such resource reallocation

  8. 5 The Susan Schadler Convergence Story – “super integration” • Financial liberalisation: entirely different from East Asia • Enabled SE Europe to make a low-savings high-growth choice • Risky • Possible that this strategy leads to export-led growth • Requires trade liberalisation at same time • More generally requires control of rent-seeking in the tradeable sector • Possible that, instead, this leads to a consumption boom • House prices overshoot upwards and consumers bear this risk • Consumers bear currency risk • Paying back loans may be difficult – requires massive austerity post-crisis – consumers bear solvency risk • But leverage risk seems not to have been a major problem in South East Europe - a feature of the institutional integration process which was chosen

  9. ….super integration … continued • Labour market integration: entirely different from East Asia • Transient migration has enabled real wages for Eastern European workers to rise in advance of the convergence of their home economies • Has put upward pressure on the real wage in the home country of migrants • This has helped to tilt the convergence outcome towards • one in SE Europe with a low-savings high-growth aspect • one which is biased towards a consumption boom rather than and away an export-led-growth outcome

  10. 6 The Prospect of EMU membership: effects on convergence process • This too has been entirely different from East Asia • Encouraged some good things • Also enabled some bad things • So this too has been risky

  11. 7 The core short term for macroeconomic policy • We can learn here from the East Asian recovery after the Asian financial crisis • Massive currency devaluation and export-led growth • That was much easier in the dot-com boom world, in which demand was growing • It required currency flexibility • This is the core issue about macro strategy • This requires curtailment of domestic demand • It also requires the creation of a competitive position • This will differ as between • (i) members of EMU zone – Greece – and other countries with pegged exchange rates • (ii) countries who are floating

  12. 8 The core longer term issues for macroeconomic policy It is necessary to reconsider all six aspects of the European Emerging-Market Convergence Model. • The capital accumulation process, and • FDI and technology transfer. • How much should a country save? • Trade liberalisation, and integration of the region’s production system within the European and the global economy. • How will trade liberalisation and increasing openness be managed ? • Financial liberalisation, and • Labour market integration • Is the ‘super integration’ really safe – if not, how to proceed? • Can the uncertainties about EMU membership be resolved?

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