Author: Admin
Political Islam and Women’s Rights – Evidence from Turkey
In this policy brief, I discuss how state-of-the-art econometric techniques can be used to shed light on the causal effects of Islamic rule on women’s rights. A central empirical challenge is that the identity of a politician is endogenous to voter characteristics, which in the case of Islamic political participation is particularly important due to the prevalence of banning such parties in many Muslim countries. Using a research design called Regression Discontinuity, I show that despite a negative association between Islamic rule and female participation in education in Turkey, the causal effect of an Islamic party on women’s rights is positive. In the case of Turkey, this represents the Islamic political movement’s advantage over secular alternatives in overcoming barriers to female participation in voluntary education institutions among the poor and pious.
Capital Structure and Employment Flexibility
Author: Olga Kuzmina, NES.
This policy brief focuses on the relationship between employment policies and their potential impact on firms’ decisions and outcomes. In particular, the question dealt with here is whether policies aiming to promote job stability could have an impact on a firm’s capital structure and the ability to respond to negative shocks and survive. The policy implications of this relationship are important since policy makers, while aiming to promote job stability among workers, may in fact inadvertently harm firms by leaving them less able to withstand downturns, and especially those firms that cannot quickly adjust their capital structure.
Directed Lending: Is It An Efficient Tool to Modernize the Economy?
Over the last couple of years, the growth rate of potential Belarus’ GDP declined. The government intends to revive economic growth by the policy of ‘modernization’, in practice pinned down to a drastic increase in the volume of capital investment, including by the means of directed lending. As the pre-crisis macroeconomic imbalances are at least partially cured, the government seems to be eager to apply a familiar policy tool. However, the empirical analysis of the effects of directed lending on total factor productivity and economic growth casts serious doubts on the efficiency of this policy tool.
Over the last couple of years, the growth rate of potential Belarus’ GDP declined. This conclusion is robust as suggested by the application of competing methodologies to assess potential GDP. For instance, the statistical filters, including the HP-filter, the Kalman filter, and the production function approach, produce different levels of potential growth, but generate similar growth rate dynamics, particularly the downward trend. From this perspective, the tendency for high and sustainable GDP growth in Belarus is increasingly compromised.
Economic authorities seem to be aware of that fact. For instance, the Ministry of Economy stresses the need to create a new, ‘highly productive’ sector in the national economy as the new engine of growth. An ambitious plan involves expanding the size of this sector to contribute to about half of the GDP growth rate, aimed at 12 per cent per annum by 2015. The creation of this ‘highly productive sector’ falls into recent policy initiative, called ‘modernization’. Under this banner, the government plans to renovate the capital stocks (primarily machinery, equipment, and transport vehicles) of a large number of state-owned enterprises. In a nutshell, this strategy may be seen as a way to facilitate technical progress embodied in capital.
What is necessary, according to the government, is to make a spurt in capital investments, often on a case-by-case basis. The government has a pool of enterprises to be modernized. The majority of them are unable to modernize themselves – i.e. radically increase capital investments – due to the lack of internal funds and poor access to external finance. Accordingly, directed lending is considered to be a useful policy instrument of modernization. In 2013, the Development Bank plans to considerably increase its credit portfolio (by about USD 0.5 billion) by financing projects at subsidized interest rates under the ‘modernization’ program. Recently, the government compiled a list of 67 agricultural enterprises liable to have an access to cheap loans for modernization purposes from the Development Bank. In addition, state-owned banks will continue the provision of policy loans that can be considered as directed ones.
With directed loans, we mean those loans that are typically granted to selected borrowers at interest rates lower than the market interest rates. In Belarus, directed lending has been an important policy tool over the last decade. Selective credit programs have been applied to prevent underinvestment and to stimulate output growth.
According to the estimations of Fitch Ratings (2010), almost a half of the outstanding loans in the Belarusian economy by the end of 2009, were directed ones. The IMF provided a slightly smaller, but still substantial figure of 46.2 percent (IMF, 2010). According to our own calculations, by 2011, the volume of directed loans amounted to about 40 percent of the total volume of outstanding loans. These loans have been made abundant in agriculture and housing construction sectors and, to a lesser extent, in manufacturing. This massive presence of selective credit in the national economy can be seen as a large factor contributing to the currency crisis of March 2011.
Accordingly, after the crisis, and following the necessity to ‘clear up’ the assets of the national banking system, the share of directed lending was reduced. We estimate that in 2012, the ratio of directed loans in total loans dropped to roughly 30 percent. However, the recent rhetoric of the development of ‘highly productive’ sectors and modernization is indicative of the intention to find new life for this old cloth. Directed lending is expected to revitalize enfeebling growth. In 2012, real GDP growth amounted to 1.5 percent against the background of the initial government plan of 8.5 percent.
Under selective credit programs, banks have been partially deprived of their autonomy to make decisions over the provision of credit. Thus, banks’ intermediation role has been circumscribed by the authorities. In theory, directed loans may spur capital accumulation as beneficiaries of these loans have access to cheap loans and thus invest and – arguably – produce more. In Belarus, there has also been an additional incentive, i.e. the necessity to substitute depreciating and outdated capital stock, inherited from the Soviet past. At the same time, political interference into the process of credit provision suggests that loans may be allocated to lower-yielding projects, and thus dampen growth rates of factor productivity and GDP (Fry, 1995). In addition, non-favored companies – typically from the private sector – face higher interest rates as their state-owned counterparts receive substantial discounts for their use of capital.
So far, these soft budget constraints in the financial system have allowed favored companies to receive loans up to three times cheaper, if judged by the level of real effective interest rates. Although private companies tend to be more efficient than state-owned enterprises in terms of factor returns and profitability, higher interest rates may reduce the volume of outstanding market loans. Furthermore, increases in the volume of cheap residential loans, which do not contribute directly to enhancement of productive capacity of the economy, may dampen the returns on investment further.
Governments have traditionally relied on selective credit programs by stressing positive externalities and spillovers for the economy as a whole (DeLong and Summers, 1991). Commercial banks care about private returns, while governments seek to maximize social returns by financing firms, which are capable of generating positive externalities. Unfettered operations of credit allocation mechanisms minimize allocation inefficiency and induce banks to minimize the costs of financial intermediation, thereby making credit more accessible.
How do these competing forces meet in Belarus and what are the effects of their joint working? In answering those questions, we have conducted an empirical analysis of the effects of directed lending on total factor productivity dynamics. The latter is considered to be a good proxy to observe the impact of selective credit programs on the efficiency of actor use.
The results of our econometric analysis show that over the period concerned, 2000–2012, the expansion of directed lending in Belarus has negatively affected total factor productivity dynamics and, subsequently, negatively contributed to the rates of GDP growth. A positive impact on growth, stemming from additional capital accumulation might nevertheless occur, but with a substantial lag. This likely positive impact is associated with the ability of banks to increase the volume of market loans alongside with the rising volume of directed loans. The option has been made possible only due to massive liquidity injections by the government and mainly the National Bank of Belarus. However, such injections are problematic to maintain over the medium to the long run as they have severe inflationary repercussions for the economy.
The effects of individual components of directed lending are mainly the same. In particular, loans for residential construction, provided to households in need, negatively affect total factor productivity. Moreover, it is through housing loans the adverse effects of directed lending upon factor productivity are mainly realized. The interest rate spread – between preferential interest rate and market interest rate – amplifies these negative relationships. Lower preferential rates result in larger losses in total factor productivity. Loans to agricultural firms have similar impact, although it has to be emphasized that the overall impact on total factor productivity approaches zero (not negative, as in the case of housing loans).
We also find that for Belarus, an increase in the total volume of directed loans leads to an increase in the volume of market loans. Both the National Bank and, to a lesser extent, the government, strive to minimize risks in the national banking system, which provide loans with smaller returns and/or non-performing policy loans. Similar challenges have been observed in China, where the Central Bank has been forced to recapitalize domestic banks to support economic growth after the global financial crisis of 2008. In 2007–2008, Chinese growth of 8–10 percent was driven by new lending averaging 30–40 percent of GDP, of which up to a quarter of the loans might have been non-performing, amounting to losses of 6–10 percent of GDP (Das, 2012).
In Belarus, the recapitalization policy, apart from its inflationary consequences, has other important effects. In particular, it prevents a dangerous trade-off between directed loans and market loans to resurface, whereby the former crowds out the latter as banks are unable to expand their portfolios due to the liquidity constraints.
Therefore, unless the expansion of directed loans would be checked, adverse effects of selective credit programs on productivity and growth would not evaporate, with negative consequences for the whole economy. Regarding policy recommendations, we claim that there is a need to fundamentally revise directed lending policies or to even minimize it to the extremes by allowing standard market mechanism for credit allocation to prevail in the national economy. Furthermore, we argue that directed lending, even after some cosmetic changes in the system design made in 2012, is not an efficient tool for economic growth promotion.
Tentative results of growth accounting made at the level of selected important industries suggest that the downward growth dynamics is associated with weak total factor productivity growth, i.e. disembodied technical progress. Improvement of total factor productivity seems to have the biggest potential for revival of economic growth. Therefore, the use of directed lending, as a policy instrument that hampers total factor productivity dynamics, may undermine prospects for long-term economic growth in Belarus.
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References
- Das, S. (2012). “All Feasts Must Come to an End– China’s Economic Outlook”, Euro Intelligence, 11 March, viewed 12 April 2012.
- DeLong, J.B. and L.H. Summers, (1991). “Equipment Investment and Economic Growth”, Quarterly Journal of Economics 106, 2, pp. 445–502.
- Fitch Ratings, (2010). “Directed Lending: On the Up or on the Way Out?”, Belarusian Banking Sector, May.
- Fry, M.J. (1995). Money, Interest, and Banking in Economic Development (John Hopkins University Press, Baltimore and London).
- IMF (2010), “Republic of Belarus: Fourth Review under the Stand-By Arrangement”, IMF Country Report 10/89, viewed 15 July 2012.
Fact or Fiction? The Reversal of the Gender Education Gap Across the World and the Former Soviet Union
In this policy brief, I discuss the reversal of the gender education gap in many countries around the world – a fact that is still not widely known, although is increasingly gaining attention. I describe recent studies that have documented this fact for both developed and developing countries and have provided evidence on the trend. As there has not been much analysis of the education gap in the former Soviet Union countries, I present some measures of the education gap in the USSR and FSU countries, and compare them to other countries around the world. Finally, I discuss the potential causes of the reversal identified in the literature and how the reversal of the gap is related to other gender disparities.
Empirical Evidence on Natural Resources and Corruption
This policy brief addresses the relationship between resource wealth and a particular institutional outcome – corruption. We overview some recent empirical evidence on this relationship and outline results of an on-going research project addressing a particular aspect of resource-related political corruption: transformation of resource rents into personal wealth hidden at off-shore deposits. The preliminary results from this project suggest that at least 8 percent of oil and gas rents are converted into personal political rents in countries with poor political institutions.
Optimal Economic Policy and Oil Price Shocks in Russia
Significant oil price fluctuations are an important factor influencing real economic variables, especially in the countries with large dependency on export of natural resources. Under such fluctuations, it is natural to consider the possibility of economic policy to fine tune the real economy, achieve inflation stability, and to weaken the negative influence of oil price shocks. In terms of monetary policy, authorities realize the existence of many channels through which oil market is related to the real sectors and inflation. The Central Bank of Russia should analyze the necessity to react to oil prices and to change the effect of them on the real economic variables.
The most typical way of reaction to oil prices in the Russian Federation is accumulation of reserves at the Reserve Fund. The Stabilization Fund (was later in 2008 separated into the Reserve Fund and the National Welfare Fund) was created in 2004 based on the initiative of Mr. Alexey Kudrin, who was a Minister of Finance at the time. The idea of the fund is to direct the revenue from oil export to the budget, but only when the price of oil does not exceed a pre-specified level, and the residual income should be accumulated in the fund.
In addition, the Central Bank of Russia may respond with its refinancing rate to the changes of the oil price via an augmented oil price Taylor rule or indirectly without inclusion of a commodity quota into the monetary policy rule.
We consider whether the Central Bank of Russia should formally establish the policy of responding to the changes of the oil price. The key evaluation criterion for selecting the optimal response is the minimization of inflation and GDP fluctuations.
Taking into account the results of an applied Dynamic Stochastic General Equilibrium model estimated for the Russian economy, we suggest that the Central Bank, optimally, should include the oil price in its interest rate Taylor monetary rule. That is, it should react to oil price quotas but only in the case of stabilization fund absence. This suggested optimal monetary policy implies a positive direct response to oil price shocks; a 1% oil price increase (decrease) should trigger CBR to raise (decrease) the refinancing rate by 0.1%. In the case of stabilization fund presence, there is no need to respond to changes in the oil price since the former stabilizes the situation when the oil price fluctuates too much.
The main potential limitation of this study is the problem of model quality against the real data. In addition, other monetary policy instruments may be tested against the reaction to changes in the oil price.
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Transportation Infrastructure and Labor Market Integration: the Moscow Oblast Case
The model of city organization proposed by von Thünen in the beginning of the XIXth century, and then formalized by Alonso followed by Muth and Mills (see Ner (1986)), is one of the most “successful” models in economics in terms of practical applications. The model explains why the gradient of population density and land rents decline from the city center towards the periphery. In fact, almost all modern cities fit this pattern, i.e. the model invented two centuries ago is capable of describing today’s spatial structure of cities. Even though von Thünen’s original idea of a city center as a single “marketplace” is no longer realistic, a multitude of factors beyond this make central locations nevertheless attractive. If firms are located near each other, they can take advantage of a common labor pool, easier access to consumers and suppliers, shared infrastructure, and knowledge spillovers, to name but a few advantages. Access to the center brings tangible economic benefits to both labor and capital and these benefits exceed possible losses due to increased competition, and so the von Thünen mechanism still works today, albeit through different channels.
In cities, there are generally two types of spatial organizations possible with respect to household income. If the advantages of amenities in a city center are not very strong, rich people tend to choose to locate in suburbs in order to consume higher quality housing. Such patterns are typical in US cities. If the advantages of a center are strong, the rich choose to live in the center. (Brueckner et al. (1999)) Due to historical circumstances, such patterns are typical of European or Russian cities. In these cases we observe a declining gradient of income; the further we move from the center, the further residents’ average income falls.
There are two forces at work shaping this declining gradient of wage. First, poor people sort themselves into suburban locations. Second, residents of the suburbs who want to take advantage of the labor market in the center face a barrier involving commuting costs. Many of them forgo high-wage opportunities that require tedious everyday commuting and therefore remain poor as a consequence.
An apparent policy solution to reduce income inequality would be to reduce transportation costs. The higher transportation costs are, the steeper the gradient of income. Fast and convenient transportation promotes the integration of local labor markets, gives the residents of the suburbs more, and often better, job opportunities, and works toward equalization of income across the agglomeration. Moreover, as transportation costs decline, the geographic area of agglomeration grows, which opens new opportunities for real estate development as well as new possibilities for rural residents to commute and participate in large labor market.
We conducted a study at CEFIR (Mikhailova et al. (2012)) comparing the spatial patterns of average wages in the Moscow agglomeration with several agglomerations in Western Europe. We considered municipal-level data for Moscow Oblast and for 25 agglomerations in Sweden, Germany, and Netherlands. In the sample of municipalities that are served by suburban train system, we estimated how average wages in a given municipality respond to different lengths of travel times to the city center.
Figure 1 shows the estimated wage-travel time relationship for Moscow Oblast and Figure 2 for the selected European cities.
Figure 1. Average Wage and Travel Time to the City Center, Moscow 
The residents of the Moscow agglomeration are at a clear disadvantage according to the data shown above. Residents of Moscow Oblast, even those who live in relative proximity to the city, loose drastically in terms of average wage. Doubling the travel time (say, from 20 min to 40 min, which is the range most commuters fit into) results in a 25% drop in the average wage for residents in Moscow Oblast compared to only a 5% drop in Europe. The wage in a municipality, from which it would take 90 minutes to travel to the city center, is almost half of the average wage inside Moscow’s Ring Road whereas in Europe 90 minutes translates into a 10% loss of in average wages.
A 90 minutes travel time could be considered as a realistic limit to the size of an agglomeration. This is roughly the maximum distance over which a typical working commuter would be willing to travel each day in each direction. A 90 minute commute in Europe represents approximately a 100 kilometer distance. In Moscow Oblast, however, it is only 63 km. So, Moscow Oblast loses in the effective “reach” of suburban transportation: people who live further than roughly 60 km from the center cannot practically commute.
Even for the same commuting time, the difference in wages between center and suburban municipality is much smaller in Europe (see Figures 1 and 2). This means that a commute for the same time length (in terms of railroad transport) presents a larger barrier for the residents of Moscow Oblast. This is obviously an over simplification of the situation since taking into account only commuting times as the measure of costs we ignore many other critical factors such as price (relative to income), the convenience of schedule and travel comfort, alternative modes of transportation, etc. Suburban trains in Moscow Oblast run infrequently, they are overcrowded, and alternative transportation modes (car or bus) face considerable delays due to road congestion. All of these additional factors serve to reduce the labor market opportunities of the Moscow Oblast residents and make wage inequality even deeper.
Figure 3 presents wage-distance gradients for the Moscow agglomeration under different scenarios using a hypothetical “European” gradient to show what could be the case if changes were made to reduce barriers to transportation bringing the Moscow agglomeration in line with European standards. The graphs end at a distance that corresponds to a typical 90-minute commuting time under various scenarios ranging from the status quo to the best case, where Moscow Oblast replicates European standards. The red curve represents the upper bound estimate of the possible effect of investments to improve the transportation infrastructure to bring Moscow regional transportation network in line with the quality of a typical European agglomeration. The residents of Moscow region could gain up to 24% more in terms of current average wages if this were to take place. The purple curve, however, presents a more modest scenario assuming that the structure of Moscow regional transportation network remains the same, but the travel time were to be cut by 20%. Even in this case, the gains to Moscow Oblast residents are about 3% of wages which is very significant economically for an area populated by 5.5 million people.
Figure 3. Wage Distance Gradient 
Further, it is important to note that to take advantage of labor market integration residents do not necessarily all have to commute to work to the center. The mere possibility of commuting creates arbitrage opportunities in the labor market and puts upward pressure on wages. As a result, it is important for economic policy to constantly improve transportation infrastructure even if the private benefits of increased usage are modest.
In the end, our analysis did not touch on the other benefits from transportation infrastructure. Apart from labor market integration, improvements in transportation infrastructure promote real estate development (Baum-Snow (2007), Garcia-López(2012)) and expand the market for goods and services. We leave these questions for further research.
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References
- Baum-Snow, Nathaniel (2007) “Did Highways Cause Suburbanization?” The Quarterly Journal of Economics 122(2): 775-805
- Brueckner, Jan K., Jacques-François Thisse, and Yves Zenou (1999) “Why is central Paris rich and downtown Detroit poor?: An amenity-based theory.” European Economic Review 43.1: 91-107.
- Garcia-López, Miquel-Àngel (2012) “Urban spatial structure, suburbanization and transportation in Barcelona”, Journal of Urban Economics, Volume 72, Issues 2–3, September–November, Pages 176-190
- Mikhailova, T, V. Rudakov and N. Zhuravlyova (2012) “Economic effects from the Moscow Oblast suburban railroad infrastructure development” («Экономические эффекты от развития инфраструктуры пригородного железнодорожного сообщения в Московской области»), project report, CEFIR.
- Ner, J. B. (1986). The structure of urban equilibria: A unified treatment of the Muth-Mills model. Handbook of regional and urban economics: Urban economics, 2, 821.
And Then There Were Eighteen? Will Latvia Join the Euro Zone in 2014?
Latvia’s government is zealously preparing for accession to the Euro Zone. Prime Minister Valdis Dombrovskis is expected to request the European Central Bank (ECB) and European Commission (EC) prepare their respective convergence reports on Latvia’s readiness to enter Economic and Monetary Union (EMU) within the next two months. The expectation is that Latvia will join on 1 January 2014. Indeed, the three-party coalition government has long been readying for the technical changeover to the euro. The Cabinet of Ministers adopted a detailed national euro changeover plan in September 2012 and appointed a high-level steering committee to manage the process. The government has launched a controversial multi-million euro advertising blitz aimed at winning over Latvia’s skeptical public.[1] Parliament passed the law on euro adoption in a 52-40 vote on 31 January 2013.
What could possibly go wrong? Although unlikely, a referendum or the collapse of the Dombrovskis coalition government could yet derail Latvia’s euro ambitions.
Latvia and Europe
All Latvian governments have steered a steady pro-Western course in the two decades since the fall of the Soviet Union. International recognition was followed by membership of the Council of Europe, World Bank and the other minor and major international organizations that make up the international community. However, the big attractions were the Western clubs – NATO and the European Union. Membership of both was achieved in the two ‘big bang’ enlargements of 2004. In all the giddy excitement of finally joining the Western world and seemingly slipping away from Russia’s bear-hug, Latvia initially aimed to quickly join the Euro Zone, setting a target of 1 January 2008.
However, the government proved half-hearted in its efforts, preferring to enjoy the low-hanging fruit of a cheap credit-driven booming economy rather than balance the budget. Both government and public entered a period of rabid consumption and spending that resembled nothing so much as sailors in a pub after a year at sea. Unsurprisingly, Latvia rapidly slipped far away from meeting the Maastricht criteria on inflation. Accession to the Euro Zone was quietly dropped from the political discourse.
However, euro adoption returned as a frontline government initiative after the dramatic economic collapse of 2008, and the advent to power of Valdis Dombrovskis, the Baltic Angela Merkel. Dombrovskis will soon have been in power for four years, a lifetime in Latvian politics where, prior to Dombrovskis, the average prime minister served for less than a year.[2] He has overseen harsh austerity measures of tax hikes and spending cuts, but remains surprisingly popular (not least because his party was in opposition during the post-2004 economic bubble years). He has twice been re-elected to office, proving once again that Latvians favour monochrome technocrats over colourful populists.
Despite a return to growth (in 2012 Latvia recorded the highest GDP growth in the EU), the government has maintained tight control over spending. Indeed, it has even perhaps been over-zealous, with both the IMF and EU recently chipping in with criticism of the social spending cuts that Latvia has made to its 2013 budget.[3] Nevertheless, Latvia is now applauded as a model of austerity and frequently used as a positive contrast to Greece.[4]
Moreover, Latvia is now on the cusp of meeting the Maastricht criteria for accession to the Euro Zone. A January 2013 IMF staff report argued that Latvia meets the public debt and budget deficit criteria, although inflation and interest rates may be a hurdle depending on the EU member states used for the reference value calculation (will Greece be treated as an outlier?).[5] The informal political signals from both the EC and ECB are clearly positive. However, euro accession could still be derailed by either a referendum or a change of government.
Let the People Decide?
The biggest potential hurdle remains the threat of a public referendum. The EC and ECB will not contemplate Latvia’s accession to the euro zone with the Damocles Sword of a referendum hanging over the process. Moreover, public support for the euro remains low, with just 8% of the public wanting the euro introduced quickly and 41% being absolutely opposed to the currency.[6] A vote would be a real throw of the dice.
A citizen’s initiative aiming to delay euro adoption, by demanding a vote on the timing of accession, was submitted to Latvia’s electoral authority (by the awkwardly named Latvia’s Social Democratic Movement for an Independent Latvia, a fringe party that has never been elected to parliament) in late 2012. The Central Election Commission must make a final decision on whether to allow the initiative to go ahead by February 3. However, the legal opinions provided by scholars, the Latvian ombudsman’s office and the Latvian parliament’s legal advisers indicate that the initiative is likely to be rejected because:
- Latvians effectively voted to join the euro when voting on accession in 2003;
- The Council of Ministers is the only institution authorized to choose the date of accession to the euro zone, thus any initiative specifying a date (or conditions that need to be met) is not legal;
- The text of the initiative conflicts with the constitution.[7]
While the ruling could be challenged in Latvia’s Constitutional Court or a reworded initiative submitted to the Central Election Commission, the weight of the legal opinions already delivered indicates that these efforts would be unlikely to succeed. At worst, the uncertainty could delay euro adoption past January 1, 2014 (and the Latvian legal system can certainly be ponderous at times). The same is true of any parliamentary attempt to initiate a referendum by having a one-third minority of deputies force the president to sit on the euro adoption law while citizens sign an initiative.[8] Indeed, legal opinions cited by the President state that because euro introduction is a treaty obligation, a majority of parliamentarians (51 of 100) would need to sign any initiative attempting to call a referendum. The opposition will not be able to rustle up a majority of parliamentary deputies (although the legal haggling could delay the date of euro adoption).
Coalition Collapse?
The other risk is a collapse of the government coalition. While the Reform Party and the prime minister’s Unity Alliance are firm supporters of euro adoption, the third coalition member – the radical right populist National Alliance is more torn. Its rank and file membership is largely against the euro, primarily for nationalist reasons (they see the Latvian Lat as a symbol of sovereignty and national identity). One NA parliamentarian even broke coalition ranks and voted against euro adoption. A motley conglomeration of far right radical groups and nationalist intellectuals has begun speaking out against the ‘commercialization’ and ‘westernization’ of Latvia, and sees the euro adoption battle as the opportunity to draw a final line in the sand. They are likely to put the National Alliance’s ministers and parliamentary deputies under severe pressure.
Indeed, the National Alliance already played the ‘euro card’ in November 2012, successfully extracting budgetary concessions for pet projects from Prime Minister Dombrovskis. They may well play it again, as they seek a greater number of ministerial portfolios. However, as Dombrovskis pointed out, opening up of the coalition agreement could well lead to the collapse of a government already creaking at the edges.
Conclusion: After Dombrovskis
There is strong political resolve to lever Latvia into the Euro Zone. Moreover, the unusual confidence emanating from both government officials and the Bank of Latvia indicates that certain reassurances have been made in Brussels and Frankfurt. Indeed, Latvia’s glowing current reputation as the poster child of austerity gives it a once-in-a-decade political momentum. Latvia’s entry into the euro on schedule on January 1, 2014 is more likely than not.
However, looking to the future, one pertinent question needs to be addressed. Which Latvia will we see in the Euro Zone? The grey, serious, disciplined almost Teutonic Latvia of Valdis Dombrovskis? Or the reckless drunken sailor, that has marked much of Latvia’s post-communist era?
Naturally, Dombrovskis holds the key to this question. He is expected to leave domestic politics after the October 2014 parliamentary election, probably to cash in his international political capital with a well remunerated European post (the timing is right for a 2014-2019 European Commissioner portfolio). At best, if re-elected, he might be persuaded to stay on to oversee Latvia’s presidency of the European Union in 2015. In any case, while Latvia has been reborn as a paragon of economic virtue under his watch, these assets have not been institutionalized. Dombrovskis will leave behind the same old fractured, frail and quarrelsome parties, politicians and oligarchs that he inherited. Recent international criticism of disequilibrium in government welfare and tax policies hints that political backsliding has already begun.
Latvia is at its strongest when its political, economic and administrative elite units in pursuit of some concrete target. Independence from the Soviet Union, then NATO and EU accession, followed by harsh austerity measures and now even Euro Zone accession were achieved far quicker than many observers had believed possible. International conditionality has made up for the absence of ideology and ideas as moral and political compasses in Latvian politics. However, when left to their own devices, Latvian politicians have tended to run amok. After Latvia enters the Euro Zone it will be left without an all-encompassing political plan. Quite frankly, that is rather worrying.
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References
- Aslund, Anders (2013) ‘Why austerity works and stimulus doesn’t’.
- DNB Banka (2012), ‘Latvijas Barometrs: Eiro ieviešana Latvijā’.
- Eglitis, Aaron (2013), ‘EU joins IMF in criticizing Latvian cuts to tax, social spending’. Bloomberg news.
- IMF Staff Report No. 13/28 (2013). Available at: http://www.imf.org/external/np/sec/pn/2013/pn1311.htm
- Pettai, Auers and Ramonaite (2011), ‘Political Development’ In Marju Lauristin (ed.), Estonian Human Development Report 2010/2011: Baltic Way(s) of Human Development: Twenty Years On. Tallinn: Eesti Koostoo Kogu. 144-163.
- Swedbank (2012). ‘Fulfilling the Maastricht Criteria – mission possible for Latvia and Lithuania?’.
[1] See the Latvia euro changeover site. Available at: http://www.eiro.lv
[2] Pettai, Auers and Ramonaite (2011), ‘Political Development’ In Marju Lauristin (ed.), Estonian Human Development Report 2010/2011: Baltic Way(s) of Human Development: Twenty Years On. Tallinn: Eesti Koostoo Kogu. 144-163.
[3] Aaron Eglitis (2013), ‘EU joins IMF in criticizing Latvian cuts to tax, social spending’. Bloomberg news.
[4] Anders Aslund, an ardent cheerleader of Latvia’s austerity programme, puts the country’s success down to ‘front loading’ reforms, particularly fiscal adjustment . See Anders Aslund (2013) ‘Why austerity works and stimulus doesn’t’.
[5] IMF Staff Report No. 13/28 (January 2013). Also see Swedbank Analysis (1 August 2012). ‘Fulfilling the Maastricht Criteria – mission possible for Latvia and Lithuania?’
[6] Although another 42% had a positive attitude towards the euro, but did not want to see it hurriedly introduced. See DNB Banka (November 2012), ‘Latvijas Barometrs: Eiro ieviešana Latvijā’.
[7] The legal opinions can be found on the Central Election Commission’s homepage.
[8] See Article 1, paragraph 3 in the law on referendums and initiatives.
Adapting to Capitalism
Author: Jenny Simon, SITE
When transitioning to a free-market economy, do people adapt to the new circumstances immediately? Undoubtedly, major shifts in the political system do not escape people’s notice. They often follow extended demonstrations, spectacular coups d’état or even violent uprising. However, the changes in economic institutions that go along with such transitions, and their implications for optimal economic behavior, although fundamental, may not be apparent immediately. The German reunification provides the opportunity to study this learning process.
Accountability in Russia
This policy brief summarizes two recent research papers that are related to obstacles to political accountability in modern Russia and potential ways to overcome these obstacles. The first paper provides a rigorous assessment of the extent of electoral fraud in Moscow city during the parliamentary elections held on December 4, 2011. Using random assignment of independent observers, we estimate the actual share of votes for the incumbent United Russia party to be at least 11 percentage points lower than the official count (35.6 percent instead of 46.5 percent). A less rigorous, but more realistic estimate is 21 percentage points. These results suggest that electoral accountability in Russia is limited. The second paper demonstrates that even in an environment with low electoral accountability and limited freedom of media, alternative accountability mechanisms may emerge. In particular, anti-corruption campaigns in social media may affect the valuation of state-controlled companies, so that market forces put a disciplining effect on the managers of SOEs. We study consequences of blog postings of a popular Russian anti-corruption blogger and shareholder activist Alexei Navalny on the stock prices of state-controlled companies. In an event-study analysis, we find a negative effect of company-related blog postings on both daily abnormal returns and within-day 5-minute returns. We use the incidence of distributed denial-of-services (DDoS) attacks to show that the effect is not driven by the endogenous timing of blog postings. We also show that there are long-term effects of certain types of posts on stock returns, trading volume, and volatility. Overall, our evidence implies that blog postings about corruption in state-controlled companies have a negative causal impact on stock performance of these companies.
To study the extent of electoral fraud we employ data from a large-scale field experiment that allows us to estimate the amount of electoral fraud in the city of Moscow during Russian parliamentary elections in December 2011. In particular, we exploit randomized assignment of independent observers to polling stations. Prior to the parliamentary elections the independent NGO Citizen Observer (Grajdanin-nabludatel) trained more than 500 volunteer observers in the city of Moscow. The observers were sent to 156 randomly selected polling stations. The polling stations were selected using a systematic sampling technique. In particular, polling stations were divided by electoral districts. Within each district, polling stations were sorted according to their official number assigned by Central Election Committee. Every 25th polling station within electoral district starting from the 1st was assigned for observation, resulting in a sample of 185 polling stations. The Citizen Observer’s network recruited enough observers to cover 156 of the 185 polling stations, which corresponds to 4.9 percent of the 3,164 ordinary polling stations in Moscow.[1] To make sure that this procedure does not lead to a biased sample because of some hidden periodicities we check that in the previous parliamentary elections in 2007 polling stations selected using a similar procedure were not different from other polling stations.
Comparison of the share of votes received by different parties and the turnout between polling stations with independent observers from Citizen Observer (treatment group) and without observers (control group) is presented in Figure 1. The results indicate that the presence of observers led to a decrease in the share of votes for United Russia of 10.8 percentage points and the turnout at the polling stations with observers was lower by 6.5 percentage points.
Figure 1. Vote Shares in 2011 
Notes: The figure is reproduced from Enikolopov, Ruben, Vasily Korovkin, Maria Petrova, Konstantin Sonin, and Alexei Zakharov (forthcoming) “Electoral Fraud in Russian Parliamentary Elections in December 2011: Evidence from a Field Experiment.” Proceedings of the National Academy of Sciences.
The above results are likely to provide a lower bound on the extent of the electoral fraud, since the presence of observers at the polling stations did not fully prevent fraud. To provide more information on the extent of the fraud, we divide all treatment stations into three groups: those in which observers reported no serious violations (75 polling stations), those in which serious violations were reported, but the observers received the final protocol (43 polling stations), and those in which all observers were not able to get the official protocol of the vote count (38 polling stations), which happened if the observers were dismissed from the polling station or the heads of electoral commissions illegally refused to give a signed copy of the protocol.
Figure 2 shows the distribution of vote shares for United Russia at polling stations from these three groups. For observations in the control group the distribution seems to be bimodal with two peaks – one around 25 percent of votes and another one around 55 percent of votes. The distribution for the precincts with observers also has two peaks, with the first one around 25 percent of votes. Note, however, that the second mode of this distribution, around 50 percent of votes, is noticeably smaller as compared with the control group. Moreover, for the polling stations in the treatment group in which observers reported no serious violations the distribution becomes unimodal with the peak around 25 percent of votes for United Russia. Thus, the results are consistent with the following hypothesis: the distribution of vote shares for United Russia in the control group is simply a mixture of two distributions that correspond to polling stations without large electoral fraud (for which the distribution is centered around 25 percent of votes) and polling stations with substantial electoral fraud (for which the distribution is centered around 55 percent of votes). Note also that a similar pattern is observed for the distribution of turnout across three groups of precincts, but not for the distribution of vote shares for other parties.
Figure 2. Distribution of votes for United Russia 
Notes: The figure is reproduced from Enikolopov, Ruben, Vasily Korovkin, Maria Petrova, Konstantin Sonin, and Alexei Zakharov (forthcoming) “Electoral Fraud in Russian Parliamentary Elections in December 2011: Evidence from a Field Experiment.” Proceedings of the National Academy of Sciences.
To assess the overall influence of the electoral fraud in Moscow on the outcome of Russian parliamentary elections, we also estimate the total number of votes that United Russia received due to electoral fraud. As both vote share of a ruling party and turnout were affected by electoral fraud, we look at the number of votes for each party as a share of registered voters in precincts with and without observers. Based on these numbers, our conservative estimate of the number of votes, which United Russia received at the ordinary precincts in Moscow due to electoral fraud, is equal to 635,000. This is a lower bound for the size of electoral fraud as it assumes that the presence of observers fully prevented any fraud, and at least anecdotal evidence suggests that it is not always the case. If we use results from the polling stations in which observers report no serious violations as an alternative estimate, the number of stolen votes increases up to 1,090,000.
The results presented above indicate that because of electoral fraud, voting does not constitute an efficient mechanism to replace those in power, and, therefore, electoral accountability in Russia does not work to discipline politicians in the office. Other means to hold politicians and public officials accountable are also limited, since traditional media is often censored and politics is generally not competitive. We ask the question whether in such environment there is any alternative ways to hold public officials accountable, and, in particular, if new media, such as blogs, can make a difference. Specifically, we study whether blog postings of a popular Russian blogger, shareholder activist, and, subsequently, one of the leaders of emerging opposition to President Putin’s regime, Alexei Navalny, have had an impact on stock performance of the companies whose wrongdoings he uncovered and made public.
First, we show that daily abnormal returns of the companies Navalny wrote about were significantly lower after Navalny’s posts about them. The results hold if we control for mentions of these companies in other types of media (business newspapers, online newspapers, and blogs) and for company-year and year-month fixed effects. In addition to looking at daily abnormal returns, we show similar results for 5-minute abnormal returns even controlling for trading-day fixed effects (see Figure 3). The magnitude of this effect is quite sizable with a daily decline of 0.5 p.p. after an average blog posting, and a daily decline of 0.9 p.p. after an important blog posting.
Figure 3. 5-minute Abnormal Returns and Navalny’s Blog Postings, Non-Trading Time (Evenings and Weekends) Excluded
We also provide evidence that the impact of blogging on stock performance is causal. Although the results described above are consistent with the negative impact of blogging, they could be explained, e.g., by selective exposure. To identify the causal effect of blog postings we use an external variable, distributed denial-of-service (DDoS) attack on a blog service, as a source of exogenous variation. During the period under study (between January 2008 and August 2011), these DDoS attacks, allegedly, were not specifically targeting the Navalny’s blog, but they affected the accessibility of the whole blog platform, and the Navalny’s blog was also affected. As a result, DDoS attacks either prevented Navalny from writing a post or prevented his readers from reading his blog, but there was no obvious reason why they might influence fundamental determinants of stock prices of the companies Navalny wrote about.
In a reduced form model, we find significant positive effect of DDoS attacks on daily abnormal returns of the companies Navalny wrote about. This effect is stronger for the companies Navalny was more focused on (the latter result holds even with DDoS attack fixed effects). Quantitatively, the effect of DDoS attack is similar to the absence of the post or to the presence of the post with no information about the company in question. We also show that though DDoS effect is increasing in Navalny’s attention to the companies he was writing about, it is not increasing in the amount of general news attention to these companies.
Finally, in addition to the short-term effects we just described, we look at the longer-term one-month effects of blog postings. We find that although there were no long-term effects of the ordinary postings, there were negative and significant long-term effects of the most important postings, as proxied by at least 5 mentions of a company in the post. In addition, during the month after a blog posting, there was a larger volatility of stock returns and a larger trading volume. It appears that the number of transactions, controlling for trading volume, was significantly larger in both the short-term and longer-term perspective. Smaller average transactions are consistent with more individual, in contrast to institutional trading, which suggest that short-run effects of blog posting are driven by attention effects, rather than provision of new information. Overall, all our results are consistent with a negative causal impact of blog postings on stock performance of state-controlled companies, and imply that potentially there is a disciplining effect on the behavior of public officials who manage these companies. Thus, our results suggest that posting in online social networks can affect the stock performance of state-controlled companies, and, as a result, can become an unusual alternative mechanism to putting additional checks on the behavior of government officials even if political competition remains limited, and traditional media remain controlled.
The report is based on two papers: Enikolopov, Ruben, Vasily Korovkin, Maria Petrova, Konstantin Sonin, and Alexei Zakharov (2012) “Electoral Fraud in Russian Parliamentary Elections in December 2011: Evidence from a Field Experiment.” Proceedings of the National Academy of Sciences, 109 (52); Enikolopov, Ruben, with Maria Petrova and Konstantin Sonin “Do Bloggers Have any Real Influence? Event Study of Blog Postings by a Russian Activist Shareholder and Blog Service DDoS Attacks,” CEPR Working Paper.
[1] The sample excludes 210 precincts that had a special status, as they were located in hospitals, military units, or pre-trial detention facilities. These polling stations were excluded from the analysis since sending observers there was not always possible, and it was not clear if these polling stations were sufficiently similar to each other to use randomization. The number of votes cast at these polling stations, however, stood at only 1.8 percent of total votes in Moscow.