Head of World Bank Fraud Unit Resigns

By STEVEN R. WEISMAN

Published: January 17, 2008

WASHINGTON — Six months after taking over as president of the World Bank, Robert B. Zoellick faced new turmoil on Wednesday over a campaign against corruption in bank lending, with the resignation of the chief of the bank’s antifraud unit.

Bank officials said that despite Mr. Zoellick’s efforts to heal the wounds left from the stormy tenure of his predecessor, Paul D. Wolfowitz, the resignation of Suzanne Rich Folsom, Mr. Wolfowitz’s top deputy in his anticorruption campaign, was stirring new bitterness. They said that several of Ms. Folsom’s aides were also resigning.

Mr. Wolfowitz, who had made the battle against corruption a priority, was ousted as bank president last year after the disclosure that he had arranged a pay increase and promotion for his companion, a bank employee, in 2005.

“There is just a lot of bad blood,” said a bank official, speaking on the condition of anonymity in order to discuss internal matters. He added that many in the bank remained “allergic” to efforts to prosecute cases of fraud. Another official said that ties between Ms. Folsom and the bank had been on a “downward spiral” in recent months.

Associates of Ms. Folsom said she had decided to leave her job because she had accomplished the goal of making the battle against corruption a major priority, but realized that opposition to her work by others had made it difficult for her to go on.

News of her departure stirred mixed reactions within the bank, where many welcomed her decision, saying she had been selective in her prosecutions or overly aggressive, while others said she had done much to combat complacency.

Relations between Mr. Zoellick and Ms. Folsom, which were positive in the beginning, were described by many inside the bank as increasingly frayed in recent weeks, especially after editorials in The Wall Street Journal cited internal investigations and suggested that Ms. Folsom was being undercut and driven out.

A spokesman for Mr. Zoellick, Marwan Muasher, a senior vice president for external affairs, said that Ms. Folsom had not been pushed out and that Mr. Zoellick had been entirely supportive.

“He did not force her out in any way, shape or form,” Mr. Muasher said of Mr. Zoellick, adding that when Ms. Folsom told Mr. Zoellick last year that she wanted to leave for a job in private business, he offered her a different job at the bank and then asked her to stay until the bank completed its investigation of corruption in India.

The report on India was released Friday, and it found extensive corruption in several Indian lending programs. The report was filled with pictures of shoddy construction work at hospitals, clinics and other facilities that had been certified as adequate. It also contained pledges by India to work with the bank on improving its procedures, but some officials in the bank said these were similar to ones made and not kept in the past.

Ms. Folsom’s resignation was announced Wednesday morning in a posting in the bank’s internal Web site, without a statement praising her from Mr. Zoellick.

Mr. Zoellick’s office initially said he would make no comment about her departure so as not to interject himself into the matter, but later in the afternoon an aide issued a statement from him saying: “Suzanne has done a tremendous amount to push the anticorruption agenda forward, and I’m grateful for her service.”

Mr. Zoellick’s aides say that, like Mr. Wolfowitz, he believes corruption is a high priority but that he intends to pursue the issue in a less divisive or confrontational way than had been the case in the past.

Corruption is widely described as a problem in the bank’s $30 billion annual lending programs for poor countries, but the extent is in dispute. Last September, an outside panel led by Paul A. Volcker, the former Federal Reserve chairman, found weak management, distrust and internal resistance to combating fraud at the bank.

Mr. Zoellick, according to his aides, has sought to carry out broad changes in the way Ms. Folsom’s unit interacts with other bank officials, and to install procedures on competitive bidding, inspections and disclosure that would prevent corruption instead of just prosecuting cases after the fact.

“It’s all very well to talk about corruption and to have these reports,” said Ngozi Okonjo-Iweala, a managing director at the bank and former finance minister of Nigeria, who negotiated the India agreement. “Bob Zoellick is geared toward implementation, and how we sustain this and embed it in a country.”

Ms. Okonjo-Iweala negotiated the arrangement with India to set up ways to rid programs of fraud. By contrast, Mr. Wolfowitz abruptly suspended aid to India after accusations of fraud in 2005, and that suspension angered board members and helped pave the way for his downfall, many bank officials say.

Mr. Volcker praised Ms. Folsom and the integrity unit she headed last year, when he issued his report, but he also recommended changes in the way the unit functioned.

Several bank officials said, however, that Mr. Volcker privately recommended to Ms. Folsom that since her work had been largely vindicated, she should consider resigning as a way of easing the toxic atmosphere left behind by Mr. Wolfowitz and by the fights between her department and others at the bank.

Instead, Ms. Folsom stayed on, though associates say she had been pursuing possibilities of working outside the bank. Ms. Folsom declined to comment.

Mr. Zoellick appointed an acting director to run the integrity unit, and his office said he would conduct a thorough search for a successor. One reason Ms. Folsom incurred the anger of bank staff was that she had served as an adviser to Mr. Wolfowitz before he appointed her over others recommended by a search committee.

Ms. Folsom, a onetime activist in Republican Party politics, had been a partner in a law firm specializing in ethics issues. Defenders and critics said that she had considerable difficulties overcoming the perception in the bank, where employees tend to be liberal in their politics, that she was part of a coterie of conservative advisers around Mr. Wolfowitz.

Bankers go to Baghdad

By Patrick Bond

The World Bank and International Monetary Fund's annual meeting in Washington earlier this month witnessed the members' rejection of two big ideas - debt cancellation and institutional democratisation. No surprise. There wasn't much pressure from either Third World finance ministers or the US branch of the global justice movement (apparently in hibernation until 3 November).

However, important financial developments are now unfolding, reflective of Washington's geopolitical imperatives in Iraq. Bank and IMF activity there was relegitimised at the annual meeting, but in a contradictory and untenable manner.

A recent IMF report on Iraq claimed that 'macroeconomic stability' has been achieved and the economy will have grown 52% in 2004. This was in part justification for the IMF's recent $436 million loan to the Washington-imposed Baghdad regime. The report also revealed that the IMF has been coordinating macroeconomic technical assistance, drawing together a team from the Bank, US Treasury, US AID, the British Department for International Development and the Bank of England.

Another IMF justification was that after the invasion, 'A number of important policy reforms then began to be implemented to facilitate progress toward a more market-oriented economy. These reforms included the completion of a national currency exchange, the approval of new central bank and commercial bank laws, the liberalization of interest rates, approval of a foreign direct investment law, the establishment of the Trade Bank of Iraq, the passage of the Financial Management Law and a new tax law, and the simplification of the trade regime.'

These measures, introduced by viceroy Paul Bremer, not only represent legalized looting, but also appear totally ineffectual for the attraction of foreign investment, as is brilliantly documented in Naomi Klein's new Harpers magazine article 'Baghdad Year Zero: Pillaging Iraq in pursuit of a neocon utopia' (http://www.harpers.org/BaghdadYearZero.html).

Also last week, speaking at the UN Economic Commission on Africa in Addis Ababa, Bank president James Wolfensohn predicted his institution would push more than $400 million to the US-imposed Baghdad regime by the end of 2004: 'Obviously all of this is to some extent held up by the situation on the ground because it is not easy to operate. So far as the lending from the Bank is concerned, which will be $5 billion, the Iraqis are looking at grants first because if they can get grants, it is money for nothing and does not increase the debt burden, which is already very high at about $120 billion.'

As an aside, that vast debt burden was being unevenly reduced by the efforts of US special envoy James Baker - until, that is, Klein blew the whistle through her investigative report in Britain's Guardian newspaper, also last week. Baker's Carlyle Group was then forced to withdraw from a consortium which sneakily offered to help Kuwait reclaim $27 billion from the Iraqi people at the same time Baker was trying to get French, German and Russian debt relief for Iraq. A more blatant scam could hardly be found, outside a Paul Erdman novel.

Does the Bank have anyone as unethical and hardnosed as a Baker, Richard Armitage or John Negroponte to guide the vast sums of new loans to their primary destination: US contractor profits? And will a future democratic government in Baghdad have the guts to formally declare today's Bank and IMF loans 'odious' - just as odious as Saddam's debts - and hence not liable for repayment?

(Notwithstanding South African president Thabo Mbeki's stance against reparations for odious apartheid-era lending, the country's Jubilee campaigners continue making the same plea, in the ongoing lawsuits against US and European bankers.)

Hypocrisy on debt relief - Iraq gets waves, Africa only trickles - worries not only excellent groups like Jubilee South and the 50 Years is Enough network, who insist on 100% cancellation. In early October even Malawi's neoliberal finance minister Goodal Gondwe complained of double standards during the IMF/Bank meetings: 'What I am afraid of is that putting Nigeria together with Iraq we may emphasize for sentimental reasons that are currently in the air politically, that talking about Iraq could be at the expense of Nigeria.'

The man the Bank chose for loan-pushing in a highly risky Baghdad environment is Christiaan Poortman, vice president for the Middle East and North Africa region, and a former Bank country director in the Balkans. I came across Poortman in Zimbabwe, and am compelled to pass along some warnings to Iraqi readers of ZNet about his work there as Resident Representative during the early 1990s, especially if the Bank also takes on more 'donor coordination' functions.

Poortman, after all, already runs the multi-donor Iraq Trust Fund and disbursed $60 million in grants for school building and repair last week. He pledged $150 million in resources for water and sanitation, and, according to the Bank press office, 'also said he wants to turn some of the money pledged into financing for electrical and water projects that will be left unfunded because of the transfer of funds earmarked by the US for reconstruction to security spending.'

A year ago, the Bank and United Nations estimated that $35.8 billion would be required to meet Iraqi needs. Typical advice in their 'Joint Iraq Needs Assessment' was 'to encourage private sector participation in the State Owned Enterpises (SOEs) along with separating the ownership responsibilities of government from its policy and operating responsibilities. SOEs that are internationally viable will eventually be able to shoulder higher input prices as trade liberalization frees controls on their output prices. Other

SOEs will ultimately face adjustment pressures from the hardened budget constraints.'

Zimbabweans will recognise this sort of language. The country's health minister during the 1990s, Dr Timothy Stamps, reported that spending on health was down by 37% per person from 1990-93, because Poortman considered health a social expenditure which 'had to be cut'. The government of Robert Mugabe had become 'so miserly that we are killing ourselves because we want to save a few cents,' Stamps admitted.

This was just one of several problems Poortman faced winning hearts and minds in Harare. When the IMF and World Bank insisted on tighter monetary policy in 1991, interest rates on certain government securities rose from 27% to 44% in a single day, which shattered business confidence and caused stock market and property sector crashes.

Hence even conservatives grew fed up with the ineffectual 'economic structural adjustment policy' (termed ESAP) imposed from Washington. Financial Times correspondent Tony Hawkins - also head of the local university's business school - condemned Poortman's dubious macroeconomic analysis in 1993: 'Every year, the World Bank officials dutifully prepare invariably over-optimistic assessments designed to show the worst is past and that the client state, whose economy is under the microscope, is on the brink of sustained recovery.'

Hawkins renewed his criticism in 1995: 'The World Bank's conduct in the Zimbabwean case raises a very serious issue. If the Bank had done its job properly, then Zimbabwe's budget and public sector crises need not have reached the dimensions that they have since. The debt burden would be less; the new taxes to be imposed would be less severe and the public spending cuts less drastic... The Bank has needlessly delivered 11 million Zimbabweans into the hands of harsher austerity than should have been necessary'.

The editor of a local business paper, Iden Wetherell, agreed: 'Everybody repeats the official mythology that the recent drought has slightly derailed ESAP, while insisting (the wish being father to the thought) that economic reform is otherwise on course. The most notable representative of this starry-eyed approach is the World Bank's chief in Harare, Mr Christiaan Poortman. His emollient statements over the past 18 months reflect the devotion of a faith unmoved by facts.'

Myopically, in a review of the Bank's impact during Poortman's stint, an internal reported boasted that Poortman had 'fostered an awareness of the need for a broad-based economic policy reform'. Indeed, 'informal work and advice provided by the Resident Mission was instrumental' in shaping ESAP even prior to Poortman's arrival.

The following promises were extracted from Mugabe by the Bank and IMF in the 1991 design of ESAP: by the end of 1995 there would be a 25% cut in the civil service, and the demise of all labour restrictions, price controls, exchange controls, interest rate controls, investment regulations, import restrictions, and government subsidies. Most were accomplished. By 1995 'rapid privatisation of the key parastatals' providing telecommunications, electricity, water and transportation had become one of the Bank's central demands.

The Bank's 1995 Project Completion Report for ESAP gave the best possible final grade for the first stage of the utterly failed programme: 'highly satisfactory.' The Bank acknowledged playing 'a key role in the dissemination of the programme and in building support amongst the wider donor community.' Hence Bank staff also rated their own performance as 'highly satisfactory' (again, top marks) for identification and appraisal, and 'satisfactory' for preparation assistance and supervision.

In the book Zimbabwe's Plunge (Merlin Press, 2003), my coauthor Simba Manyanya and I looked back a decade on Poortman's role, and argued that ESAP fatally weakened the state's developmental capacities. Social desperation worsened - Poortman's reign included the first of several major 'IMF Riots' in Harare - and ESAP was, in any case, unsuccessful in stimulating investment and capital accumulation.

All indicators of economic activity and social progress worsened during Poortman's stay. Zimbabwe's exemplary social policy during the 1980s - reducing infant mortality from 86 to 49 per 1,000 live births, raising the immunisation rate from 25% to 80% and life expectancy from 56 to 62 years, doubling primary school enrollment, etc - witnessed ominous reversals.

In turn, Poortman and his colleagues created the conditions under which an official opposition based on the urban poor and workers emerged finally in 1999, leading Mugabe to zig-zag into left-rhetorical authoritarianism in early 2000, as he desperately sought to retain power and patronage within a crumbling economy.

Simba was chief economist in Zimbabwe's finance ministry but by the end of the 1990s became so fed up with Mugabe's blunders and awful 'advice' imposed from Washington that he quit to work for Morgan Tsvangirai's Zimbabwe Congress of Trade Union Unions. (Framed by Mugabe allies in early 2002, Tsvangirai was acquitted on a trumped up treason charge last week. But his Movement for Democratic Change appears still intent on boycotting the March 2005 parliamentary vote due to Zimbabwe's Florida-style electoral conditions.)

What was the popular reaction to Poortman and ESAP? Sidney Malunga, a progressive ruling-party MP until his suspicious 1994 death in a car accident, was brutally honest: 'To the masses of Zimbabwe, the poor people of Zimbabwe, the sum total of ESAP can best be described as a loathsome economic monster which is ravaging and destroying decent lives by incapacitating the poor and further condemning them to abject poverty.'

According to a survey of 200 poor people by the Africa Community Publishing and Development Trust at the end of Poortman's Harare gig, 'ESAP was listed as a cause of poverty even more often than drought and the shortage of land. The combination of retrenchment on a large scale, with a sharp increase in the price of basic goods and having to pay for health and education, has driven many families into poverty.'

'Deep down,' Zimbabwe's great novelist Chengerai Hove divulged in 1994, 'I harbour fear, a persistent fear which, like an ominous shadow, refused to abandon me. There is the smell of the Structural Adjustment Programme in the wind, with its flags swamping those of political independence. "Sure Advice to Poverty" local pub humorists have nicknamed this World Bank-IMF economic beverage. It tastes sour from the beginning, a cartoonist once wrote as he watched friends and foes losing jobs in Harare's industries under the banner of die today so as to live tomorrow.'

It's a fear that the wretched people of Iraq can now add to so many others.

Read more!

News and Commentary for 11/17/07

The U.S. Congress has passed the U.S.-Peru Free Trade Agreement. Among the provisions: removal of duties on some 80% of U.S. exports to Peru, including subsidized cotton, corn and wheat (which will drive more Peruvian farmers off the land); expanded rights to drill in the Peruvian Amazon (which is why Occidental Petroleum, for example, has been lobbying hard for the FTA); and the greater opening of Peru's urban commercial sectors to foreign competition (hence the enthusiasm of Wal-Mart, Citibank, and others).

Brazil may purchase a nuclear submarine to "protect" the massive offshore oil reserves recently discovered at Tupi.

Speaking of nukes, the always-perceptive Azmi Bishara has written a good op-ed piece on Hiroshima and the Machiavellian logic of U.S. elites.

A massive cyclone hit Bangladesh on Thursday, killing a reported 1,100 people. Some 650,000 coastal villagers have fled to shelters, and 150 fishing trawlers are unaccounted for. The cyclone caused the power system in much of Bangladesh to collapse, leaving millions without power. This also led to a disruption in piped water supplies, as pumps could not be started.

The water problems in Bangladesh are a reminder of the complex supply chains and interdependencies that make urban life possible. The water crisis in Atlanta is another such reminder.

Climate Change and Water Wars

Tom Engelhardt's points out in this article that severe droughts are simultaneously afflicting the southern and midwestern U.S., North Africa, southeastern Europe, Mexico and Australia. Speculating about the possibility of mass migrations and resource conflicts over water in the U.S., he asks why the topic of water security--and what will happen if drought conditions take hold in major cities like Atlanta--is rarely broached in the U.S. media.

The IPCC impact assessments suggest that, even by conservative projections, there will be reductions in crop production in the most populous rural areas on the planet over the next few decades. But we have no reason to believe in convervative projections: U.S. carbon emissions are not only growing, their rate of growth is accelerating, and is predicted to continue to accelerate.

While there may actually be a boost in food production in parts of the U.S. due to climate change, in much of the farm belt food production will decrease. The IPCC 4th Assesment Report predicts:

"By mid-century, annual average river runoff and water availability are projected to increase by 10-40% at high latitudes and in some wet tropical areas, and decrease by 10-30% over some dry regions at mid-latitudes and in the dry tropics, some of which are presently water-stressed areas. [...] Crop productivity is projected to increase slightly at mid- to high latitudes for local mean temperature increases of up to 1-3°C depending on the crop, and then decrease beyond that in some regions. At lower latitudes, especially seasonally dry and tropical regions, crop productivity is projected to decrease for even small local temperature increases (1-2°C), which would increase the risk of hunger. Globally, the potential for food production is projected to increase with increases in local average temperature over a range of 1-3°C, but above this it is projected to decrease. [...] Increases in the frequency of droughts and floods are projected to
affect local crop production negatively, especially in subsistence sectors at low latitudes."

Two things need to be noted here: 1) these "subsistence sectors in low latitudes" include the most densely populated parts of coastal Asia, Africa and Latin America; and 2) increases of 1-2°C (under which "crop productivity is projected to decrease" in these regions) are at the low end of moderate IPCC predictions for temperature increases. So a fall in crop productivity in most of the world, most dangerously in the bread baskets of the southern hemisphere, is virtually assured. And this despite the fact that, at current growth rates, world population is expected to "crest" at 9 billion by 2050 . Unequivocally, then, anyone who advocates "business as usual" is advocating mass death.

Unfortunately, in a culture where possessive individualism is exalted by all-pervasive private and state propoganda as the highest collective aim, action on climate change might require its effects being "brought home" to the global north through drought and wildfires. As long there is a perceived geographical split between the greatest per capita carbon emitters and the greatest victims of climate change, it is likely that popular pressures will remain weak. Read more!

Excellent essay by Ha-Joon Chang

This essay summarizes his argument in the book "Bad Samaritans." Looking at the economic history of Western Europe, the U.S., Japan and the so-called "tiger economies," Chang demolishes the neoliberal argument that liberalization, privatization and strict patenting/"intellectual property" laws lead to prosperity. Following the "golden age" of post-colonial developmentalism in the 1960s-1970s, the former colonial powers and their financial (and sometimes intelligence/military) institutions effectively dismantled the developmentalist state in Africa, Latin America and parts of South and Southeast Asia. These developmentalist states had widely adopted the very same policies that allowed the "developed" countries to industrialize (high tariffs, capital controls, import subsistitution). Developmentalist states that were not dismantled, and disregarded the "Washington Consensus"--Japan, South Korea, Taiwan, Singapore and, in a qualified sense, China--continued to grow, while those that followed the imposed orthodoxy (practically all the rest of the "Third World" and the former U.S.S.R.) stagnated or declined.

"Almost all rich countries got wealthy by protecting infant industries and limiting foreign investment. But these countries are now denying poor ones the same chance to grow by forcing free-trade rules on them before they are strong enough."



Protecting the Global Poor
by Ha-Joon Chang

Once upon a time, the leading car-maker of a developing country exported its first passenger cars to the US. Until then, the company had only made poor copies of cars made by richer countries. The car was just a cheap subcompact ("four wheels and an ashtray") but it was a big moment for the country and its exporters felt proud.

Unfortunately, the car failed. Most people thought it looked lousy, and were reluctant to spend serious money on a family car that came from a place where only second-rate products were made. The car had to be withdrawn from the US. This disaster led to a major debate among the country's citizens. Many argued that the company should have stuck to its original business of making simple textile machinery. After all, the country's biggest export item was silk. If the company could not make decent cars after 25 years of trying, there was no future for it. The government had given the car-maker every chance. It had ensured high profits for it through high tariffs and tough controls on foreign investment. Less than ten years earlier, it had even given public money to save the company from bankruptcy. So, the critics argued, foreign cars should now be let in freely and foreign car-makers, who had been kicked out 20 years before, allowed back again. Others disagreed. They argued that no country had ever got anywhere without developing "serious" industries like car production. They just needed more time.

The year was 1958 and the country was Japan. The company was Toyota, and the car was called the Toyopet. Toyota started out as a manufacturer of textile machinery and moved into car production in 1933. The Japanese government kicked out General Motors and Ford in 1939, and bailed out Toyota with money from the central bank in 1949. Today, Japanese cars are considered as "natural" as Scottish salmon or French wine, but less than 50 years ago, most people, including many Japanese, thought the Japanese car industry simply should not exist.

Half a century after the Toyopet debacle, Toyota's luxury brand Lexus has become an icon of globalisation, thanks to the American journalist Thomas Friedman's book The Lexus and the Olive Tree. The book owes its title to an epiphany that Friedman had in Japan in 1992. He had paid a visit to a Lexus factory, which deeply impressed him. On the bullet train back to Tokyo, he read yet another newspaper article about the troubles in the middle east, where he had been a correspondent. Then it hit him. He realised that "half the world seemed to be… intent on building a better Lexus, dedicated to modernising, streamlining and privatising their economies in order to thrive in the system of globalisation. And half of the world—sometimes half the same country, sometimes half the same person—was still caught up in the fight over who owns which olive tree."

According to Friedman, countries in the olive-tree world will not be able to join the Lexus world unless they fit themselves into a particular set of economic policies he calls "the golden straitjacket." In describing the golden straitjacket, Friedman pretty much sums up today's neoliberal orthodoxy: countries should privatise state-owned enterprises, maintain low inflation, reduce the size of government, balance the budget, liberalise trade, deregulate foreign investment and capital markets, make the currency convertible, reduce corruption and privatise pensions. The golden straitjacket, Friedman argues, is the only clothing suitable for the harsh but exhilarating game of globalisation.

However, had the Japanese government followed the free-trade economists back in the early 1960s, there would have been no Lexus. Toyota today would at best be a junior partner to a western car manufacturer and Japan would have remained the third-rate industrial power it was in the 1960s—on the same level as Chile, Argentina and South Africa.

Had it just been Japan that became rich through the heretical policies of protection, subsidies and the restriction of foreign investment, the free-market champions might be able to dismiss it as the exception that proves the rule. But Japan is no exception. Practically all of today's developed countries, including Britain and the US, the supposed homes of the free market and free trade, have become rich on the basis of policy recipes that contradict today's orthodoxy.

In 1721, Robert Walpole, the first British prime minister, launched an industrial programme that protected and nurtured British manufacturers against superior competitors in the Low Countries, then the centre of European manufacturing. Walpole declared that "nothing so much contributes to promote the public wellbeing as the exportation of manufactured goods and the importation of foreign raw material." Between Walpole's time and the 1840s, when Britain started to reduce its tariffs (although it did not move to free trade until the 1860s), Britain's average industrial tariff rate was in the region of 40-50 per cent, compared with 20 per cent and 10 per cent in France and Germany respectively.

The US followed the British example. In fact, the first systematic argument that new industries in relatively backward economies need protection before they can compete with their foreign rivals—known as the "infant industry" argument—was developed by the first US treasury secretary, Alexander Hamilton. In 1789, Hamilton proposed a series of measures to achieve the industrialisation of his country, including protective tariffs, subsidies, import liberalisation of industrial inputs (so it wasn't blanket protection for everything), patents for inventions and the development of the banking system.

Hamilton was perfectly aware of the potential pitfalls of infant industry protection, and cautioned against taking these policies too far. He knew that just as some parents are overprotective, governments can cosset infant industries too much. And in the way that some children manipulate their parents into supporting them beyond childhood, there are industries that prolong government protection through clever lobbying. But the existence of dysfunctional families is hardly an argument against parenting itself. Likewise, the examples of bad protectionism merely tell us that the policy needs to be used wisely.

In recommending an infant industry programme for his young country, Hamilton, an impudent 35-year-old finance minister with only a liberal arts degree from a then second-rate college (King's College of New York, now Columbia University) was openly ignoring the advice of the world's most famous economist, Adam Smith. Like most European economists at the time, Smith advised the Americans not to develop manufacturing. He argued that any attempt to "stop the importation of European manufactures" would "obstruct… the progress of their country towards real wealth and greatness."

Many Americans—notably Thomas Jefferson, secretary of state at the time and Hamilton's arch-enemy—disagreed with Hamilton. They argued that it was better to import high-quality manufactured products from Europe with the proceeds that the country earned from agricultural exports than to try to produce second-rate manufactured goods. As a result, congress only half-heartedly accepted Hamilton's recommendations—raising the average tariff rate from 5 per cent to 12.5 per cent.

In 1804, Hamilton was killed in a duel by the then vice-president Aaron Burr. Had he lived for another decade or so, he would have seen his programme adopted in full. Following the Anglo-American war in 1812, the US started shifting to a protectionist policy; by the 1820s, its average industrial tariff had risen to 40 per cent. By the 1830s, America's average industrial tariff rate was the highest in the world and, except for a few brief periods, remained so until the second world war, at which point its manufacturing supremacy was absolute.

Britain and the US were not the only practitioners of infant industry protection. Virtually all of today's rich countries used policy measures to protect and nurture their infant industries. Even when the overall level of protection was relatively low, some strategic sectors could get very high protection. For example, in the late 19th and early 20th centuries, Germany, while maintaining a relatively moderate average industrial tariff rate (5-15 per cent), accorded strong protection to industries like iron and steel. During the same period, Sweden provided high protection to its emerging engineering industries, although its average tariff rate was 15-20 per cent. In the first half of the 20th century, Belgium maintained moderate levels of overall protection but heavily protected key textile sectors and the iron industry.

Tariffs were not the only tool of trade policy used by rich countries. When deemed necessary for the protection of infant industries, they banned imports or imposed import quotas. They also gave export subsidies—sometimes to all exports (Japan and Korea) but often to specific items (in the 18th century, Britain gave export subsidies to gunpowder, sailcloth, refined sugar and silk). Some of them also gave a rebate on the tariffs paid on the imported industrial inputs used for manufacturing export goods, in order to encourage such exports. Many believe that this measure was invented in Japan in the 1950s, but it was in fact invented in Britain in the 17th century.

It is not just in the realm of trade that the historical records of today's rich countries burst the bindings of Friedman's golden straitjacket. The history of controls on foreign investment tells a similar story. In the 19th century, the US placed restrictions on foreign investment in banking, shipping, mining and logging. The restrictions were particularly severe in banking; throughout the 19th century, non-resident shareholders could not even vote in a shareholders' meeting and only American citizens could become directors in a national (as opposed to state) bank.

Some countries went further than the US. Japan closed off most industries to foreign investment and imposed 49 per cent ownership ceilings on the others until the 1970s. Korea basically followed this model until it was forced to liberalise after the 1997 financial crisis. Between the 1930s and the 1980s, Finland officially classified all firms with more than 20 per cent foreign ownership as "dangerous enterprises." It was not that these countries were against foreign companies per se—after all, Korea actively courted foreign investment in export processing zones. They restricted foreign investors because they believed—rightly in my view—that there is nothing like learning how to do something yourself, even if it takes more time and effort.

The wealthy nations of today may support the privatisation of state-owned enterprises in developing countries, but many of them built their industries through state ownership. At the beginning of their industrialisation, Germany and Japan set up state-owned enterprises in key industries—textiles, steel and shipbuilding. In France, the reader may be surprised to learn that many household names—like Renault (cars), Alcatel (telecoms equipment), Thomson (electronics) and Elf Aquitaine (oil and gas)—have been state-owned enterprises. Finland, Austria and Norway also developed their industries through extensive state ownership after the second world war. Taiwan has achieved its economic "miracle" with a state sector more than one-and-a-half times the size of the international average, while Singapore's state sector is one of the largest in the world, and includes world-class companies like Singapore Airlines.

Of course, there were exceptions. The Netherlands and pre-first world war Switzerland did not adopt many tariffs or subsidies. But they did deviate from today's free-market orthodoxy in another, very important way—they refused to protect patents. Switzerland did not have patents until 1888 and did not protect chemical inventions until 1907. The Netherlands abolished its 1817 patent law in 1869, on the grounds that patents created artificial monopolies that went against the principle of free competition. It did not reintroduce a patent law until 1912, by which time Philips was firmly established as a leading producer of lightbulbs, whose production technology it "borrowed" from Thomas Edison.

Even countries that did have patent laws were lax about protecting intellectual property (IP) rights—especially those of foreigners. In most countries, including Britain, Austria, France and the US, patenting of imported inventions was explicitly allowed in the 19th century.

Despite this history of protection, subsidy and state ownership, the rich countries have been recommending to, or even forcing upon, developing countries policies that go directly against their own historical experience. For the past 25 years, rich countries have imposed trade liberalisation on many developing countries through IMF and World Bank loan conditions, as well as the conditions attached to their direct aid. The World Trade Organisation (WTO) does allow some tariff protection, especially for the poorest developing countries, but most developing countries have had to significantly reduce tariffs and other trade restrictions. Most subsidies have been banned by the WTO—except, of course, the ones that rich countries still use, such as on agriculture, and research and development. And while, of course, no poor country is obliged to accept foreign inward investment (and most receive none or very little) the IMF and the World Bank are always lobbying for more liberal foreign investment rules. The WTO has also tightened IP laws, asking all but the poorest developing countries to comply with US standards—which even many Americans consider excessive.

Why are they doing this? In 1841, Friedrich List, a German economist, criticised Britain for preaching free trade to other countries when she had achieved her economic supremacy through tariffs and subsidies. He accused the British of "kicking away the ladder" that they had climbed to reach the world's top economic position. Today, there are certainly some people in rich countries who preach free trade to poor countries in order to capture larger shares of the latter's markets and to pre-empt the emergence of possible competitors. They are saying, "Do as we say, not as we did," and act as bad samaritans, taking advantage of others in trouble. But what is more worrying is that many of today's free traders do not realise that they are hurting the developing countries with their policies. History is written by the victors, and it is human nature to reinterpret the past from the point of view of the present. As a result, the rich countries have gradually, if often sub-consciously, rewritten their own histories to make them more consistent with how they see themselves today, rather than as they really were.

But the truth is that free traders make the lives of those whom they are trying to help more difficult. The evidence for this is everywhere. Despite adopting supposedly "good" policies, like liberal foreign trade and investment and strong patent protection, many developing countries have actually been performing rather badly over the last two and a half decades. The annual per capita growth rate of the developing world has halved in this period, compared to the "bad old days" of protectionism and government intervention in the 1960s and the 1970s. Even this modest rate has been achieved only because the average includes China and India—two fast-growing giants, which have gradually liberalised their economies but have resolutely refused to put on Thomas Friedman's golden straitjacket.

Growth failure has been particularly noticeable in Latin America and Africa, where orthodox neoliberal programmes were implemented more thoroughly than in Asia. In the 1960s and the 1970s, per capita income in Latin America grew at 3.1 per cent a year, slightly faster than the developing-country average. Brazil especially was growing almost as fast as the east Asian "miracle" economies. Since the 1980s, however, when the continent embraced neoliberalism, Latin America has been growing at less than a third of this rate. Even if we discount the 1980s as a decade of adjustment and look at the 1990s, we find that per capita income in the region grew at around half the rate of the "bad old days" (3.1 per cent vs 1.7 per cent). Between 2000 and 2005, the region has done even worse; it virtually stood still, with per capita income growing at only 0.6 per cent a year. As for Africa, its per capita income grew relatively slowly even in the 1960s and the 1970s (1-2 per cent a year). But since the 1980s, the region has seen a fall in living standards. There are, of course, many reasons for this failure, but it is nonetheless a damning indictment of the neoliberal orthodoxy, because most of the African economies have been practically run by the IMF and the World Bank over the past quarter of a century.

In pushing for free-market policies that make life more difficult for poor countries, the bad samaritans frequently deploy the rhetoric of the "level playing field." They argue that developing countries should not be allowed to use extra policy tools for protection, subsidies and regulation, as these constitute unfair competition. Who can disagree?

Well, we all should, if we want to build an international system that promotes economic development. A level playing field leads to unfair competition when the players are unequal. Most sports have strict separation by age and gender, while boxing, wrestling and weightlifting have weight classes, which are often divided very finely. How is it that we think a bout between people with more than a couple of kilos' weight difference is unfair, and yet we accept that the US and Honduras should compete economically on equal terms?

Global economic competition is a game of unequal players. It pits against each other countries that range from Switzerland to Swaziland. Consequently, it is only fair that we "tilt the playing field" in favour of the weaker countries. In practice, this means allowing them to protect and subsidise their producers more vigorously, and to put stricter regulations on foreign investment. These countries should also be allowed to protect IP rights less stringently, so that they can "borrow" ideas from richer countries. This will have the added benefit of making economic growth in poor countries more compatible with the need to fight global warming, as rich-country technologies tend to be far more energy-efficient.

I am not against markets, international trade or globalisation. And I acknowledge that WTO agreements contain "special and differential treatment" provisions which give poor country members certain rights, and which permit rich countries to treat developing countries more favourably than other rich WTO members. But these provisions are limited and generally just give poor countries longer time periods to liberalise their economic rules. The default position remains blind faith in indiscriminate free trade.

The best way to illustrate my general point is to look at my own native Korea—or, rather, to contrast the two bits that used to be one country until 1948. It is hard to believe today, but northern Korea used to be richer than the south. Japan developed the north industrially when it ruled the country from 1910-45. Even after the Japanese left, North Korea's industrial legacy enabled it to maintain its economic lead over South Korea well into the 1960s.

Today, South Korea is one of the world's industrial powerhouses while North Korea languishes in poverty. Much of this is thanks to the fact that South Korea aggressively traded with the outside world and actively absorbed foreign technologies while North Korea pursued its doctrine of self-sufficiency. Through trade, South Korea learned about the existence of better technologies and earned the foreign currency to buy them. In its own way, North Korea has managed some technological feats. For example, it figured out a way to mass-produce vinalon, a synthetic fibre made out of limestone and anthracite, which has allowed it to be self-sufficient in clothing. But, overall, North Korea is technologically stuck in the past, with 1940s Japanese and 1950s Soviet technologies, while South Korea is one of the most technologically dynamic economies in the world.

In the end, economic development is about mastering advanced technologies. In theory, a country can develop such technologies on its own, but technological self-sufficiency quickly hits the wall, as seen in the North Korean case. This is why all successful cases of economic development have involved serious attempts to get hold of advanced foreign technologies. But in order to be able to import technologies from developed countries, developing nations need foreign currency to pay for them. Some of this foreign currency may be provided through foreign aid, but most has to be earned through exports. Without trade, therefore, there will be little technological progress and thus little economic development.

But there is a huge difference between saying that trade is essential for economic development and saying that free trade is best. It is this sleight of hand that free-trade economists have so effectively deployed against their opponents—if you are against free trade, they imply, you must be against trade itself, and so against economic progress.

As South Korea—together with Britain, the US, Japan, Taiwan and many others—shows, active participation in international trade does not require free trade. In the early stages of their development, these countries typically had tariff rates in the region of 30-50 per cent. Likewise, the Korean experience shows that actively absorbing foreign technologies does not require a liberal foreign investment policy.

Indeed, had South Korea donned Friedman's golden straitjacket in the 1960s, it would still be exporting raw materials like tungsten ore and seaweed. The secret of its success lay in a mix of protection and open trade, of government regulation and free(ish) market, of active courting of foreign investment and draconian regulation of it, and of private enterprise and state control—with the areas of protection constantly changing as new infant industries were developed and old ones became internationally competitive. This is how almost all of today's rich countries became rich, and it is at the root of almost all recent success stories in the developing world.

Therefore, if they are genuinely to help developing countries develop through trade, wealthy countries need to accept asymmetric protectionism, as they used to between the 1950s and the 1970s. The global economic system should support the efforts of developing countries by allowing them to use more freely the tools of infant industry promotion—such as tariff protection, subsidies, foreign investment regulation and weak IP rights.

There are huge benefits from global integration if it is done in the right way, at the right speed. But if poor countries open up prematurely, the result will be negative. Globalisation is too important to be left to free-trade economists, whose policy advice has so ill served the developing world in the past 25 years.


Read more!

Just What India Needs

Over 20,000 people took to the streets of Mumbai yesterday to protest the entry of Wal-Mart into the Indian market. The Indian retail sector is worth an estimated $370 billion, only 5% of which is made up of supermarkets and chain stores. The rest consists of small merchants. The conflict here is not about corporate homogeneity vs. Mom n' Pop diversity, or Westernization vs. Indian traditionalism. It's about the destruction of jobs. The NY Times reports:

"Those against private retail say 40 million jobs will be lost, against the 2 million that modern retail promises to create.
"They have government support, financial muscle. It is like they are boxing with gloves and we are being asked to fight bare-handed without any protection," said Sharadkumar Maru, head of a grain merchants' association."

Some Indian activists argue that the erosion of small-business market share by Western multinational retailers (not just Wal-Mart) will have a far larger impact than 40 million jobs. At a talk in Washington, D.C. in September, Vandana Shiva said:

"India is a huge, huge land of bazaars, of huts, of markets. Every street is a market. Hawkers come down in the morning, get us our vegetables to our doorstep. Of course, that's not very good for Wal-Mart so they're manipulating zoning laws, shutting down hawkers, shutting down businesses in town, so that we will have a Wal-Mart model. But that means 100 million people out of retail and we don't know how much more carbon emissions, while Wal-Mart talks about going green."

In 2006, Wal-Mart was ranked at #2 on the Fortune 500 list of the most profitable U.S. companies, with revenues of $315.65 billion. (The #1 spot went to ExxonMobil.) Wal-Mart cashiers in the U.S. are paid at or near the minimum wage, like their counterparts at Burger King drive-thrus. The Indian jobs that Wal-Mart will create, in place of the many more it will destroy, will be low-wage, "flexible" and temporary ones. Most of the wealth will be repatriated to U.S. shareholders.

The funny thing about neoliberalism is that it's preached by protectionists. Open your economy to our multinationals, its apostles tell the countries of the South, and in return we will accept migrant workers, light industrial products, and low-wage business services in addition to cash crops and raw materials. Slash tariffs, they say, while we maintain subsidies. Sometimes the hypocrisy goes further. In an amusing article in the Financial Times on Wednesday, it was reported that the OECD has published a new economic survey of India. Its authors call on India to "step up reforms":

"India's economic growth per capita was now rising annually by 7.5 per cent versus the 1.25 per cent seen between 1950 and 1980. The faster growth, the OECD said, had resulted in India becoming the third-largest economy in the world in 2006 in purchasing power parity terms behind only the US and China and slightly ahead of Japan.

But it warned India was not fully exploiting its advantage as a labour-abundant economy because of high levels of employment protection that particularly deterred larger manufacturing companies from hiring workers.

Work in companies with more than 10 employees accounts for 3.75 per cent of employment in India, a much smaller proportion than any OECD country. India has stricter job protection laws than China, Brazil and all but two OECD countries.

It echoed longstanding calls for reform of the Industrial Disputes Act that requires businesses to obtain government permission to lay off even a single worker from manufacturing plants with more than 100 employees. "Reduction in the stringency of employment protection is needed and could be balanced by an increase in the extent of accrual-based severance payments," said the OECD report. Reform would help shift rural labour to productive areas.

It also urged the government to open the economy more rapidly to international trade and to foreign direct investment in tightly protected service sectors, such as insurance and retailing.
Small traders have been holding regular protests against the inroads being made into the fragmented retail sector by big business houses such as Reliance Industries, which plans a $5bn-7bn investment in a farm-to-fork supply chain."

So, in other words: it's too hard to fire Indian factory workers; there are too many small businesses in India, and not enough conglomerates; India needs to follow the Chinese model of export-oriented industrialization driven by foreign multinational investment and rural-to-urban migration; Western insurance and retail multinationals need to be allowed to compete with Indian businesses. The report also called on India to cut agricultural subsidies (this is like Union Carbide calling on Bhopal to reduce pollution). Never mind that rural-to-urban migration vastly exceeds the rate of job creation in the formal sector; or that the jobs that are created by Western multinationals exist largely because the wages are lower than in the EU or US.

Small businesses in Vietnam are facing a similar threat. Under the terms of Vietnam's accession to the WTO, it has to open its market to foreign retailers, including ones that are 100% foreign-owned (with maximum repatriation of profits to Germany, the U.S., etc.).

Read more!

Andean FTAS and the Southward Drift of NAFTA; Militarization in Mecca

The U.S.-Peru Free Trade Agreement was passed by Congress this week. Commerce Secretary Carlos Gutierrez, defending the agreement against critics who say it will harm the U.S. economy, pointed out that the U.S. is running a trade surplus with the Dominican Republic and five Central American countries as a result of CAFTA. He is right to suggest that the U.S.-Peru FTA will extend the results of CAFTA, which has knocked down protective trade barriers between the richest country in the world and some of the poorest in the hemisphere. CAFTA has slashed agricultural tariffs in Central America and the Caribbean without reducing agricultural subsidies in the U.S., allowing multinationals like Cargill to dump artificially cheapened corn and other exports on places like Guatemala, where 40% of the population lives on the land.

The predictable result? Plantations and textile factories producing for export are seeing greater access to the U.S. market due to their “comparative advantage” of dirt-cheap labor, often paid 60 cents an hour or less. Many of these "local" beneficiaries are subsidiaries of U.S. firms like Dole, Del Monte and RL Stowe Mills. (As the Economic Policy Institute calculates, some 50% of all American-owned manufacturing now takes places outside the U.S. This kind of "intra-firm trade" shows up, misleadingly, as GDP growth in the U.S. and in the "host country" on the macroeconomic ledgers.) Meanwhile, small peasant farmers can't compete with subsidized U.S. agribusiness exports. As FTA cheerleader USAID admits in a report on the effects of CAFTA on Honduras, “only a few of Honduras’ sensitive products will be competitive with those from the United States.”

Regarding Peru, an Oxfam report noted in March: “There are 25,000 cotton producers in the US who receive approximately $3.5 billion per year in subsidies. There are 28,000 cotton producers in Peru who receive no subsidies and who have few alternative ways to make a living. At the moment, Peruvian producers are protected from import surges by a tariff of 12% on cotton imports. This would be removed under the FTA, with devastating results.” Overall, we can predict from CAFTA, the new FTA with Peru, and the ones under discussion with Colombia and Panama, will have the same results as NAFTA. A few thousand manufacturing jobs which pay $1 a day or less will be created, and a far larger number of smallholders will be driven off the land due to export dumping from U.S. agribusiness. Some estimate that 2 million Mexican farmers were driven off the land by NAFTA. CAFTA and the Andean FTAs will generate similar waves of economic refugees, who will then appear in decontextualized, quasi-criminal form in U.S. immigration debates.

Saudi Arabia just signed an $8.9 billion deal with the British government for 72 Eurofighter Typhoon jets, manufactured by the British firm BAE Systems. This continues an accelerating arms build-up: in February 2007, the Saudis ordered $50 billion in fighter aircraft, attack helicopters, cruise missiles and tanks at an arms fair in Abu Dhabi.

Al-Jazeera reports that BAE Systems was threatened with a corruption probe by the Serious Fraud Office of the British government in 2006. BAE was alleged to have payed Saudi Prince Bandar Bin Sultan $2 billion in bribes over the last twenty years. This was in connection with the biggest arms deal in British history, in which $86 billion worth of arms were sold to the Saudi regime in 1985. Tony Blair said last year that the corruption probe would harm “national security,” which is true, if by "national" he meant "shareholders of the largest defense contractor in Europe."

So, what is Saudi Arabia doing with this costly arsenal? It is worried about Yemeni tribesmen crossing its border at will, as well as its own Shiite population, which could be stirred up by Iran. It is even more worried about its own majority-Sunni population. Since 2003, anti-government attacks have increased in the kingdom of Saud, whose rulers continue to be (correctly)denounced as corrupt American clients by Muslim fundamentalists and secularists alike. In 2006, Saudi car bombers struck the gates of the Abquaiq oil facility, which processes two-thirds of Saudi oil. Although they were unsuccessful (failing to make it past the second layer or security), this may not be true of future attackers.

Most importantly of all, the Saudis are concerned about an Iranian missile strike on Saudi oil facilities in the event of a U.S. attack on Iran. Turki Al-Faisal, the Saudi ambassador to the U.S., told the press in 2006 that a U.S. attack on Iran would make “the whole Gulf an inferno of exploding fuel tanks and shot-up facilities" and "shoot up the price of oil astronomically."

The U.S. has a massive naval build-up at Saudi Arabia's doorstep for exactly such an event. The 5th fleet is based in Bahrain, and is there to guard the Persian Gulf shipping lanes to maintain the flow of Saudi oil. Read more!