Abrantes 2014 Piketty, Acemoglu and Portugal's financial crisis v3f

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  • Piketty, Acemogluand how to break the pattern of economic crises in Portugal

    Mariana Abrantes de Sousa

    Economist - PPP Lusofonia

    PWN Professional Womens Network Annual Conference

    Lisbon 20 - NOV-2014


  • Contents

    Portugal A history of economic crises

    Portugal A crisis of history

    From deficit to deficitoAcemoglu and Robinson (2012) Why Nations Fail

    oPiketty (2013) - Capital in the XXI Century

    This time is different, same causes, different consequences

    What needs to be changed

    How to become part of the solution


  • Declaration of interests

    Personal quest

    Born in Portugal, studied and worked abroad 25 years, returned 25 years ago

    Economics not enough to understand why Portugal is poor

    Understand the problem, become part of the solution

    Portugal is worth changing for the better- Exit, Voice, Loyalty, Neglect (Hirschman 1970 ): Choose VOICE


  • Portugal A history of economic crises 1890

    June 1892 Bankruptcy with suspension of payments on external debt, default

    Triple crisis - banking , currency crises, and external debt

    Heavy dependency on foreign financing for large catch-up investments

    Foreign concessionaires

    Chronic trade deficit, imports manufactured goods, exports of goods wih low value added ,

    X /M = 50% export import coverage ratio

    Dependency on emigrants remittances

    External credit boom in a currency not controlled by the national authorities, Pound Sterling, devaluation

    External credit retraction due to financial crisis in Argentina and new republic in Brazil 1989

    British Ultimatiom 1890 January, Mapa Cor-de-Rosa

    Interest on public and foreign debt toook up to 40% of Government budget

    Austerity, starting with Rei D. Carlos Primeiro nos Sacrificios

    External debt restructuring in 1902


  • Source: Silveira, http://pt.slideshare.net/BarbaraSilveira9/a-crise-financeira-de-188090

    Trade Balance 1896 - 1904


  • Portugal A history of economic crises 1970-1980s

    1974-1984 Debt crisis without suspension of payments on external debt, avoiding default

    Colonial war absorbed around 40% of Government budget

    Chronic trade deficit, current account deficit reached 9,2% of GDP in 1977 and 13.5% of GDP In 1982

    First OPEC oil price shock in 1973

    Second oil-shock in 1979

    International economic recession reduced emigrants remittances and tourism receipts

    Revolution and political instability

    Abrupt decolonization and need to absorb increase of nearly 8-10% in population in less than one year

    IMF first stand-by arrangement in May 1978, with conditionality

    Huge increase in public debt, and external debt increased from about one third of GDP between 1979 to 90% of GDP in 1984

    IMF second arrangement in September 1983, rearranged in June 1984, with conditionality including sharp currency devaluation, increases in subsidized prices, etc

    Severe unemployment, wage arrears, austerity

    Strong increase in X / M coverage rate, from less than 50% in 1980-81 to over 80% in 1986-87


  • 2010-2015 Bankruptcy and debt crisis without suspension of payments on external debt, avoiding default

    Current account deficit over 12% of GDP in 2008, balanced in 2013, returning to deficit in 2014

    X/M = 62 % in 2010

    Energy trade deficit reduced from 6% of GDP in 2012 to from 3,8% in 2013

    Large portion of population heavily dependent on the State, pensioners

    Within Single Market and Single Currency, unable to: devalue, impose capital

    controls, increase import tariffs, or increase interest rates

    Severe contraction of commercial and export credit , consumer credit finances imports

    Austerity, budget tax increases, wage and pension cuts

    Unemployment topped reached 18%,

    Distress sales of assets, privatizations, compra-se ouro stores

    Huge gross external debt EUR 410 Bln Sept 2014, GDP 171 Bln

    Vulnerable to increasing real debt burden with internal deflation

    Portugal A history of economic crises 2010 +

    Quem compra o que no pode, vende o que no quer 7

  • Seven reasons or Portugals empoverishment and economic depression, mostly endogenous

    1. Competition from China's entry into WTO World Trade Organization2. Diversion of FDI foreign investment to Eastern European countries

    1. Poor of human resources, labor market rigidities 2. Costs of context that limit business activity3. Outflow of capital in the 1970s never recovered, low savings rate 4. Excessive growth of the State, public administration and State owned

    companies 5. Weak productivity growth, weak commercial

    Source: Reis 2013


  • Portugal A crisis of history

    Repeated external and debt crises

    Small, fragile peripheral economy

    Fewer and fewer policy instruments within Single Market and Single Currency

    Highly vulnerable to external shocks

    No room (but excessive tolerance) for internal policy errors

    Government budget deficits, excessive government spending

    Poor productivity, poor public services

    Uncontrolled credit and poor bank management

    Corruption and lack of transparency

    Path dependency Is history destiny ?


  • From deficit to deficit- key drivers


    Government budget deficit

    External tade and CAB current account

    Debt, public or external


    Deterioration in the terms of trade

    External shocks (exogenous)

    Governance deficit (endogenous)

    Planning deficit

    Democracy deficit

    Literacy deficit, only 35% in 1920

    Negotiating skills deficit


  • From deficit to deficit key drivers

    Governance Deficit

    External Deficit


    If excessive borrowing is at the root of our financial crises, - T why does Portugal accumulate public and external debt repeatedly, - contrary to our traditions of prudent financial management ?

    Quem no tem dinheiro no tem vicios ... Quem compra o que no pode vende o que no

    quer Ao bom pagador no doi o penhor Quem no deve no teme

    Because we count on someone else will pay the bill !


  • From deficit to deficit democratic governance Acemoglu and Robinson (2012) Why Nations Fail

    Poor countries are poor because those in power make choices that create poverty,

    often on purpose (pg 68)

    Diverging economic institutions are the fundamental cause of differences in economic development among countries

    Extractive political (and economic) institutions, top-down, hierarchical, non-democratic, State captured

    Inclusive institutions, bottom-up, democratic, difficult to capture, low tolerance for abuse

    Economic growth under extractive institutions is not sustainable

    Characteristics of concern in the case of Portugal

    Late investments in human capital, only recently

    Ineffective justice system

    Archaic labor system, among the worse in Europe

    Inefficient public services

    Ineffective taxation

    Poor leadership, elites

    Dangers in divergence: EU was created to avoid disparities and conflicts among member countries 12

  • From deficit to deficit trade Piketty (2013) - Capital in the XXI Century

    Income inequality within countries tends to increase because return on capital is consistently higher than growth

    Inequality mechanism: r > g except in short exceptional periods such as wars and recovery periods

    Income from capital (rents dividends, interest, profits) grows more than total national income, increases inequality between those who receive capital verus labor income

    Initial inequality of wealth increases progressively

    But rise in global inequality over last 200 years comes mostly from between-country inequality, a wider gap between rich and poor nations

    Income inequality among countries increases when countries diverge, with net creditors/investors and net debtors

    Net creditors countries national income is greater than national output

    Net debtor countries - national income is less than national output

    Net creditor countries receive a positive flow of income from the net borrowing countries (as high as 10% of GDP)

    Countries that have achieved sustained growth financed investments in physical and human capital domestically

    Conversely, countries owned by other countries have been less successful, ...specializing in areas with less development potential, suffering from political instatbility when pressed to pay external creditors and investors

    Asian countries ... have benefitted more from open market for goods and sevices than from free capital flows or borrowing

    Gains from free trade come mostly from diffusion of knowledge, not from trade specialization (error of Ricardo) 13

  • Piketty Q & A

    Q: Which is more likely ? Oligarchic divergence , rise of global billionaire wealth: billionaires own a rising

    share of global wealth, or

    International divergence, rise of foreign wealth: countries own other countries

    A: Both can happen.

    But international divergence is relatively easier to deal with through capital controls*.

    Oligarchic divergence is harder to deal with, because it requires detailed information on individual wealth levels and strong international coordination, as wealth moves to off-shores distorting the NFA - net foreign assets positions of many countries.

    (* Single Market Single Currency like the Eurozone do not allow capital controls)

    Zucman 2013, The missing wealth of nations: are Europe and the US net debtors or net creditors?


  • Devil in the divergence income

    Forces of convergence exist

    Diffusion of knowledge (education, scholarships)

    Investment in education

    Legitimate and efficient government

    Foreign lending and foreign direct investment (in theory)

    Forces of divergence are stronger

    r>g, return on capital exceeds growth

    Top earners have the power to set their own remuneration (pg 25)

    Accumulation and concentration of wealth higher when growth is weak, r>g widens

    Debt (negative wealth)

    Source: https://www.youtube.com/watch?v=ULfosfhWZ7c


  • From deficit to deficit Governance Governance systems function at various levels, in sequence, with checks and balances, redundancies, back-ups

    Portugals first bankruptcy of the XXI Century due to a tragedy of errors In Portugal

    Excessive and illegal government spending, hidden Government liabilities Eexcessive lending and borrowing, "Folia dos Fiados Poor bank regulation and supervision, failures of prudent financial intermediation Poor public administration Unproductive public and private investments, empty roads, empty houses Poor management of PPPs, swaps and other innovations Corruption, lack of transparency, tolerance of abuses

    Outside of Portugal Excessive (subprime) lending, incorrect policy and price signals Unwillingness to take losses on subprime lending within the Eurozone Growing divergence and extenal imbalances, lack of adjustment instruments

    A quem do seu foi mau despenseiro, no confies o teu dinheiro

    Quando a esmola (subsdio) grande, o pobre (contribuinte) desconfia


  • Good governance needed at every level Good governance

    Effective, efficient, and ethical management

    Overcome power distance, fear, indifference

    In hierarchical countries, top down,

    all it takes to capture the State is

    to capture the top, cupolas do poder

    Corruption often masquerades as incompetence

    Use diversity to avoid capture

    Need vaccination against bad governance

    Maitain memory of the crisis alive to avoid repetition

    Zero tolerance for abuses, imprudent actions

    Portugal to Norway: Hold the cod, send governance


  • This time is different- in the Eurozone

    Same problems

    External deficits

    External debt

    Excessive spending

    Different consequences

    No FX devaluation

    Wage and pension cuts

    Higher unemployment

    Much more debt

    Much more taxes

    Adjustment costs now supported almost entirely by the borrower, for the next several generations


  • Alerts: When solutions turn into problems


    Interest rate subsidies for first time home buyers (bonificaes ao crdito habitao)

    PPP public private partnerships

    Golden visas

    Interest rate swaps

    Regulatory failures

    BdP did all it could (?) within the strict letter of the law, which proved insufficient in the changing circumstances

    New circumstances require solutions unforeseen in the law

    EU and Eurozone are new experiements, unprepared to avoid and deal with unexpected severe divergence of fortunes


  • What needs to be changed


    Buy local - monitor your familys foreign trade balance, cut imports

    Increase savings, reduce debt Increase productive investment,

    education, marketable skills

    Reduce waste Denounce abuses, intolerance for


    Join together and speak up, VOICE Lead by example

    Our country

    Increase bottom-up democracy Organize sector associations to gain

    critical mass

    Export, together Gain bargaining capacity Negotiate better external debt

    repayment terms

    Tax consumer credit Increase quality and productivity Set high standards, high objectives


  • Actions: How to become part of the solution Watch for warning signs of economic

    mismanagement o Excessive credit and debt accumulationo Hidden expenditures o Abusive implementation of potential

    solutions o Lack of transparency o Collusion (uma mo lava a outra)o ...

    Set objectives high o Match productivity of strongest of the

    smaller countries

    Zero tolerance for corruption Demand good management

    Organize and join together Build consensus Share sacrifices, especially with


    Demand accountability Correct Portugals negative image

    abroard with real stories Speak up, overcome fear and


    Maintain memory of the crisis alive, as a vaccine against abuses in the future

    Povo que Aguenta Povo que Supera


  • We cannot continue doing business-as-usual, the same old way. Albert Einstein : "Insanity is doing the same thing over and over again and expecting different results "

    In summary:

    Struggling to overcome a legacy of underdevelopment, Portugal has suffered repeated financial crises, from 1892 to the 1970s and 1980s, to today.

    First, we must look for the truth and look to authors like Piketty on Capital and to Acemoglu on Why Nations Fail

    - To understand the origins of the current and past financial crises, and

    - To create solutions that may prevent similar problems in the future

    Then, we must have the courage and the political will to take action by implementing the necessary changes in economic governance at all levels

    Those who ignore the lessons of history are condemned to repeat it


  • PPP Lusofonia

    Obrigada!Mariana ABRANTES

    de Sousa



    Blog PPP Lusofonia http://ppplusofonia.blogspot.com

    All rights reserved


  • Presenter background

    Mariana ABRANTES de Sousa Independent Financial Consultant and PPP Specialist in advisory,

    training and evaluation of PPP projects and programs, and in credit and banking

    WPO Women Presidents Organization Portugal Chapter Chair

    Professor of Project Finance, Nova School of Business and Economics

    Member of the Board and credit committee of Infrastructure Crisis Facility (PIDG/KfW)

    Member of the...