Dev econ final

***If rent seeking has high social costs, what are 4-5 important policy instruments that can be used to limit rent seeking?

"1. Increase state autonomy: reducing its dependency for funds obtained by lobbies. The following can reduce the exposure to economic influence: strong presidential leadership, with clearly delianted constitutional power, professional bureacracy with continuous service and a transparent, merit based incentive structure, and clear contingent authority in times of crisis, making reforms easier to implement if they are seen as unavoidable. 2. Scale down the size of the predatory state: Assumes a predatory state that appropriates rents for itself, through corruption/cronyism, patronage, clientelism, lack of accountability. Strategy is to limit the scope of its authority. Neo-liberal reforms under the Washington Consensus: adjustment policies that decrease the opportunities for rent seeking by decreasing the size of government budgets (less pork barrel politics), and less state interventions and more market forces (trade liberalization, deregulation, privatizations) that leads to less sources of rents for lobbies and the state. 3. Limit lobbying activities by regulation and exposure: Cap on political contributions (campaign reforms; has not been effec tive). Impose term limits on elected officials to increase competition. Public disclosure: Right-to-Know Reforms, requirement to list sources of political contributions. Freedom of the press: expose lobbying to public scrutiny. 4. Use policy instruments that are less prone to lobbying, even if second best in terms of efficiency. The politician can choose a second best alternative if it means reuces exposure to lobbying. In particular choose tariffs over subsidies. Tariff protection is more distortive, but induces less lobbying as benefits are widely distributed in the industry, inducing free riding in lobbying. Direct subsidies are less distortive, but more prone to lobbying as benefits more narrowly targeted by firms. 5. Promote cooperative over redistributive solutions: determinants of cooperation at the national level include nationalism, exhortation by charismatic leaders, perceived collective threat, shared hardship (UK during WWII), learning to cooperate: Hirschman's "getting ahead collectively". Repetition makes reputation and commitment more important, helping to avert destructive competition and Prisoner's Dilemma ooutcomes. In order to do this you should alllow re-election of incumbents (Brazil 2 term) as opposed to one term (Mexico, Ecuador 1 term). You should also encourage party continuity (Mexico) vs. personalities (Brazil, Ecuador). 6. Increase the effectiveness of policy making: decrease the effectiveness of lobbying by reducing the incentives and possibilities to change policy.when there is asymmetrical flexibility in a policy negotiations process, it is the agent with the most flexibility that will lose (because he has less credibility that he will not change the policy afterwards). He cannot be the policy leader as he cannot credibly commit. He is suspected of subsequently rationally defaulting on promises. He needs to seek commitment devices. Ways to increase credibility: i) Commitment through set rules (fixed rules, contingent rules, rules with escape clauses): legal and administrative rules; international agreements (WTO membership, NAFTA, currency board in Argentine constitution). ii) Commitment through delegation to a policy maker with a mandate different from that of the government: Independent Central Bank (Greenspan, Bernanke) Specialized agencies (EPA) iii) Commitment through state variables (high cost of policy change due to sunken costs, create irreversibilities): change future incentives of government to make them compatible with the "commitment" policy. iv) Commitment through reputation in a repeated game with infinite or uncertain horizon: re-election conditional on policy commitment. Need government that is "office motivated" (wants to stay in office) and with high chances of re-election (individual or party continuity). Need an informed population. v) Reducing flexibility to gain political influence: reduce his percieved individual discretion by articulating rigid external principles. 7. Citizen empowerment and decentralization: The long route to social accountability is the electoral process. The ""short route"" is through exercise of direct pressures on service provides (citizen report cards or local representation in evaluating councils). Decentralization has the potential advantage that local information and local social capital can be used to make better policy (e.g., choice of local public goods), greater local accountability (short route through direct participation and long route through election of local politicians). The potential disadvantages of decentralization: elite capture, clientelism, limited administrative capacity. 8. Battle corruption: - Professional bureaucracy with adequa te rewards and checks, and long-term appointments that transcend political cycles. - Decrease individual discretion and increase competition: decrease sources of private rents for individual bureaucrats. - Increase transparency (monitoring, reward whistle blowers, increase the probability of being caught) and enforcement (punishments by law, by citizen committees) - Use independent certification and audits: ISO 2000 certification, Brazil's random audits of municipalities and information posted on internet >> Influences the quality of public goods and the chances of being re-elected for incumbents (Finan and Ferraz). - Increase the wage of civil servants If corrupt by necessity (raising wages can decrease corruption if corrupt by greed there is no effect)."

8. What can the Central Bank do when there is a speculative attack on the domestic currency? Why do we talk about a devaluation vs. recession dilemma when using the interest rate to counteract a speculative attack?

"A speculative attack increases domestic demand for dollars in an attempt to appreciate the RER and force a currency devaluation. The Central Bank (CB) can take the following measures in response: 1) Sell dollar reserves (limited by size of dollar reserves held by CB) 2) Increase domestic interst rates (attract more FDI to increase domestic supply of dollars) 3) Borrow from abroad (e.g. from the IMF - the main reason the IMF exists, to fend of speculative attacks). Comes with strict conditionalities for social austerity. 4) Agreement with U.S. Federal Reserve where the Fed buys the foreign currency under attack in exchange for dollars. Dependent on a good relationship with the U.S. 5) [The only demand-side option, all above are supply side] Introduce dollarization or currency board (peg domestic currency to U.S. dollar). Makes devaluation impossible. Effective in short term, but if not removed then can lead to long term recession as domestic economy contracts under decreased demand for dollars. When responding to speculative attack via increasing domestic interest rates to attract FDI, this can lead to recession because domestic investment decreases under high interest rates (people are better off saving than investing) and domestic firms face higher interest rates which limits their access to capital for investments. This overall slowdown in domestic investment can lead to bankruptcy of domestic firms and recession. But, if policymakers allow a devaluation to occur, this is bad for attracting future FDI because foreign investors are hurt by a devaluation (for example, they invested selling loans in pesos at 5 pesos per dollar; but after devaluation, to get their dollars back they must sell their pesos at 10 pesos per dollar)."

***Management of CPRs: Why can there be ground for optimism even when there is no formal cooperation? Explain and solve the Chicken Game and the Assurance Game. Explain the Folk Theorem and the Tit-for-Tat strategy.

"A. Grounds for optimism because good CPR management possible through cooperative-like behavior w/o formal cooperation (via incentives in following 4 scenarios). Repeated games can create cooperation because incentives are to cooperate (if repeated over sufficiently long period & end date uncertain). B. Chicken Game: No formal cooperation, but a good result is so important & the cost of failure so high that one player will end up cooperating (Alain's example: some people fixing a fence so everyone's livestock doesn't escape). The person who cooperates gains less than if someone else had fixed the fence, but more than if they lost their cows. Solution is (D,C) or (C,D) > someone will cooperate. Reader #2, page 70. C. Assurance Game: Incentives are such that it is always better to choose the same option as the other player (players can communicate). Non-cooperationInstead of default vs. cooperate it is cooperate on option 1 or option 2. Not clear which option it will be, so coordination matters and there is a role for a leader. Solution is (C1, C1) or (C2, C2) Reader #2, page 71. D. Folk Theorem: Each player will cooperate if present value of future gains from cooperation > immediate gain from defaulting. E. Tit-for-Tat Strategy: Repeated game, cost of other party defaulting so high for both sides that both sides will cooperate and give benefit of doubt to other side before interpreting mis-step as a default. (C-C-C-D??-C-C-C)"

*** Management of CPRs: Why is there reason for pessimism? Explain and solve the Prisoner's Dilemma problem. Why does it lead to (D, D) as the dominant strategy?

"A. There is reason for pessimism due to the ""tragedy of the commons"" (Hardin) - since property righs aren't assigned, everyone is incentivized to extract as quickly as possible (until AR = AC and Profit = 0) and cooperation is impossible. B. The Prisoner's Dilemma is the theoretical foundation for the tragedy of the commons/noncooperation in CPRs. It is a one-time game, no communication possible. Each player can choose to cooperate (C) or default (D). No matter what the other player does, your payoff is bigger if you default which leads to a (D,D) decision, even though overall payoff is greatest if both cooperate (beause of breakdown of incentives, will never lead to C,C w/o communicaiton). Reader #2, page 69."

***Compare the old and new HDI measures. How do they differ in each measure's implications for strength in one category being able to substitute for weakness in another?

"The original HDI included indicators of health, education, and PPP-adjusted per capita income into a single index. Nevertheless, in 2010 the UNDP redefined the HDI as a multiplicative instead of an additive composite of health, education, and income, implying imperfect substitution among these dimensions of basic needs instead of perfect substitutions with the additive index."

2. Identify the equilibrium in extraction for an open access resource and a common property resource without cooperation. Why is there an individual incentive toward over-extraction compared to private ownership? How can this create a "tragedy of the commons"?

"CPR can range from open access equilibrium (AR=AC, quantity extracted=q0 -- results in zero profits) to private profit maxmization at MR=MC, and q*. A CPR with no cooperation will end up at q0. Achieving q* recquires coopartion, agreement to exercize restraint. Otherwise, everyone has incentive to extracy as quickly as possible as long as there are positive profits to be made. This creates a tragedy of the commons because, without property rights everyone is incentivized to extract as quickly as possible (until AR = AC and Profit = 0); each member imposes a negative externality on others by extracting, which leads to depletion of the resource (Reader #2 page 67)"

*** Why does China keep its RER depreciated, and how does it do it? Why is it an issue for the United States? What would happen to domestic consumption in China if the RER were allowed to appreciate? Why is this called a "neo-mercantilist" growth strategy?

"China keeps its RER depreciated in order to maintain its trade surplus and continue to develop domestic T sectors. It does this by buying U.S. Treasury Bonds. This leads to appreciation of the U.S. dollar (increased demand for dollars from China increases the price of a dollar), which hurts the competitiveness of U.S. T sectors as described previously. If China allowed its RER to appreciate, domestic consumption would shift from NT good to T goods (i.e. increasing imports in China). This is called ""Neo-Mercantilist"" (I think!!!) because it is a new way to develop domestic T sectors, as opposed to pre-existing strategies like ISIE (tarrifs protect infant sectors), EOI (subsidies to ""pick the winners""), or OEI (attract FDI via favorable investment climate)."

10. What is corruption? How can we measure how important it is on investment and growth? What are 3-4 instruments to reduce corruption?

"Corruption is defined by Transparency International as ""the abuse of public office for private gain"". It occurs when political influence leads to malfesance, or abuse of public authority/trust. The risk of corruption occurs anywhre that the public authority can be used to create a private gain. There are three fundamental determinants of corruption: low salaries, high potential bribes, and low vigilance in deterring bribe-taking. Takes the form of bribes, theft, nepotism, red tape/bureaucratic inefficiency. Corruption reduces the effectiveness of public policy, introduces distortions on markets (e.g., hidden behavior) and imposes a tax on producers and consumers. The problem with measuring corruption's impact on growth is endogeneity. Tried approaches have used instrumental variables to measure the effect of corruption . Mauro (1995) uses ethno-linguistic fractionalization to analize 70 countries, however Easterly and Levine later prove that ethno-linguistic fractionalization is associated with other variables related to lower growth such as insufficient schooling, infrastructre, financial systems, distorted, exchange markets and political instability. Also it is very difficult to observe and measure as purposefully hidden due to illegality. Instruments to reduce corruption: - Professional bureaucracy with adequate rewards and checks, and long-term appointments that transcend political cycles. - Decrease individual discretion and increase competition: decrease sources of private rents for individual bureaucrats. - Increase transparency (monitoring, reward whistle blowers, increase the probability of being caught) and enforcement (punishments by law, by citizen committees) - Use independent certification and audits: ISO 2000 certification, Brazil's random audits of municipalities and information posted on internet influences the quality of public goods and the chances of being re-elected for incumbents (Finan and Ferraz). - Increase the wage of civil servants"

*** What is the Dutch Disease, how does it come about, what are its implications on the real side of the economy, and what policy instruments can be used to prevent it from happening?

"Dutch Disease: Rapid increase of foreign currency inflows (e.g. from an oil or mineral boom) that seriously distort the domestic economy. The increase in foreign currency inflows increases the domestic supply of dollars and lowers (appreciates) the RER, leading to decapitalization of T sectors as described in #74 above. Once the foreign currency inflows subside, the country finds itself with decapitalized T sectors (industry and agriculture) resulting in unemployment and lost GDP. Policies to counteract Dutch Disease [the first three all involve limiting the increase in the domestic supply of dollars]: 1) Deposit dollar earnings in a foreign account or buy U.S. Treasuries (China doing this); this involves postponing short-term consumption which can be politically difficult. 2) Invest abroad; e.g. in foreign infrastructural projects. 3) If capital inflow is due to FDI, tax foreign capital movements to reduce inflows, or require that a percentage of FDI be deposited at the Central Bank. 4) Increase productivity of T sectors - especially agriculture - through infrastructure investments, technology investments, and R&D to allow agriculture to remain competitive in spite of RER appreciation. This can be funded via public earnings from boom sector (e.g. tax on foreign mine earnings in Chile & Peru). 5) Avoid large increases in foreign aid or foreign debt (politically difficult)."

Elasticity of poverty reduction with respect to growth: How is it calculated, and what might give one country a higher elasticity of poverty reduction than another? Apply this to China, Brazil, and India.

"Elasticity of poverty reduction w.r.t. growth: E = -(ΔP0/P0)/(Δy/y)=-(change in poverty headcount ratio)/(change in mean per capita income or consumption). Policy instruments for raising E: increase equality; tradeoffs between higher levels of growth and inequality reduction. Brazil whose GDPpc annual growth was only 0.7%, Po reduction was -3.2 (E=4.57). India's GDPpc annual growth was only 3.8%, but their Po reduction was -1.5 (E=.39). China's GDPpc annual growth was only 8.3% and their Po reduction was -6.6. (E=.79)

***Give five alternative definitions of a poverty line: absolute, relative, international, weakly-relative, and subjective.

"Examples are calorie-based, could just as easily be income based Absolute: Absolute or extreme poverty or indigence i.e. z_abs = cost of recommended minimum food caloric intake (2,000 calories per person per day). Relative: Poverty relative to mean income: constant (k) percentage of mean expenditure or income (y_bar). z_rel = k * y_bar International: z_int = $1(PPP-adjusted)/day per capita (also 2PPP$/day). Weakly relative: Subjective: locally defined, based on lifestyle (used in most individual country analyses), i.e. minimum income needed ""make ends meet""" Using a graph, explain how a nutrition-based poverty line is calculated and how it accounts for non-food expenditures. "Graph is on page 8 in Chapter 5 (and in column G notes/additional questions) calorie expenditure function relates cals purchased to level of food expenditure decreasing returns b/c as food expenditure increases people buy more expensive food (fewer calories/$) Two poverty lines on the graph: 1) z_abs = cost of recommended minimum food caloric intake (2,000 calories per person per day) 2) z_normal = expenditure necessary to consume 2000cal/day/adult & non-food expnitures normally associated with that level of food expenditure Second line is set as some %age of income, i.e. 50% for poor countries, 15% of the US Compare Engel food expenditure curve (expenditure as share of income) with 45% budget constraint line to see difference in food and non-food expenditure increase in income has diminishing returns to food consumption as share of expenditure"

11. In the Ferraz-Finan analysis of corruption in Brazil, what is the policy instrument used. How is its role identified econometrically (is this an RCT or a natural experiment)? How does local information make it eventually more effective to secure the accountability of local politicians?

"From Handout Ferraz and Finan:Role of publicly released audits (and information) on electoral outcomes in Brazil. Natural experiment. Policy instrument used: Lula's government does monthly random draw of 50 - 60 municipalities to be audited for their expenditures. The authors use audit reports in Brazil to construct new measures of political corruption in local governments and test whether electoral accountability affects the corruption practices of incumbent politicians. Results: Find that there are more corrupt violations after than before municipal elections. Find that there are less corrupt violations when mayors are in their first than their second (and last) term. Find that good behavior of first term (incumbent) mayors is more rewarded by votes the more information on audits is publicly available (local radio and press). Shows that electoral accountability matters, and that information makes it more effective. From paper: The asymmetry of information between voters and politicians lies at the heart of political agency models. Hence, factors that influence access to information may affect how re-election incentives affect corruption. As the likelihood that a corrupt politician is detected in the first period increases (i.e. voters have more information), a corrupt politician will be less likely to pool with non-corrupt politicians, and hence discipline will be reduced. But as corrupt politicians become less disciplined, they are less likely to survive into a second-period and the quality of the average politician that survives into a second-mandate improves. Hence, the overall effect of an increase of information that allows voters to identify politicians' type is ambiguous- corruption will decrease in the second period and potentially increase in the first because those corrupt mayors will now extract as much rent as they can in the first period."

***Measures of income and growth: Define GDP and PPP-adjusted GDP. In poor countries, is PPP-GDPpc larger or smaller than GDPpc measured at the nominal exchange rate? Why? How to adjust GDPpc for inflation? For a given growth rate of income, how to measure the number of years it will take for income to double (the "70-year rule")?

"GDP = Sum of value added by all firms. PPP-adjusted GDPpc is defined as purchasing power parity adjusted GDP per capita. It is an attempt to adjust for the relative purchasing power of currencies across countries and thus make more effective cross-country comparisons of GDPpc. PPP-adjusted GDPpc is calculated by taking the Purchasing Power Parity exchange rate (PPPe), which consists of defining the number local currency units that it would take to buy the same basket of goods as $1 USD in the US. The formula would be: PPPadjustedGDP$= (1/PPPe)GDPpesos In low-income countries, the PPP EXCHANGE RATE is below the nominal exchange rate (PPPe < e) BUT PPPGDPpc is higher than GDPpc To measure the number of years it would take for income to double you would use: T=ln2/g"

***Measures of basic needs and social welfare: Define the HDI. How useful is it in characterizing the state of basic needs?

"HDI stands for Human Development Index and it combines indicators of health, education, and PPP-adjusted per capita income into a single index as an average with equal one-third weights. The HDI may be arbitrary in the sense that many wonder why PPP-adjusted per capita income is included in as a basic needs indicator, or if each variable should only be weighed as only 1/3. Mostly useful to compare ranks (although that is skewed too since ranks would be diff with diff weighting) and to compare against GDPpc

*** What are the reasons why ISI is a strategy that can fail? What can be done to increase its chances of success?

"ISI will fail if the PPF does not shift upwards as expected or if the country does not return to free trade because of vested industrial interests. Also can fail if the country doesn't invest in an industry in which they have a comparitive advantage. ISI particularly hurts agriculture industry, as the balance of trade drives the exchange rate down, penalizing agricultural exports. Govt can increase the chances of success by expanding domestic market (e.g. redistributive policies like land reforms), investing in public goods that benefit infant industries, and maintaining a credible commitment to removing tariffs in the future (i.e. following a pre-announced schedule)."

***Define (give formula), name, and give an interpretation of the Pα poverty index and its specialization into P0, P1, and P2. Using a graph of poverty profiles, show an example of a change in P1 and P2 for a constant P0; show an example of a change in P2 for constant P0 and P1.

"Pα = (1/n) ∑((z-yi)/z)^α α = 0: P0 = q / n, this is the headcount ratiom or incidence of poverty, or the poverty rate. It is simply the share of people who are poor. α = 1: P1 = (∑ z-yi)/(nz), this is the poverty gap index or the depth of poverty. (∑ z-yi) = total expenditure deficit below z, nz is the cost of eliminating poverty (no targeting costs), P1=ratio of targeted to untargeted budget needed to eliminate poverty. α = 1: P2 = (1/n) ∑((z-yi)/z)^2, is the severity of poverty index. It emphasizes greater differences and serves to illustrate the magnitude of the poverty gap. It is also sensitive to relative differences and therefore can reveal inequality among the poor. P2 can increase with no change to P0 or P1 when there is a change in the distribution of expenditures among the poor. P2 is greater when there is a higher proportion of poor that are further below the poverty line."

1. Define the concepts of rival and excludable goods, and use them to classify goods as private, CPR, open access, club, and public. Explain why a CPR is an "incomplete property right" compared to private property.

"Rival Goods: One persons' use of good reduces amount availble for others Excludable Goods: Non-members can't access CPR: Rival and Collectively Excludable Private Goods - Rival and Individually Excludable Public Goods - Nonrival, nonexcludable Open Access Goods - Rival but Non-Excludable Club Goods - Nonrival, but Collectively Excludable CPR is an ""incomplete property right;"" private (full) property rights give the owners five rights: to access, extract, manage, exclude, and transfer(sell). CPR does not include the right to sell."

***What is the Seperability Theorem and who might different types of market failures (for example a labor market failure in farming) affect the relationship between (asset) inequality and (yield) growth?

"Seperability Theorem: it doesn't matter who owns the assets; with no market failures the economy will reach an efficient outcome (maximize the size of the pie, i.e. maximize growth). But, with market failures it does matter who owns the assets, and different ownship distributions can lead to different efficiency outcomes. AS and MH limit access to capital for those who don't have collatoral, and can therefore contribute to inefficient outcomes (someone may have the best investment opportunity but is unable to access capital to make that investment). I DON'T REMEMBER THE DETAILS ON THIS PART - IF SOMEONE ELSE HAS THEM, PLEASE EDIT: The farming example has something to do with a farmer working as a laborer on someone else's farm. That farmer actually would be motivated to achieve higher crop yields if she had her own farm, but she can't afford land. So she works on some rich landowner's farm and yields are lower --> inefficient."

9. When there is a time consistency problem in policy-making, why is it better to reduce one's power over policy to gain strength in policy-making? How does this relate to the now frequent independence of the Central Bank?

"The time consistency problem arises when polciy can be changed arbitrarily by governments, and when instruments to guarantee that such change will not occur are missing, undermining its credibility in policy making. Delegation to a policy maker with a different mandate will protect the interest of the people and provide higher credibility to the government by voluntarily restricting its freedom to alter policy. The independence of the Central Bank prevents elected governments from expanding the monetary base and engagin in populist expenditures before an election. The Central Bank is charged with guaranteeing different objectives like for example protecting the value of the currency by controlling inflation."

***Graph a poverty profile and a poverty line: what do they show? Make sure that the axes are clearly defined.

"This was on the mid-term. Q3. Y is income X is household ranked by income level OR cumulative percent of population This illustrates the poverty gap z - yi q individuals have yi < z"

6. Why does ISI contribute to an appreciation of the RER and why is this bad for agriculture?

"Through tariffs or quotas, ISI seeks to reduce demand for imports (so that domestic industry can be developed instead). Because import demand falls, so does demand for dollars (imports are paid for with dollars). This reduces the domestic price of dollars which implies a decreased nominal exchange rate and an appreciation of the RER (all else equal). For non-protected T sectors (like agriculture!), this lowers their domestic price (P_d) since it depends on exchange rate (e) and global price (P_$) as follows: P_d = e*P_$. The lower P_d cuts into profits of non-protected T sectors, hurting them."

Define the adult equivalence scale. Explain why it is important to correct for demographic composition and economies of scale at the household level in making well-being comparisons

"When calculating per capita consumption in a household, adult equivalence scale accounts for differences in consumption within household across demographic categories - different household members consume differently (children vs. adults, men v. women). To measure per capita consumption, must acount for economies of scale in consumption: larger households consume more. Per capita consumption = total household consumption / number of household members (n*). 1 child ≠ 1 adult, so weight based on consumption. 1. Total consumption = consumption of private goods (i.e. food, each person needs own food) + consumption of quasi-public goods (housing) 2. Number of household members in adult equivalent (i.e. 1 child equivalent to 0.5 adults) n* = ∑ w*n i. w is the weighted demographic category (w = 1 for male adult assuming regression of consumption on demographic structure shows adult males are highest consumers) ii. n is the number of members of that category. Divide total household consumption by number of age-adjusted family size n* to get per capita consumption. page 5, chapter 5 1.3.1 and 1.3.2 in Handout # 2 http://josiah.berkeley.edu/2008Fall/ARE253/Handouts/HandoutPP2-08Poverty.pdf"

***Development is a multidimensional concept. What are seven dimensions that would enter in a definition of development? How do they correspond to the Millennium Development Goals?

"While there is no single definition, development can be characterized by the following seven categories of indicators: income, poverty, inequality, vulnerability, basic needs, sustainability, & quality of life. The UN has decided to take on many of these challenges through the Millennium Development goals. The UN Millennium Development Goals include: Goal 1: Eradicate extreme poverty and hunger: Halve between 1990 and 2015 the proportion of people whose income is less than 1$/day. Goal 2: Achieve universal primary education. Goal 3: Promote gender equality and empowerment: Eliminate gender disparity in primary and secondary education. Goal 4: Reduce child mortality: Reduce by 2/3 the under-five mortality rate in 1990-2015. Goal 5: Improve maternal health: Reduce by 3/4 the maternal mortality ratio in 1990-2015. Goal 6: Combat HIV/AIDS, malaria, and other diseases: Have halted by 2015 and begun to reverse the spread of HIV/AIDS. Goal 7: Ensure environmental sustainability: Integrate the principles of sustainable development into policies and programs; halve the proportion of people without sustainable access to safe drinking water; achieve by 2020 a significant improvement in the lives of at least 100 million slum dwellers. Goal 8: Develop a global partnership for development: Open trading and financial system; increase foreign aid; reduce debt."

13. How is the role of fiscal expenditures (such as public infrastructure projects) on growth identified? Give some examples.

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What are the dimensions of development on which there is broad agreement, and the dimensions on which there is much less agreement? Explain why.

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What does Sen mean by "capabilities", "entitlements", and "functionings"?

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How can we calculate the aggregate P0 from the P0 for subgroups of the population? How can we calculate the contribution that each group makes to total poverty? Can the number of poor increase if P0 is falling?

"we can write P^α = ∑(mj*(Pj^α)) where mj=nj/n = the population share of sub-group j. P indicators are additively decomposable, so we can divide by P^α and multiply by 100 to calculate the percentage of group j to the total poverty index as (100*mjPj^α)/P^a. Yes, P0 can fall while P1 rises if the number of people in poverty decreases but the people who are in poverty are deeper in poverty (z-yi increases)"

***What are the basic generic problems that micro-finance lending must address? Why are commercial bank loans unable to solve these problems for the poor?

(1) Selection problem: AS of the borrower. The lender cannot screen good from bad borrowers ex-ante due to incomplete and asymmetrical information. He cannot know if the borrower will be able and willing to pay. (2) Monitoring problem: Ex-ante MH in project implementation. The lender cannot monitor behavior of borrower. Hence, he cannot know if borrower will be able to repay. (3) Insurance problem: MH in insurance claims. Borrower needs insurance, otherwise even loans for good projects will not be repaid in years. But lender cannot provide insurance (limited liability in loan) as he cannot recognize genuine failures from false claims. (4) Enforcement problem: MH in loan repayment. The lender cannot force the borrower to repay. Hence, he doesn't know if the borrower will be willing to repay even if he can. // Commercial banks are unable to solve these problem for the poor because the solution for a formal lender would be to require collateral from the borrower. Hence, access to credit is restricted to those with collateral. This creates a market failure as credit is provided on a "wealth-constrained market". This has two costs: (i) Efficiency cost since the allocation of credit is unrelated to the marginal productivity of capital. Financial services for the poor thus need to provide not only access to loans, but also to insurance. (ii) Equity cost since the poor with no collateralizable assets are excluded. Allocation of credit to the wealthy contributes to reinforcing and reproducing inequality.

***How did research on the effectiveness of foreign aid lead to the result that "good policy" is the key to success?

Burnside and Dollar showed that aid works when combined with good policy by using a macroeconomic cross-country comparison with interaction term for good policy and aid.Also tied to research that conditionality doesn't work. Results disputed by Easterly et al when widening analysis to more countries/years.

***Appreciation (re-valuation) and depreciation (devaluation) of the RER with a floating (fixed) exchange rate

Appreciation (re-valuation) of the domestic currency relative to the foreign currency: when the government lowers the nominal/official exchange rate (by increasing supply of dollars/foreign currency more than demand). Depreciation (devaluation): the reverse of appreciation, govt/Central Bank raises nominal exchange rate (lowering nominal value of local currency). Either of these mechanisms can be undermined by speculators and black market currency exchange

4. Why are ROSCAS so popular, even if you could save the same amount all by yourself? What can we learn from them in designing savings programs for the poor?

Because it provides the following benefits: it allows earlier lumpy expenditures (if you are one of the first to obtain the money); no AS, MH, and enforcement problems: members self-select and know each other well; no management costs; self-imposed short-run savings: disciplinary device in making contributions at meetings (helps defeat procrastination for "sophisticated procrastinators"); helps people help themselves in saving; and has a social function: information sharing is done within a club, allows women to be away from home. ROSCAS have helped formal microfinance institutions in seeking ways to help people discipline themselves in saving.

1. Define three types of currencies nations may have. Define three types of exchange rate regimes.

3 types of currencies: 1) countries with their own specific national currencies managed autonomously by their own central banks; 2) countries that share a currecy with several other countries in the form of monetary unions (e.g. EU); 3) countries that use a foreign currency either as their single currency or combined with a domestic currency (with a fixed exchange rate between the foreign and domestic currency). 3 types of exchange rate regimes: 1) flexible (floating)- market driven appreciation/depreciation of the nominal exchange rate, with some management by the Central Bank through managing foreign currency reserves; 2) fixed- exchange rate is fixed by Central Bank, to account for excess demand/supply of dollars, Central Bank will ration access or sell off foreign currency; 3) dollarization- fixing currency to the dollar in a 1-to-1 ratio, basically means the country no longer has an exchange rate policy that it can use to adjust the price of tradable goods. For each of these regimes, the government can only achieve 2 out of the following 3 policy objectives: exchange rate stability, freedom of capital movement, and monetary policy autonomy.

***Nominal exchange rate (e)

A financial index of relative currency prices (i.e. "the price of the buck").

What is a poverty trap and how may it arise?

A poverty trap arises if a household cannot escape poverty due to the loss of assets. This loss might be due to shocks to the households' income that made the household sell off their productive assets. The loss of productive assets creates a situation where a transient poor might become a chronic or permanent poor, and the poverty might not be reversible due to the lack of capital assets. There could be a threshold of reversibility, i.e. an asset poverty line, below whih a household become captive to poverty, entering a 'vicious cycle of poverty.' See Reader Ch 5, Pg 24 for diagram.

*** How does an appreciation of the real exchange rate influence the real side of the economy: production of T and NT goods, consumption of T and NT goods, use of T and NT inputs, exports, imports, and the balance of trade?

APPRECIATION: T CONSUMPTION GOES UP, T PRODUCTION GOES DOWN--> DECREASES YOUR BALANCE OF TRADE. DEPRECIATION: NT CONSUMPTION GOES UP, NT PRODUCTION GOES DOWN--> INCREASES BALANCE OF TRADE. "See Chapter 10, Table 1 (page 12). Note, ""T"" is Tradable goods, and ""NT"" is Non-tradable goods. Because the real exchange rate (RER) can be thought of as ""Price of T"" / ""Price of NT"", an appreciation in the RER (falling value of RER) will make NT goods relatively higher priced than T goods. This will: - Shift production from Tradable (T) to Non-tradable (NT) goods [this is why devaluation to depreciate the RER is important for countries with strong exports, otherwise your T sectors like industry and agriculture can become highly decapitalized] - Shift consumption from NT to T goods [NT goods relatively more expensive - note this is also why production of NT increases -> higher price so chase profits] - Shift input use from NT to T [benefits foreign suppliers of inputs, hurts domestic labor and domestics natural resource inputs] - Increase imports (for foreign T inputs and consumption of T goods) and decrease exports (as production shifts to NT goods) - Decrease the balance of trade (Exports minus Imports) Note: poor will be among losers under appreciating RER if they produce T goods (e.g. agriculture) and consume NT goods (like perishable foods); true e.g. of poor in East and Central African countries."

*** According to the median voter theory of public policy, why is there convergence in political platforms? According to the median voter theorem, why would rising inequality be detrimental to growth?

ASSUMING NORMAL DIST OF VOTERS (L TO R), CANDIDATES CONVERGE TO THE MIDDLE. TAILS DON'T MATTER EXCEPT IN PRIMARIES. In the median voter theorem, everyone is trying to capture that chunk of voters in the middle of the distribution. So, everyone will shift their political products to that middle, and so the one who went from left to center and the one who went from right to center will converge in the middle. Think of this, as when in a national election in the U.S., all the candidates all of a sudden happen to be moderate centrists who work along partisan lines. That's because they are trying to capture the median voter (the one which decides who wins the election). This theory also states that rising inequality will be detrimental to growth, because there will be a wider gap between the interests of both sides of the spectrum, that will not be reflected in the interests of the median voter. Think it like this: if a society is absolutely divided between the rich and the poor, then when the rich guy wins, he will ONLY govern for the rich, and when the poor guy wins he will ONLY govern for the poor. This means that there will be less convergence in policies, and the median voter will become diffuse.

12. How do Acemoglu and Robinson explain why nations fail? What is their main instrument to avoid failure? How does this apply to China?

Acemoglu and Robinson suggest that the main determinant of why nations fail is the strength of its econmic and political institutions. The primary instrument to avoid failure is democracy. The authors suggest that democracy leads to the strengthening of institutions in place of corrupt authorities or "kleptocracies" that extract wealth from the public for personal gain. China is an anomaly to this trend because the country has had incredible economic development in spite of having an authoritarian regime

3. What are the advantages and disadvantages that moneylenders have in providing credit to the poor? Why are their interest rates so high? What can we learn from them in designing microfinance programs?

Advantages: they have access to local information about borrowers, and thus can avoid AS, MH, and give insurance for idiosyncratic shocks. They can enforce payments by putting pressure on borrowers to repay: e.g., take forms of collateral that banks wouldn't (animals, durable goods, house, use of land, etc), affect reputation in the village (local social capital) play repeated game (access to future loans). Disadvantages: High cost of credit; the so-called "dilemma of the agrarian community", where local information is quite perfect but it's insufficient for transactions like insuring covariate risks; high correlation between outcomes of borrower's projects (hence lender cannot diversify risks) so he cannot insure covariate shocks; they may have monopoly power; and the very high costs of loans limit their use to insurance, short run needs, high return operations (buy-sell animals, merchants), and small amounts. Their interest rates are high for two reasons: (i) they need to keep a high liquidity position to give immediately emergency loans, and (ii) because of the nature of the small market with short-term and irregular needs, as well as of cyclical demands, resources held by moneylenders often remain idle. What we have learned from them: using credit agents from the community, who benefit from the same informational advantage as a local moneylender, yet trying to provide similar services at a lower cost.

Limited liability (insurance) in lending

Allow partial or no repayment on loan if a genuine negative shock has occurred (loan insurance). Poor borrowers need some form of insurance against unexpected shocks (i.e., limited liability in repaying the loan or rescheduling of the loan), otherwise even loans for good projects will not be repaid in bad years. But the lender cannot easily provide insurance as he cannot distinguish genuine failures from false claims due to imperfect information.

***There is still insufficient empirical evidence about the presumed benefits of microfinance services. Give some examples of rigorous impact evaluations of microfinance services focusing in each case on the methodology used for identification.

BANERJEE IN HYDERABAD. "1. Evaluation of Grameen Bank, BRAC, BRDB: Impact of group lending targeting women in Bangladesh on labor supply, schooling, household expenditures and assets o Cross-sectional survey - Villages with and without MFI. Village-level fixed effects were used to control for bias. o Within village, instrument household loan size by discontinuity rule (must own less than 0.5ha of land) to qualify. Therefore used a regression discontinuity with a fuzzy threshold. o Result: Find large effects on household consumption, especially when women are the borrowers. Increases in girls/boys schooling and in the women's labor supply when credit provided to women, but NOT to men. 2. Evaluation of CARE MFI program in Thailand: o Rollout design - Compared beneficiaries in treated villages vs. households in villages pre-selected for future program expansion and asked if they would demand credit. Asked those that planned to ask for credit to self select into groups to compare with treated villages. o Result - NO impact. 3. Evaluation of Thailand's "Million Baht Village Fund" o Use pre and post-program panel data - each of 70,000 village banks received $24,000 irrespective of size of village - therefore, per capita loan availability varied dramatically and was exogenously different across households in different villages (natural experiment similar to RCT) o Use the village allocation rule to instrument (IV) credit received per capita o Result -Increase in short term credit in village with no decline in interest rate, increase in borrowing and consumption showing households were credit constrained. Increase in business income for existing businesses. Long-term positive effect on local wages. However, decline in savings and no impact on new business startups. • A few other examples given in Handout #7 or 2nd course reader page. 17."

*** Explain how CCT programs such as Oportunidades and Bolsa Familia attempt to solve both short and long run poverty problems? Can we say that they are "smart subsidies" (define and apply)?

CCT programs such as Oportunidades and Bolsa Familia attempt to solve the short run poverty problem by targeting cash transfer to the poor and the long run poverty problem by increasing school enrollment of poor children to reduce the inheritance of poverty. These two programs are "smart subsidies" as they apply the twin track approach and assist beneficiaries get out of poverty as well as increase their future income potential so that beneficiaries do not remain dependent on the subsidies.

***Explain the concept of conditionality. Why does fungibility weaken the case for conditionality?

CONDITIONALITIES DON'T WORK B/C OF LACK OF COMMITMENT DEVICES AND FUNGIBILITY OF FUNDING. Similar to in-kind aid, conditional aid can free up funds for other projects. For example, if Country A gives Country B aid that must be spent on schools, Country B can take funds it may otherwise have spent on schools and use them elsewhere. Alain: Conditionalities fail due to fungibility and lack of commitment devices.

7. How can the "microfinance revolution" help reduce poverty and how effective can we expect this to be?

Capital markets that require formal collateral for loans fail the poor who are wealth constrained by the collateral requirement. Capital market exclusion is then part of a vicious cycle of poverty begetting poverty. The "microfinance revolution" has helped bring about institutional innovations to overcome market failure for financial services for the poor. At the heart of this change is replacing the use of assets as collateral (that the poor lack) with social collateral (that the poor can provide). MFIs began by providing small loans, but now have expanded to provide a range of financial services including credit, savings, insurance and the transfer of funds - services traditionally not available for the poor. Access to these services can help reduce poverty as exposure to shocks is extremely costly and is a major source of poverty. There are large potential welfare gains in providing financial services to the poor. However, few solid impact evaluations exist to definitively say if MFIs help reduce poverty, in fact many of these show that the results are more modest than MFIs claim. Preliminary conclusions: 1. To use loans, the poor need good projects, a good investment climate (policy, institutions, public goods, rule of law, etc.) and help from NGOs. 2. Loans tend to help the most entrepreneurial of the poor and not necessarily the "poorest of the poor", hence still need social assistance targeting. 3. There is still a high rate of failure of new businesses, employment opportunities may be a more important pathway out of poverty than entrepreneurial opportunities. 4. Not the silver bullet, can be a partial solution, but need to continue to develop innovations that avoid mission drift.

***What is a Growth Incidence Curve (carefully label the axes) and explain how is can be useful to visualize if growth has increased or reduced inequality?

Ch. 6 pg. 13. (the top graph is increases inequality and the bottom is pro-poor) The growth incidence curve (GIC) plots the growth rate at each quantile of per capita income (or expenditure). The GIC graph can allow us to compare the incidence of growth in poorer segments of the population with that of richer segments or with the rate of growth of mean income (or expenditure). If the income growth has been higher for lower quantiles, the curve will slope downward, benefitting the poor more than the rich. (this is pro poor both bc the poor gained and because they gained more than the rich). If the growth was inequalizing, it will slope upward. (this can be pro-poor in sense that the poor gained, but not pro-poor in the UNDP sense where the poor benefit more than the rich).

***Which indicator of wellbeing is most commonly used to characterize poverty?

Consumption

***Why do many Latin American (e.g., Chile, Peru, Bolivia, Brazil) and African (e.g., Zambia, Botswana, Congo, South Africa) countries typically have appreciated RER? Does it help or hinder their efforts at industrializing? Why is this sometimes referred to as a "resource curse"?

Countries which rely on exports of primary goods tend to have appreciated RERs (^ see #76). An appreciated RER leads to expensive exports (so domestic industry has a hard time selling products on world market) and cheap imports (domestic industry has a hard time competing on price in the domestic market). This is sometimes called the "resource curse" as countries which rely on these primary resources for growth face difficulty in industrializing LA AND AFRICA HAVE MORE EXTRACTIVE INDUSTRIES, RESOURCE CURSE MEANS YOU'RE HIGHLY DEPENDENT ON NATL RESOURCES--> IT'S A MINI DUTCH DISEASE.

What is meant by vulnerability to poverty and by poverty traps? What is meant by risk management and by risk coping? What are some instruments available to a household to manage risk and to cope with risk? Why is it that risk management can keep the poor in poverty? Why is it that risk coping can create irreversibilities and poverty traps?

Definition of vulnerability to poverty: vulnerability to poverty of household i at t = vit = Pr(yi,t+1 < z). Household i is vulnerable to poverty if Pr(yi,t+1 < z) > α , the vulnerability line. Poverty trap is the people who are 100% of the time poor. Ex-ante: risk management (choice of activities, change in context (migration, lobbying)). Risk management decreases the variance of income, but generally also decreases the expected level of income. -Risk management is costly - Exposure to uninsured risks lowers expected incomes and increases poverty. Ex-post: risk coping (loans, sale of liquid assets, public assistance (safety nets, transfers), mutual insurance). Risk management can keep the poor in poverty because of moral hazard, and because they will be not willing to take any rists. While risk coping can create irreversibilities and poverty traps because households might sell assets and take their kids out of school to cope with the shocks, and getting back from that is very hard.

How does Stiglitz explain why inequality can be self-reinforcing and why it can be detrimental to aggregate growth?

Stiglitz uses theory of rent seeking to explain this. His argument is that concentrated economic power (inequality) leads to concentrated political power and, through rent seeking, to changes in market and political rules favoring top 1% in the distribution of income. This includes reduced public expenditures on health and education, under funding of social programs such as unemployment insurance and food stamps, deregulation of sectors of economic activity that favor the upper class (more particularly the financial sector), and a tax code that benefits the wealthy. These private gains are achieved at a social cost, with negative outcomes on efficiency (growth) and equity (reinforcing inequality).

***What do Dollar and Kraay mean when they say that, "growth is good"? What does the UNDP mean when it characterizes growth as "pro-poor"? What does Ravallion mean when he characterizes growth as good for poverty reduction as for example in China?

Dollar and Kraay ran cross-country regressions for 92 countries and calculated the elasticity E of the income of the poor with respect to the aggregate income. E = (ΔY/Y-poor)/(ΔY/Y-overall) where poor are the people in the poorest quintile. They found that the elasticity was overall equal to one. Hence growth benefitted both the poor and everyone in the same way; hence the term "growth is good" since it evidently does not lead to inequality while benefitting everyone. The UNDP characterized growth as "pro-poor" if the elasticity E > 1 so the poor benefit more from the growth than everyone. In China, despite increasing inequality, as can be seen from an E = 0.8, growth was he main instrument in poverty reduction since it increased incomes for a huge number who were below the poverty line. This is why Ravallion characterizes growth as good for povety reduction. In other cases where E>=1, this reduction in poverty can happen without a corresponding increase in inequality.

1. Explain why countries gain from trade based on comparative advantage with a simple static economic model. Explain why there are additional gains from trade when countries specialize. How are efficiency gains achieved?

Engaging in trade, countries can gain from an international division of labor. By following comparative advantage in trade, countries can extend their consumption possibilities beyond their production possibilities, achieving higher national utility. When specializing, namely shifting resources from a good or service which is produced with a higher relative cost to a good or a service which is produced with a lower relative cost, countries can exploit their comparative advantage further based on relative resource endowments. Efficiency gains in trade are achieved by increasing exports of goods or services with comparative advantages and imports of goods or services with comparative disadvantages.

What is meant by equity and how does it differ from equality? How do you reduce inequity as opposed to inequality?

Equity is an ex-ante concept relative to outcomes and is defined as equality of opportunities to succeed. It requires level playing fields in the likelihood of achievements. Development outcomes for an individual would then depend only on the effort put in and luck and not on particular circumstances such as individual characteristics, asset endowments etc. The equality approach focuses on equalizing outcomes such as income, wages and life expectancy. On the other hand equal opportunity approach equalizes outcomes only at equal level of effort. It requires eliminating inequalities that are due to circumstances for which persons should not be help responsible. Inequity can be reduced by greater investment in human capacities, more equitable access to justice, land and infrastructure and greater fairness in market relations specially financial and labor markets. At international level, more open global markets for goods and labor, increased level of foreign aid. These are qualitatively not very different from steps to reduce inequality but quantitative targeting will be with equity rather than equality concern as they compensate for initial handicaps to achieve equality of outcomes.

***Define the functionalist theory of the state, and apply it to neo-classical theory, Keynesian economics, and development economics (as used to pursue ISI, EOI, OEI).

FUNCTIONALIST= NORMATIVE THEORY OF THE STATE, WHAT IT SHOULD DO TO COMPENSATE FOR MKT FAILURES. The functionalist state means that the state is a social planner; it acts on behalf of the public interest in order to achieve efficiency and development. This theory assumes that the net social gain from state interventions is larger than zero, and so, through compensation it can achieve its means. Features of the functionalist state: active, pursues own objectives as social planner, high autonomy, voluntarist, leadership position, economistic, engages in second-best reformism, correct undesirable social outcomes and interventions generate a NSG > 0. In the neoclassical theory, the state can achieve pareto optimality after compensation, which requires incidence analysis, political weights, and compensation schemes. In the neoclassical model is where we have to consider the decrease in social utility from lobbies, and the politician will maximize his welfare as a function of both social welfare, and lobby revenue. In Keynesian economics, fiscal and monetary policies are what the state uses in order to achieve full employment in the context of a crisis, for example in the capital market bubbles or labor market failures. In development economics, the state should also overcome market failures, should promote a developmental bureaucracy with autonomy, service motivated bureaucrats and efficiency in managing modernization programs. Also, there should be modernizing elites, inclusive institutions and justice.

3. Identify the main determinants of supply of and of demand for foreign exchange that affect a floating nominal exchange rate

Factors that affect supply: export earnings (that depend on the prices of exported goods and the volume of exports) and foreign capital inflows (aid, debt, interest rate). Factors that affect the demand for dollars are import expenditures (that depend on import prices and volumes), capital flight, and foreign capital outflow (debt service).

*** Explain the concept of fungibility in aid. Why is aid in kind fungible if the transfer is infra-marginal?

Fungibiligy means that a country's funding is transferrable across different projects and departments. In the context of aid, this means that if aid is provided in kind, as long as the amount provided is less than the total amount needed, the in-kind aid essentially frees up funds for other purposes. For example, if Country A provides Country B with food, Country B can now spend less money on food. Because funds are fungible, the money that would otherwise have been spent on food can now be applied toward something else.

*** Can trade liberalization be made Pareto optimum (define) after compensation? Why do you need a commitment device to make compensation credible if there is a time consistency problem? Which commitment devices may be available?

GOVT NEEDS TO FIGURE OUT A WAY TO COMPENSATE LOSERS, AND TIE THEIR HANDS TO ENSURE THEY'LL DO IT (TIME CONSISTENCY) BEFORE LIBERALIZATION TO GET A PARETO OPTIMUM SOLUTION. IN ORDER FOR LIBERALIZATION TO NOT PRODUCE LOSERS YOU NEED TO BUILD COMPENSATION IN. Pareto optimum is a state of allocation of resources where no one can be made better off without making someone worse off. TO ACHIEVE PARETO OPTIMUM, NEED COMPENSATION BUT THERE IS A TIME CONSISTENCY PROBLEM. Pareto optimum can be achieved after compensation because trade liberalization creates gainers and losers. Since liberalization will occur before the gains from liberalization have materialized, a commitment device that guarantees compensation for losers would be needed to make the liberalization politically feasible. Taxes on and transfers from gainers may be available.

3. Can programs that reduce poverty (such as CCT, workfare, and productive safety nets) be efficient for growth? Explain why.

Give examples. Programs that reduce poverty can also reduce growth. For instance, reducing malnutrition in workers and students by providing food transfers results in increased labor productivity and learning in school. Increased labor productivity can result in immediate growth through increased income and the students' better learning can promote future growth through higher school achievement. Additionally, social safety net programs that promote risk reduction can assist poor farmers invest in more profitable but riskier crops. India's National Rural Employment Guarantee Scheme (NREGS) has welfare and insurance value to help farmers invest in higher expected return-higher risk activities. The same results were seen for Mexico's Progresa, beneficiary households were able to make riskier occupation choices that in the future increased the household's income.

***Moral hazard in repayment to a lender

HIDDEN ACTIONS. When the lender cannot observe or cannot enforce the proper use of funds and repayment by the borrower. In insuring, there is MH when the insurer cannot prevent the insured from behaving more recklessly and increasing the likelihood of accidents, knowing that he is now insured. This also creates market failures by reducing transactions opportunities and eventually preventing any market activity.

***Adverse selection in client choice by a lender

HIDDEN CHARACTERISTICS, HIDDEN INFO. When the lender cannot fully know the quality of a potential borrower, and thus cannot properly select only good borrowers (or adjust the interest rate to the borrower's riskiness). In insuring, more risky people will tend to seek insurance, raising the cost of payments for the insurance company that cannot recognize them ex-ante. This creates a market failure by reducing the size of the market for lending and insurance transactions, and eventually completely eliminating the market.

***Define two z-scores used for child nutrition and health and give an interpretation.

Height for age: moderately to severely stunted if <-2 Weight for height: wasted to severely wasted if <-2

How do you define chronic and transitory poverty?

The transitory poor are those people who are on average above the poverty line, but sometimes in poverty. They have a low(although non-zero) vulnerability to poverty in a particular year during period of observation. The chronic poor are those people who are on average below the poverty line, but sometimes out of poverty. They have a high vulnerability to poverty in a particular year during the period of observation

*** How did this result affect the way aid is implemented and creation of the Millennium Challenge Account? How is the CPIA score used to determine the optimum level of foreign aid?

Their research was incoporated into WB macroeconomic performance evaluation and policy criteria, introducing concepT of "country selectivity" in targeting foreign aid. This concept underlies USG approach under MC account that distributes money based on good governance. Countries are scored on 17 indicators and are eligible if score on 17 indicators exceeds median score of its peer group.

***Contrast the core supporter model and the swing-voter model in terms of how public budgets for projects are used in relation to elections. Which model may apply better to Africa versus Latin America, and why?

IN AFRICA YOU VOTE WITH YOUR TRIBE, NEO-PATRIALISM, CORE VOTER MODEL= RESOURCES GO TO YOUR SUPPORTERS. SWING VOTER- RESOURCES GO TO SWING VOTERS (POSS. YOUR OPPONENTS). "In the core supporter model, projects follow votes. The winning politician allocates projects to the communities where he has received the strongest electoral support as rewards of their loyalty (electoral promises). >> Pattronage or neo-patronage In the swing voter model, votes follow projects. The incumbent politician or party targets communities with swing voters whoe electoral behavior could be influenced by the provision of public projects. >> Populism The patronage model better reflects Africa, while populism is more common in Latin America"

***What is the Multidimensional Poverty Index (MPI)? How is being poor defined using the MPI? What does the MPI add to the HDI?

INCLUDES INFO ON ACCESS TO PUBLIC GOODS "Multidimensional Poverty Index (MPI) was developed in 2010 by Oxford Poverty & Human Development Initiative and the United Nations Development Program and uses different factors to determine poverty beyond income-based lists. It replaced the previous Human Poverty Index. The these include Health (child mortality; nutrition), education (years of schooling; child enrollment), and standard of living (electricity; drinking water; sanitation; flooring; cooking fuel; assets)."

*** The instrumental variables (IV) approach may provide statistical identification when the determinant of the outcome of interest is endogenous. What are the three conditions that an instrument must satisfy to be theoretically correct? Give an example.

IV PREDICTS X, IV IS EXOGENOUS (NO REVERSE CAUSALITY), IV DOES NOT DIRECTLY PREDICT Y (i)Relevance: Z (the IV) must be a sufficiently strong predictor of X. (ii)Exogeneity: Z is exogenous relative to X, with in particular no reverse causality. (iii) Exclusion Restriction: Z influences X but doesn't directly influence the outcome. The IV method requires that at least one variable in Z explains the choice to participate in the program but does not affect the outcome i.e., does not pertain to X. Example: To measure the impact of economic growth in African countries on the likelihood of civil war, the authors instrumented growth by rainfall variation. The presumption was that rainfall, an exogenous event, favors growth but does not directly affect the incidence of conflict. It's also relevant because it is important for African growth. The exclusion restriction requires that weather shocks do not directly affect civil conflict. They found that a weather-induced 5 percentage points decline in growth increases the likelihood of conflict by one half the following year.

4. Explain how a nominal exchange rate can be held fixed by a country's Central Bank even though it is not at the level at which the supply equals the demand for dollars?

If demand for dollars exceeds supply, the Central Bank can ration access to dollars (e.g. through caps the quantity of dollars an individual can purchase or by requiring pre-approval in order to buy dollars). If supply of dollars exceeds demand, the Central Bank can buy U.S. Treasury Bonds in order to reduce excess supply of dollars.

*** Why are there usually redistributive gains and losses from trade opening? Give examples.

If the United States exports high-skilled labor goods and China exports low-skilled labor goods, how is this pattern of trade affecting inequality in the distribution of income in each of the two countries? Since the price of a good or service would increase in the exporting countries and decrease in the importing countries, producers would gain at the expense in the exporting countries while interests are the opposite in the importing countries. An example would be trade in corn between the U.S. and Guatemala under CAFTA. The U.S. has comparative advantage in corn and would export it, while Guatemala would import. Then, from a falling corn price in Guatemala, farmers would lose while consumers would gain. If there is a trade between high-skilled labor goods exported by the U.S. and low-skilled labor goods exported by China, then trade would induce an increase in wages for high-skilled labor relative to those for low-skilled labor in the U.S., and an increase wages for low-skilled labor relative to those for high-skilled labor in China. This would contribute the rising inequality in wages to the detriment of low-skilled workers in the U.S., while trade would contribute to a decline in income disparity between high- and low-skilled workers in China.

6. Show the effects on consumer surplus, producer surplus, government costs or revenues, and the net social gain associated with an import tariff (Figure)? Do the same for a producer subsidy (Figure). Which is more distortive?

Import tariff diagram: https://docs.google.com/drawings/d/1MYPCH1IbFtkUspTQOzoJSr5ZzUVgu37r9FQuWDD7lJ8/edit?usp=sharing; Producer subsidy diagram: https://docs.google.com/drawings/d/1GzPSMMyVtQt2Tizn7ghYdNVDF8rWRCObbtjzuO4UhMs/edit?usp=sharing; Producer subsidies produce less distortion on a national level than import tariffs do

***Propensity score matching (PSM) is often used when there was no baseline survey done. How is the counterfactual defined? What are some of the caveats to the approach? Give an example.

In PSM, the counterfactual is selected ex-post using non-participants with the same observable characteristics as participants. PSM assumes observable differences are highly correlated with unobservable characteristics and the control was not offered the treatment. Key is that there was no choice being exercised that made them choose treatment. Need to know that if control was offered treatment they would have taken it. Ex: Argentina's Trabajar workfare program was found to increase income of beneficiaries (Jalan and Ravallion, 2003). The average direct gain to the participant was found to be about half the gross wage.

*** Regression discontinuity designs (RDD) are often sought in natural experiments. How is the counterfactual defined? How is impact measured? What are some of the limitations of the approach? Give an example.

In RDD the counterfactual is defined as those individuals who are just on the other side of some defined boundary (discontinuity point). NEED TO VERIFY THAT BEFORE INTERVENTION THERE WAS NO DISCONTINUITY. VARIABLES NOT AFFECTED BY INTERVENTION SHOULD HAVE NO DISCONTINUITY. The idea is units observed just on the other side of the discontinuity point are identical except for being treated or not (counterfactual). Impact is measured by comparing individuals on either side of the discontinuity point—this allows you to estimate the local average treatment effect (LATE) BUT DOESN'T MEASURE TAILS- E.G. POOREST OF THE POOR. Limitations: RDD requires that treatment assignment is "as good as random" at the threshold for treatment. If this assumption is violated our estimate is biased.

Are policy instruments eventually different to reduce chronic poverty and to reduce vulnerability to poverty? Give examples.

In designing policies the diverse nature of poverty and vulnerability should be taken into account. For the chronically poor, increasing the asset position of the poor, improving the context where they use their assets and providing them with safety nets might take priority in order to reduce consumption fluctutations. These can be attained through a combination of protective and promotional programmes. Access to financial services, for example, through micro credit programmes, might help poor households build up assets as it smoothes income and consumption, enables the purchase of inputs and productive assets, and provides protection against crises. Vulnerable non-poor households could be exposed to shocks that take them into poverty. So social programs could also provide them with the same safety nets as the chronic poor in case they are exposed to income shocks. The transient poor and high vulnerable non-poor households are most likely to benefit from a combination of preventive, protective, and promotional programmes which would give them a more secure base to diversify their activity into higher-return, higher risk activities. For example, the same micro credit schemes for the chronic poor would help vulnerable households build up assets to reduce their vulnerability in the face of income shocks.

What is the Easterlin happiness paradox? Does it apply to developing countries?

Increase in income does not increase happiness. It increases happiness for all income levels below subsistence level, after that it doesn't add anything. No, it does not apply in developing countries.

*** What is index-based weather insurance? What is its main advantage and its main disadvantage? Why has there been limited success with index-based insurance?

Index-based weather insurance is insurance that attempts to protect the poor from weather shocks. Indemnity payments for weather shocks are not based on an assessment of individual losses made by an adjuster from the insurance company, but on a single, easy to observe indicator such as rainfall relative to a threshold level. Payments are triggered at a certain level of rainfall and rise to a maximum payment if rainfall is below the lower limit threshold. Advantages: overcomes classic insurance problem of AS and MH as well as costly assessment of individual losses. Disadvantages: depends on how closely the weather index tracks the loss incurred by producers - how weather actually predicts yields, livestock deaths, etc. If a weather event is local, the indicator measured at the weather station may not be what the farmer actually experienced. The links between the index and the average loss are complex. The incurred losses vary across farmers even for a given measured index. Ultimately, it protects individuals against covariate risks but not against idiosyncratic ones (plot-specific weather or loss). Basis risk - the remaining uninsured residual risk can thus be very high. Some issues that indicate limited success: 1. farmers have difficulty understanding the concept of this insurance model. 2. hard to overcome the tendency to under-insure and underestimate risk - people think that misfortune will not hit them. 3. reducing basis risk can be achieved by having more weather stations and by potentially using satellites to better estimate specific effects 4. need to intentionally build an environment of trust with insurance providers so that farmers know that payments will be made when disaster hits 5. need to reduce cost of insurance so that it makes sense to buy, but hard to do until can establish long-term time series info. Index-based insurance has potential, but these issues need to be addressed in order to increase uptake and success overall. (Graph in 2nd reader - pg. 18)

***External (empirical) and internal (theoretical) definition of the real exchange rate

Internal RER= (Price tradable goods)/(Price non tradeable goods)= the relative price of tradable and non-tradable goods in the country. External RER= (nominal exchange rate)*(wholesale price index)/(consumer price index in the country in local country units) = empirical

What is the logic of the median voter model toward taxation and how can this help interpret the relation between inequality and growth?

Median voter is said to drive the election. With higher inequality, median voter is poorer as he will be well below the mean (long right tail curve). Thus he will benefit from higher taxation and income redistribution policies and will demand for the same. Redistributive taxation on incremental earnings discourages savings and investment and thus slows dows economic growth. Although if increased fiscal revenues are invested in growth enhancing public goods such as education then it will lead to accelerated growth. Proposition is theoretical.

6. What are some consequences of rising competition in the micro-finance sector? Is monopoly eventually good for the poor? Discuss the role of credit bureaus in that perspective.

Micro-finance can be quite profitable to the lender thus making a "fortune at the bottom of the pyramid" an attractive incentive for large banks to be induced into the market. Rising competition of micro-finance institutions reduces the power of dynamic incentives to repay loans (such as gradual increases in loan size to reward good performance or alternatively, a loss of access to credit for poor performance) as alternative sources of loans become available to borrowers. Because borrowers can take on multiple loans without the knowledge of lenders, this can increase the default rate. Monopoly power of MFIs can be both good and bad for the poor. Rising competition in the micro-finance sector has contributed to "mission drift" away from poorer potential clients as commercial banks participating in microfinance take the better clients away from the non-profit pro-poor lenders. This prevents these pro-poor MFIs from using the profits made on the "better" less poor clients to subsidize the "weaker" poorer clients. In that sense, monopoly could be good for the poor as the two types of borrowers balance each other and maintain overall profitability for the MFI. However, monopoly power can be bad if MFIs use their role as the sole lender to raise interest rates. Credit bureaus can help provide information to lenders about the past repayment performance of a client and their total level of indebtedness. For example, introduction of a credit bureau in Guatemala that allowed MFIs to share positive information about clients helped mitigate AS and MH behavior and improve repayment performance. Ultimately, the credit bureau serves to reestablish the informational environment that allows MFIs to function without collateral. (de Janvry led a study about the Guatemala case where they observed the rollout of the credit bureaus in a natural experiment to see the effects of the bureaus. Explained in 2nd course reader - Pg. 15)

2. How do social programs designed to protect consumption from exposure to shocks differ from programs directed at protecting the assets of the poor? Give an example of each.

Programs designed to protect consumption focus on maintaining the poor's food consumption at a healthy level after an exposure to a shock. These programs promote food sovereignty, food aid and provide emergency loans. An example is the Preventing Malnutrition in children under 2 Approach (PM2A) where mothers and their children under 2 receive supplementary feeding. Programs designed to protect the assets of the poor focus on the poor's ability to maintain and not have to sell their assets after a shock. Assets include jewelry, livestock, tools etc. An example of a program is an emergency animal feeding program. Instead of having the beneficiary sell an animal because they can no longer afford to feed it, this program provides food for the animals so the beneficiary isn't forced to sell it.

*** Why do we need a counterfactual to do an impact analysis of a development intervention? How would you define the optimum counterfactual (control) for a given treatment?

OPTIMUM COUNTERFACTUAL= GIVING AND NOT GIVING TREATMENT TO SAME PERSON AT THE SAME TIME. We can measure project outcome but cannot observe what the outcome would have been for a particular person at the same point in time without the program. Measuring this just by observing outcome variable for a person before program was implemented is not satisfactory as many other factors change which could affect the outcome of interest. Thus a counterfactual outcome is needed. It helps estimate the outcome in absence of program. (to be completed)

*** How can a community achieve cooperation in managing CPRs? Identify for this the roles of: (1) Well defined property rights and group membership, (2) positive expected gains from cooperation, (3) capacity to observe and monitor the behavior of others, (4) capacity to enforce rules, and (5) time to learn to cooperate.

PROP RIGHTS (ACCOUNTABILITY); EXPECTED GAINS (SOCIAL/INDIVIDUAL WELFARE); OBSERVE (SMALL GROUPS BETTER, CONTROL MECHANISMS); NOT A SINGLE MOVE GAME. There are 5 conditions for cooperation. 1. Well defined property rights and group membership determine the accountability for actions. If there is a specific group of members, and the property is clearly determined amongst them, then it will be possible to implement social control over the public goods. 2. Positive expected gains from cooperation are necessary in order to maximize both social and individual welfare: members must know they will be better off by cooperating than by not cooperating. 3. Capacity to observe or monitor behavior is related to condition 1, and is one of the reasons why a reduced group is better than a large one. Without control mechanisms then there is no accountability on the use of the goods. 4. There have to be mechanisms to impose sanctions in those who don't follow the rules. 5. It will be not a single move game, but a repeated game, where there will be space for each agent to accomodate and figure out that cooperation is the option that maximizes social welfare.

***If we construct a triangle between growth, poverty, and inequality, what are the causal relations that hold empirically between these outcomes, and in which direction?

Page 25 chp 6. No systematic impact of growth on inequality. Inequality has positive and negative impact on growth but most widely accepted that reducing inequality in long run promotes growth. At a given level of GDPpc less inequality is poverty reducing. Growth is poverty reducing but how effective varies with channels. High levels of poverty are growth reducing too. (I have a doubt here: growth with increasing inequality will lead to increase in poverty right?)

***What are five different ways in which inequality can affect economic growth?

Pg 14 to 20 Ch6. Here are the highlights: 1) Aggregate rate of savings and growth: Inequality is good for growth if it increases the aggregate rate of savings and hence the rate of investment, capital accumulation and growth. Marginal propensity to save (MPS) increases with the level of income. Although in countries where the poor have higher MPS because of risk aversion, more equality is good for savings, investment and growth. (2) Social and political instability: inequality has direct costs on disposable income growth if it induces crime and political instability. eg. inequality leads to crime, crime leads to less bad investment climate for private firms. (3) Political economy of voting patters and fiscal policy: inequality leads to median voter being poor, if median voter is poor he will demand higher taxation. Higher taxation discourages savings and investment and thus slows growth. (4) Access to financial capital: with higher inequality and limited stock of assets, more people do not have collateralizable assets thus stopping them from accessing credit. This leads to many good investment projects by the poor being unfinanced and thus limiting growth. Linking credit with wealth also leads to wealth concentration thus creating a vicious circle. (5) Aggregate investment in human capital: inequality reduces investment in human capital because poor will be constrained in investing in education. They cannot postpone earning income and are limited in access to credit which leads to decrease in aggregate investment in education. If growth is in part driven by human capital then inequality is detrimental to growth.

8. Why does Karkani emphasize the role of employment creation in the small and medium enterprise sector, and what aid policies does this call for?

Poor people want good jobs, not opportunities for self-employment. SMEs offer the greatest possibility for job creation. Policy interventions= tech assistance i.e. through NGOs that specialize in business development.

***Why is a Randomized Control Trial (RCT) often considered to be the most rigorous approach to impact evaluation? In this case, how is the counterfactual defined? How is its validity assessed? How is impact measured? Give an example.

RCT has strong internal validity because of random assignment to treatment, which allows us to control for both observable and unobservable differences in the control and treatment group. The counterfactual in an RCT is the control group, who by random chance did not get treated. Big critique is lack of external validity (can only be narrowly applied to that particular context). We assess the validity of an RCT based on true random assignment as well as attrition data. If random assignment has been compromised, attrition is non-random, or we observe spillover effects internal validity is threatened. Impact is measured by comparing the mean values of the treated group to the control (the regression coefficient on the dummy for treated will give you the deviation in mean from the control, and thus define impact). Ex: Researchers in Kenya found that deworming pills administered to school-age children increased school attendance (Miguel and Kremer, 2004).

*** Define rent seeking in terms of efficiency (NSG) and distributional effects. Give an example. Why is rent seeking incentive compatible for producers and politicians, at a social cost?

RENT SEEKING CREATES NET SOCIAL LOSS, SHRINKS PIE. RESOURCES GO TO RENT SEEKING INSTEAD OF PRODUCTIVE. "Rent seeking refers to the search for private gain from an exercise of public authority. It can occur through lobbying for a policy that will benefit a particular group, eventually at the cost of a net social loss (NSG<0). It can oalso occur through corruption. This happens when a public agent accepts private compensation for exercising authority over a policy instrument that will create a rent transfer to the bribing agent. An example of lobbying is getting the benefits from quotas, or an imposition of a protective tarriff, or taxing consumers. AN example of corruption is taking bribes for approving certain projects or misallocating resources ment for a specific project and using them for personnal gain. Rent seeking is an incentive compatible for producers and politicians when you think of the lobbyist as a representative of the industry hoping to get price support of their product. In that case the producers will choose to distribute their resources between producing and lobbying depending on whether the marginal revenue of investing resources in production is equal to the marginal revenue of using resources for lobbying."

*** The rollout of a program can also be used to identify impact. What conditions must the rollout satisfy to provide a control and a treatment at each point in time? What data do we need to have? Give an example.

SAME AS DIFF IN DIFF BUT HAPPENS AT DIFFERENT TIMES. "The key assumption for the validity of the rollout method in measuring impact is that the pattern of variation in the outcome over time is the same for all units, whether they are included or not in the program. We need to have panel data on all units before and after entry. Ex: In the 1990s Argentina embarked on one of the largest privatization campaigns in the world, including the privatization of local water companies covering approximately 30 percent of the country's municipalities. Using the variation in ownership of water provision across time and space generated by the privatization process, researchers found that child mortality fell 8 percent in the areas that privatized their water services and that the effect was largest (26 percent) in the poorest areas (Gertler et all, 2005)."

***With representative democracy, why is there more "exit" and less "voice" strategy by voters? What does it mean for party coalitions and the role of extremism?

Representative democracy occurs when voters elect their representatives. This usually means there will be a multiplicity of small parties, and there will be an exit behavior where voters will switch parties in order to express their views. So, if you're mad with the Democrats, you vote for Ralph Nader, or if you're mad with the Republicans, you vote for the libertarian party. This means that party coalitions are necessary, in those systems where you need to achieve majority in parliament. Think of Angela Merkel in Germany: at the begginning she had majority as a consequence of an alliance with the Social-Democrats, then she was able to dump the SDs and ally with the libertarians to achieve majority, so she has been in power for long, even if she hasn't had absolute majority at any time. This is the point of the role of extremism with swing parties in the representative democracy theory - nobody likes the radicals, but the moderates need them in order to achieve majority. So, there is less voice strategy because people will rather move along parties than stay in one and fight on the inside - there are few incentives for doing that, while the radicals get their voices heard by the moderated because they need their votes in order to achieve a coalition that will lead them to majority.

*** Determinants of cooperation: How can the introduction of rules (fines) change the outcome of the Prisoner's Dilemma into one of cooperation?

Rules/ fines can change PD into a cooperative game by changing incentives. . When a fine is imposed for defaulting (breaking the rules), as long as it is larger than the gain from defaulting vs. cooperating, it will change players' best interests to lie in cooperation rather than default. An appointed manager to enforce the fines is crucial. NEED TO HAVE AUTHORITY/ABILITY TO ENFORCE FINES TO TRANSITION PD TO FORCE COOPERATION.

*** What are the positions of Sachs, Easterly, Collier, Moyo, and Deaton on foreign aid: Scope? Role of government? Instruments to be used?

SACHS: aid can work, govts and all donors should work together -- aid should be part of big push (doubled or tripled) to overcome poverty traps (multiple equilibria), African govts have the capacity to manage aid and a key role to play for success, tech is a major instrument: vaccines, bednets, safe water, etc.; EASTERLY: aid projects should be small and piecemeal, not part of natl plan, aid should bypass governments, "searchers" should be the main agents, bottom up solutions preferred, implementation is the main issue, not budgets; COLLIER: aid should be targeted at the "bottom billion" for effective use, peace and security are key, use aid to reduce conflicts and manage post-conflict situations, good governance (democracy, transparency) is essential to guide development and can be assisted, use broad set of instruments, trade is impt but does not work for the bottom billion without aid; MOYO: govt-to-govt aid is detrimental and should be phased out over the next 5 years, successful countries did not use aid, Marshall Plan was short and one-time, aid undermines governments, perpetuates dysfunctional regimes, postpones reforms, contributes to corruption, civil unrest, Dutch Disease, debt, dependency, replace aid by trade, borrowing through capital markets, FDI, MFI; DEATON: govt to govt aid doesn't work and can be destructive, doesn't reach the poor, underdevelopment is due to weak institutions, lack of state capacity and poor policies. RCTS won't measure big stuff and lacks external validity, countries should reduce damageing OECD trade policies, give tech advice on institutions building, increase research investments and support inst. reforms

10. How do self-help groups work? Explain how they are able to address both the savings and credit needs of their members.

Self-help groups are usually composed of 10-20 local women. They are able to avoid issues with AS and MH based on local information. Members make small regular savings contributions over a few months until there is enough capital accumulated in the group's bank account to begin lending. Funds are then used to provide loans back to members of the self-help group or to other in the village. In this way, the women are both saving (in relatively safe places), as well as creating access to credit. Having established a record of saving and repayment, the group can gain access to formal bank loans. Membership in these groups helps not only provide access to financial services to women often marginalized from these services, but also serves as an empowerment tool for them to participate in an organized group.

4. Why can short run shocks eventually create irreversibilities on child education and health, with long run consequences on future poverty? What could be done to avoid these irreversibilities? Give some examples.

Short run shocks can eventually create irreversibility on child education and health because as part of risk coping and to protect assets, some parents may take out their child from school and make he or she work. Once a child looses this time at school, it is more difficult for them to return to school and thus increasing their chances to remain in poverty with out an education. Additionally, if households do not receive assistance to protect consumption, some families will decide to reduce food nutritional intake at critical ages because they do not have access to any. In order to avoid these irreversibilities, transfers conditioned on school attendance such as Mexico's Oportunidades and food programs for the first 1,000 days of a child should be established.

***How do Galiani et al. identify the role of aid on growth? What do they find?

Since the year 1987, eligibility for international aid from IDA has been partially based on whether or not a country is below a certain threshold of GDP per capita. Countries below the threshold therefore receive much more aid. Galiani et. al exploit this policy to conduct a regression discontinuity design observing trends on either side of the threshold. In doing so, they find a statistically significant and sizeable positive impact of aid on economic growth.

***Give a typology of social programs to reduce chronic poverty and to reduce vulnerability to poverty. What do we mean by a "twin-track" approach?

Social programs to reduce chronic poverty create income generation opportunities for the poor or transfer resources to the non-poor in non-contributory social assistance programs. Examples include land reform, investing in human capital, and food/cash/conditional transfers. Programs that reduce vulnerability to poverty focus on risk management and resilience through at least partially contributory social protection programs. Examples include programs that promote financial services such as savings, index-based weather insurance, and health pensions. The "twin-track" approach reduces poverty in the short run through transfers but also provides an escape to being dependent on these transfers by building assets to help beneficiaries (E.G. CCT, SMART SUBSIDIES)--> SAFETY NET + CONDITION TO AVOID FUTURE VULNERABILITY.

*** What can be done to help the poor save? Are there situations where people will willingly seek to reduce their own freedoms to achieve their savings objectives? Give examples.

TYING THEIR HANDS, WILLING TO LOSE SOME FREEDOMS TO INDUCE SAVINGS. BANERJEE-DUFLO-- PEOPLE ARE THE SAME BUT IMPLICATIONS OF RISK ARE DIFF. Can help the poor save either through providing options to induce savings or to restrict dis-savings. To induce savings: need to create savings options that are safe, remunerative and convenient. People tend to under-save due to procrastination if not for a commitment device. One intervention technique is through information and promotion campaigns providing a specific means to save, like a safe box, savings account, mobile banking options and sending periodic text message reminders. Another way is by having deposit collectors go door-to-door to collect savings. Even though they charge a fee, the saver does this because they do not otherwise trust themselves to save. This is an example of a situation where people willingly reduce their freedoms to achieve saving objectives. Additionally, to avoid pressures to spend by family members or villagers, people will borrow in order to save as well as to shelter money from others. The discipline of repayments and high frequency payments can be an example of people reducing their freedom to achieve the same final asset accumulation objective. Offering default options can help avoid postponing decisions - like standard rates (10% say) deductions into savings accounts (es. Borrowers in Guatemala). To restrict dis-savings: Save in larger denominations that cannot be easily broken for a small expense, or piggy banks that are hard to justify to break open. Penalties for withdrawal from savings accounts serve a similar purpose. All of these situations may be examples of how willingly limiting one's freedom can help achieve savings accumulation objectives set for selves. Less freedom in the case of saving (willingly surrendered) may be better than more.

***The Difference-in-Differences method is the most widely used in impact analysis. How do we insure ourselves that the counterfactual is adequate? Do differences in initial levels invalidate the approach? What data do we need to have? Give an example.

The Diff-in-diff approach requires a "parallel trends" verification i.e. we should run a regression with observations prior to the treatment to ensure that any difference in trend is not statistically different from zero. Differences in initial levels do not invalidate our approach. Internal validity is threatened when there is a pre-existing trend of the treatment group that doesn't hold for the control group. Diff-in-diff equires panel data. Ex: Duflo (2001) found that primary education construction program increased educational achievement and wage earnings in Indonesia. Children ages 2 to 6 received 0.12 to 0.18 more years of education per every school constructed.

***Define the Gini coefficient, and a Kuznets income ratio. Why are they eventually differentially useful to characterize inequality?

The Gini ranges from 0 (complete equality) to 1 (maximum inequality). It is the most frequently used measure of inequality. The Gini has the inconvenience that 2 Lorenz curves that cross can have the same Gini and it is better at characterizing differences in the distribution of income in the middle of the distribution than at the extremes. The Gini is not additively decomposable across subgroups of the population. G = (A / (A + B)) = (2 /nM)*cov(y, r), 0≤G≤1 where, A and B correspond to the Lorenz curve graph, n=number of people in the population, M= average expenditure in the population, y=expenditure of person i, r=expenditure(or income) rank of person i, 1≤r≤n. The kuznets ratio are the ratios of income shares (ie ratio of the percentage of total income held by richest 20% to the percentage of total income held by the poorest 20%). Therefore, the kuznets is better at characterizing the extremes of the income distribution. Inequality rankings depend on the indicator used. Why could there be a same Gini for two different Lorenz curves? Are these two Lorenz curves likely to have different Kuznets income ratios? Even when the total income of a population is the same, in certain situations two countries with different income distributions can have the same Gini index (e.g. cases when income Lorenz Curves cross). In a population where the lowest 50% of individuals have no income and the other 50% have equal income, the Gini coefficient is 0.5; whereas for another population where the lowest 75% of people have 25% of income and the top 25% have 75% of the income, the Gini index is also 0.5. Economies with similar incomes and Gini coefficients can have very different income distributions. The two curves are likely to have different Kuznet ratios.

5. Define the Nominal Protection Coefficient (formula). What does it mean if it is greater than one?

The Nominal Protection Coefficient (NPC) is an indicator of the degree of protection of a particular commodity measuring the ratio between the domestic price and the border price, or NPC = pd / pb = 1 + t. If NPC > 1, producers of the commodity are protected while consumers are taxed.

Explain what is the Kuznets-inverted U curve. Is it causal? Can it be used for policy-making toward inequality reduction?

The curve depicts the relationship between inequality and GDPpc, where inequality first rises and then falls as income per capita rises. This theory is well know and controversial in development economics. The curve can be found under Ch. 6 pg. 6. The relationship is not causal and therefore shouldnt be used in policy making. If the relationship were true, we would assume that as a country's GDP grows along, inequality will grow but there is not need to contain the growth in inequality because it will eventually start to fall, furthermore we should even be encouraging more growth. Studies that have used cross-country panel data to analyze whether the relationship holds within countries rather than between- have rejected the hypothesis. Deininger and Squire found the Kuznet effect holds cross-sectionally but disappears when you add you add country fixed effects, meaning it doesnt hold within countries. Evidence of the kuznets curve was only found in 10% of countries in the sample. Hence, we cant wait for income growth to reduce inequality. if theres a concern over inequality, special policy interventions are need to reduce it (ie Brasil).

Compare the elasticity of poverty reduction with respect to growth in China, Brazil, and India. Where has it been the highest and why?

The elasticity of poverty reduction was -4.3 in Brazil, -0.8 in China and -0.4 in India. It was highest in Brazil because of social programs that aided growth in reducing inequality resulting in a high elasticity. In China, growth was the main policy objective, inequality increased and social programs were lacking, hence the low elasticity of -0.8. In India, the elasticity was so low because growth was not low-skill labor intensive and social programs were poorly targeted, with extensive leakage of benefits to the non-poor.

***. The pluralist theory of the state includes collective choice (role of collective action, lobbying) and public choice (median voter). How do these two theories differ?

The median voter theory states that with a simple majority rule, the median voter will carry the election. So, this explains the distribution of political preferences: convergence of political platforms at election time, lack of role for extremisms, a third party's role in redefining the median voter, and how parties react to incentives. In the collective choice model, what we care about it the role of lobbying and rent seeking in order to influence policy. So, groups cooperate in order to promote their own interests into bureaucrats and politicians. Groups will be more effective at lobbying if the expected per capita profits are larger, monitoring is easier, enforcement is easier and the games are repeated (very similar to cooperation in CPR's). In the case of rent seeking competition, the goal is to redistribute gains without generating new value.

3. Why is there a "micro-macro paradox" in aid and how has the lack of macro effects been established?

The micro-macro paradox formulated by Mosely in 1987 suggests that while aid seems effective at the micro level, it is difficult or even impossible to identify positive impact on the macroeconomy. Micro-level impacts can be analyzed using rigorous analysis, but it is hard to establish causality in cross-country regressions for macro analysis. In the 80's many countries attempted to evaluate aid using analytical tools such as the internal rate of return (IRR), but as because aid is fungible, such methods do not capture the complexity of what is happening in the broader macroeconomy. This is why it is so difficult to measure macroeconomic impact. Additionally, micro successes must be scalable and sustainable in order to eventually lead to macro effects.

How do Banerjee and Duflo characterize the behavior of the poor as different from that of the non-poor? Where do the differences come from?

The poor need to decide on many issues that are taken for granted by people in more developed country contexts where services are many times pre-determined for people (water quality, food safety, personal security, securing savings, coping with health shocks). In addition, decisions often have to be taken with incomplete access to information, information that is at times incorrect, and with low capacity to make use of the information available, resulting in erroneous choices or simply not making a choice. Lives of poor can be improved by simplofying many of these decisions. Understanding how the poor live and how they decide is fundamental to program design. there may be low hanging fruits within the context the poor live in.

4. Define the world market price, the border price, and the domestic price. How do the country's exchange rate policy and trade policy affect the domestic price? Give the formula.

The world market price (p$) is the price in foreign currency (US$) for which a good or service is offered in the world market, the border price (pb) is the price which the good or service is offered in the border in local currency units (LCU), or ep$, where e represents the nominal exchange rate in LCU/$, and the domestic price (pd) is the price for which the good or service is offered in the domestic market, or pb (1 + t), where t represents the import tariff rate, the export tax rate, and/or domestic producer subsidy or tax rate. The country's exchange rate policy sets the nominal exchange rate e, and trade policy sets t. For example, if the exchange rate is 100LCU/$, and the country imposes an import tariff of 10%, then the domestic price of the import is given by pd = 100 p$ (1 + 0.1) = 110 p$.

***Why is the role of the state in development conceptualized in terms of market failures? What types of market failures may the state be called to address (give examples)? Is there a role for the state in addressing undesirable social outcomes?

The state is needed in order to achieve a more efficient outcome, thus, using mechanisms that compensate for the loss in welfare that market failures generate. With the Present Trends, the market outcome is not socially desirable, so the state has a role to redistribute the outcomes. Also, the state can secure the political feasibility of policy reform. The main market failures are Public Goods (education, health, infrastructure, property rights) that will always be undersupplied; Externalities (learning, spillovers, environmental services) when there is a difference between private marginal cost and social marginal cost, or between private benefit or social benefit - in the case of a positive externality, the equilibrium Q of the good will be smaller than the social optimum, in the case of negative externalities it will the more Q than the social optimum; Economies of Scale, natural monopolies and imperfect competition, which are the cases when a single firm or a few of them, have very high market power with the ability to set the price; asymmetrical information (adverse selection, moral hazard) which occurs when one agent has more information than the other and uses it for its own advantage (think of insurance - you will drive less carefully when your car is fully insured); Coordination Failures (multiple equilibria, assurance game), think of the couple where one wants to go to the soccer game and the other to the ballet, there will be two equilibria; wealth constrained capital markets as an exclusion of the poor (access to credit or stocks); and high transaction costs (ill defined or incomplete property rights), also, think of intricate and corrupt legal systems, where enforcing your rights is very expensive.

***Tradable (T) and non-tradable (NT) goods

Tradable good= the domestic price is determined by the nominal exchange rate and the international prices as an export or import substitute (i.e. adjusting for any taxes or tariffs that may be altering it's international price). Non-tradable good= domestic price entirely determined by domestic supply and demand (e.g. construction, services, perishable goods or any good subject to trade quantity restrictions).

***What are the key design features of group-lending schemes? What is the role of self-selection by the group? What is the role of joint liability? What is the role of mutual insurance? What is the role of dynamic incentives? Why are frequent repayments desirable to both the lender and eventually to borrowers as well? Why can group lending eventually fail?

USING SOCIAL COLLATERAL, SUBSTITUTES SOCIAL COMMITMENT FOR COLLATERAL THEY DON'T HAVE. Design features: group formation where members self-select each other ("assortative matching"). Loans are individual but all members are jointly liable for repayment. The group serves as "social collateral". The group loses access to future loans if all loans are not repaid. At the beginning loans are small but they are gradually increased to reward good payment behavior, this is called "dynamic incentives". Frequent repayments are desirable despite their huge transaction costs because, for the MFI, they allow to better monitor their clients and it helps screen borrowers who have a steady income flow in addition to an expected return from the investment project funded by the loan (and hence, reducing the risk of default). For the borrower, frequent installments provide a disciplinary device for saving more than they could have done by themselves but at a very high cost. Group lending solves the four lender problems: assortative matching in group selection solves the AS problem; peer monitoring solves the MH problem in project implementation; mutual insurance solves the MH problem in providing insurance for idiosyncratic shocks (this leaves unresolved the insurance problem for covariate shocks); and social capital and inter-linkages among members helps solve the MH problem in enforcing repayment. Disadvantages: expensive credit (7% management fees plus rates charged by the bank, of about 15%); the whole group will default if they cannot pay for the defaulters, even though they could have paid for themselves (risk for bank); weak insurance capacity (can only insure for idiosyncratic shocks); MH towards MFI: the group can default willingly and just take another loan from another source; if increased differentiation over time within the group, the group will explode because of uneven costs and loan necessities; graduation problem from group to individual loans: they need collateral and credit records; and mission drift towards the less poor as competition rises.

3. How can we find the equivalent of RCT designs in natural experiments? Give two examples.

We can leverage natural experiments when new programs are administered using a lottery (everyone has equal likelihood of participating). Ex: International migration from Tonga to New Zealand brings large improvements in objective well-being, in terms of incomes and expenditures but impacts on subjective well-being are complex (McKenzie, 2012). Ex: Researchers estimate the impact on pilgrims of performing the Hajj pilgrimage to Mecca, comparing successful and unsuccessful applicants in a lottery to allocate Hajj visas. Findings: Hajjis show increased belief in peace, equality and harmony among adherents of different religions.

***How do you define vulnerability to poverty? What do we mean by a vulnerability line? Why is reducing vulnerability to poverty eventually very important to reduce future poverty?

While poverty line is an ex-post concept in that it measures who is currently poor after past policies have taken effect, vulnerability to poverty is an ex-ante concept. Yit as per capita consumption of household i at time t and z as the poverty line, and indicator of vulnerability to poverty vit for this household would be its ex-ante probability of being in poverty vit = Pr(yi,t+1 < z). We say that a household i is vulnerable to poverty if, at any time t, the probability of being poor in the next period t+1 is greater than an arbitrary threshold, the "vulnerability line", α. The vulnerability line allows us to distinguish between levels of vulnerability to poverty. If α = 50%, then households with vit >= α (50%) are called highly vulnerable. If vit >=P0 and < α (50%) then that household is moderately vulnerable, while households with vit < P0 are not vulnerable. Vulnerability to poverty is important because even if poverty levels are falling vulnerability to poverty might actually be rising. For instance in Latin America and the Caribbean, z = PPP $4/day while vulnerability line = PPP $10/day in 2010. So people spending between 4 and 10 dollars are vulnerable to poverty. The poverty rate actually fell from 45% in 1995 to 30% in 2010 while the vulnerability rate increased from 30% to 35%. This symptomized the emergence of a lower middle class that escaped poverty but remains vulnerable to shocks that could drive them back to poverty. Hence addressing vulnerability is an important component of anti-poverty programs.

*** Contrast the following three industrialization strategies when there are economies of scale in production: ISI, EOI, and OEI. Explain what each strategy consists in and what are its specific advantages and disadvantages.

YOU NEED ECONOMIES OF SCALE, HAVE AN AC CURVE THAT IS DECLINING. "Import substitution industrialization: Govt establishes a protective tariff for a particular industry; assumption is that protection will induce more investment and technological change in the industry which will allow them to shift their production possibility frontier out/up. Then the country can remove the protective tariffs and re-enter the world economy with the industry at the necessary level to compete with other economies of scale. Advantages: no need for government spending; increases govt revenue (which can then potentially be invested into public goods required for infant industries); no need for government to "pick winners" (i.e. subsidize specific firms); and infant industries can begin by competing in the domestic market where quality requirements are likely lower. Disadvantages: requires a large domestic market if firms are going to achieve economies of scale (govt can also support this, e.g. through land reform to expand domestic market); creates powerful sectoral lobbies that will oppose re-opening up market (which can be especially detrimental if the government is not credible enough to maintain it's position on free trade) Export oriented industrialization: Keep free trade but subsidize selected firms in a particular industry ("pick the winners") until they become competitive. Advantages: can be narrowly targeted on potential "winners"; does not require large trade distortions from tariffs that negatively impact domestic consumers; it can work for small countries without a large domestic market. Disadvantages: costly for the government; firms must already be competitive (i.e. no domestic learning curve); risk of corruption with govt choosing firms to invest in; more vulnerable to rent seeking behavior that will make them more difficult to remove later. Open Economy Industrialization: Open the economy and support a good "investment climate"* that will attract foreign direct investment to bring internationally competitive firms to the country. *= political stability,infrastructure, rule of law, secure property rights, discliplined and semi-skilled workforce, good macroeconomic fundamentals and commitment to open trade Advantages: does not require long learning period for firms to reach scale; Disadvantages: foreign firms are not a substitute for domestic industry in terms of long run industrialization (it creates industries, but not a domestic industrial class)."

7. Contrast the approaches to poverty reduction proposed by Yunus, Prahalad, and Karnani?

Yunus is promoting an approach to reduce poverty through social business. In his view, the best way to approach what the poor needs is to ask the poor themselves, and he suggests to remove their business obstacles - insufficient collateral - to help the poor access to capital. Prahalad proposes to think of the poor as entrepreneurs as well as value-demanding consumers. He proposes multi-national companies to seek for market opportunities in ways responsive to the Bottom of the Pyramid (BOP), creating new local business models and bringing poverty reducing benefits to them. Karnani claims that the BOP markets are actually very small for most multinational companies and those poverty reducing benefits are not given to the poor. He argues that the poor should be viewed as producers, and suggests an approach that emphasizes the need for business, government, and civil society to work together to create jobs enough to provide financial support for the poor.

6. When is it justified to impose a conditionality (such as school attendance by children) on the poor to receive a transfer?

a. Imposing conditionality is justified when the objective of a program directly relates to the condition. For example, if the objective of a program is to increase educational value, imposing a condition (beneficiaries' children must attend school to receive transfer) is superior than an unconditional transfer. A RCT completed in Malawi found that a conditional cash transfer was more effective in increasing school attendance and improving school performance. However, an unconditional transfer decreased teenage pregnancy and marriage rate. Thus conditionality is justified based on the program's objective. In Malawi's example, conditionality should be imposed only if the objective is to increase school attendance; however, if the objective is to decrease pregnancy and marriage rates, an unconditional transfer is best. In addition to the program's objective, targeting is important and programs that seek to increase school attendance must target children of the poor who would not go to school without the transfer, and who will go to school if they benefit from a transfer.

***Draw a Lorenz curve. Make sure that the axes are clearly defined.

http://jech.bmj.com/content/61/10/849/F1.large.jpg Also you can see in the Reader under Ch. 6 pg. 2 (the y axis is different in the image (income) and in the book (expenditure)) X-AXIS: % of pop, ranked poorest to richest (SAME AS POV PROFILE); Y-AXIS % of income they have (ranked) (NOT SAME AS POV PROFILE, THERE IT'S Y=Y, NOT CUMULATIVE %); GINI= a/a+b