1. Luiz Carlos Bresser-Pereira www.bresserpereira.org.br Lecture at EPOG, Economic Policies in the age of Globalization – Erasmus Mundus Master's course Paris, September 14, 2015.

2.  It originates from 1. Development Economics or Classical Developmentalism (pioneers of development) 2. Post-Keynesian macroeconomics  It is divided into 1. New-developmental macroeconomics 2. New-developmental political economy 3. New developmental microeconomics (just a draft)  It is focused on middle income countries,  whose key difference in relation to rich countries: it gets indebted in foreign money. 2

3.  ND adopts the historical-deductive method of Smith, Marx and Keynes.  It rejects the hypothetical-deductive method, which is valid for methodological sciences as econometrics and economic decision making theory, not to a social science as economics is.  Yet, it accepts some concepts or theorems – logical constructs like the law of comparative advantages, or the Balassa-Samuelson effect.  But does not derivate policy from them (“Ricardian vice”), but from historical models.  The historical models don’t lead to certitudes, but to things that happen “generally”, “usually”. 3

4.  Populisms 1. Economic 2. Political  Economic populism is to expend irresponsibly more than it gets: 1. the state (fiscal populism), or 2. the nation-state (exchange rate populism).  Policymakers in developing countries 1. Exchange rate populism is usual among liberal as well as developmental policymakers. 2. Fiscal populism is typical of vulgar developmentalists or vulgar Keynesians, not of either classical o new developmentalism. 4

5.  Based on the five macroeconomic prices  Focused in the current-account and in the exchange rate  Views the profit rate is the more important and the exchange rate the more strategic macroeconomic price.  It views exchange rate policy as crucial.  It does not offer relevant contribution to fiscal and monetary policy, except the 1980s’ theory of inertial inflation. 5

6. PRICESTHEY ARE RIGHT WHEN Profit rateSatisfying Exchange rateAssures satisfactory profit rate to competent firms Interest rateLow level, around which to conduct monetary policy WagesConistent with satisfying profit rate (growing with productivity) InflationBelow one digit Quite different from neoclassical “right prices”. 6

7.  A responsible counter-cyclical fiscal policy  A monetary policy based on a level of the interest rate similar to the international one.  Wage policy making wages to increase with productivity  And, mainly, an exchange rate policy that: 1. Make it competitive through a once and for all depreciation, and, after 2. Assures that it will remain floating around this competitive level.  In this lecture I will discuss the theory and the policies required in relation to the exchange-rate. 7

8.  It involves productive sophistication, which takes place 1. In the same goods and services 2. Transferring labor to more sophisticated (more valued added per capita, high wages) industries.  It depends essentially on the investment rate  Education and technical progress are essential but are embedded into capital accumulation, and have only long-term effects. 8

9.  Classical school: it depends on the expected profit rate and the interest rate;  Keynes: OK, but the expected profit rate depend on demand, which is not assured by the market.  New developmentalism: OK, but firms must have access to demand, which is not assured by the market. 9

10.  Classical school: to the falling rate of profit.  Keynes: to the insufficiency of demand.  Classical developmentalism: to the deteriration of term of change.  New-developmentalism: to the cyclical and chronic (long-term) appreciation of the exchange rate.  Neoclassical economics does not have a tendency because it is not historical. 10

11.  Current equilibrium – value that balances intertemporally the current-account.  Industrial equilibrium – value that makes competitive the firms that utilize technology in the world state of the art.  Foreign debt equilibrium – exchange rate that corresponds to a current-account deficit that stabilizes the foreign debt / GDP ratio. 11

12.  Neoclassical school – smal misalignments  Keynesian school – large misalignments  New-developmentalism – tendency to the long-term overvaluation followd by cyclical currency crises.  This is the core empirical thesis of new developmentalism. 12

13. Time e Neoclas/Keynes equilibrium Courrent eq. The neoclassical/Keynesian volatility and the current equilibrium

14. e Market exch rate Courrent eq. Time The tendency to the overvaluation

15.  Structural cause: 1. Dutch disease, but it just pulls the exchange rate to the current equilibrium  Three habitual policies, which explain the deficits. 1. Growth with foreign borrowing (“foreign savings”) 2. High level interest rate around which conduce monetary policy. 3. Exchange rate anchor policy to control inflation 15

16.  It is a long-term overvaluation of the exchange rate or a competitive disadvantage that stems from exports of commodities that, benefiting from Ricardian rents, can be exported with a profit at an exchange rate substantially more appreciated than the one required for the other tradeable firms that utilize technology in the world state of the art.  Two equilibriums  The commodities originating the Dutch disease define the current equilibrium, while the other competent tradable firms, the industrial equilibrium. 16

17. e Courrent eq. Market exch rate Industrial eq. Doença Holandesa Time The industrial equilibrium Dutch disease

18. What means that, 1. In the case of Dutch disease, we have two values 2. As all goods and services, the foreign money also has a value and a price. The price of the foreign money floats around the value according to the demand and supply of foreign money. 18

19.  The value of the foreign money is equal to the cost plus satisfactory profit of the tradable firms that assure that the current account is balanced.  The value of the exchange rate varies according to the comparative unit labor cost (CULC) 1. ULC - wages/productivity 2. CULC - compares the local ULC with a basket of ULCs of competing countries. 19

20.  The value, including the Dutch disease  The demand and supply, which depends on: 1. Text-book variables: interest rate differences, terms of trade, capital inflows and outflows, confidence, existence or no of capital controls, etc. 2. The already referred three habitual policies which sitematically appreciate the national currency of the developing country. 20

21.  Current equilibrium varies according to 1. the international price of the commodities 2. and (secondarily) their comparative unit labor cost (ULC).  Industrial equilibrium varies according to 1. the comparative unit labor cost. 2. (The assumption is that the prices of tradable goods and services vary little; their terms of trade, relatively constant). 21

22.  There is an inverse and linear relation between both.  The more valorized the exchange rate, the larger the current-account deficit, and vice-veresa.  Variations in the ICCUT cause shfits of the line and movements in the current and mainly the industrial equilibrium. 22

23. Severity  It is equal to the distance between the current and the industrial equilibrium.  g = (e i – e c) / e c Neutralization  An export-tax equal to the severity of the Dutch disease will neutralize it, making the current and the industrial equilibriums equal. 23

24. (2006-14) Today Current equilibrium 2.90 3.40 Industrial equilibrium 3.60 3.60 Real exchange rate 2.60 3.80 Dutch disease’s severity (considering the current eq) 2006-14 (3.60 – 2.90) / 2.90 = 24% Today (3.60 / 3.40) / 3.40 = 2% Total overvaluation (considering the exchange rate) 2006-14 (3.60-2.60) / 2.60 = 39% Today (3.60-3.80) / 3.80 = -5% 24

25.  A variable export-tax equal to the severity of the Dutch disease will neutralize it, making the current and the industrial equilibriums equal.  Because: 1. Increase the value, i.e., the cost + profit. 2. Shifts the supply curve to the left.  In the example, today the tax would be zero, between 2006-2014, would be in average, in today’s prices, R$ 0.70 per US$. 25

26. Neutralization of the Dutch disease by shifting the supply curve 26

27.  Financial crisis are cyclical.  They are currency crisis, in so far that they erupt when foreign creditors in foreign money loose confidence and stop rolling over the debt.  They suppose a financial bubble, which explains why the exchange rate remains for years in a level corresponding to current account deficit superior to “foreign debt equilibrium”.(Williamson’s “fundamental eq”) 27

28. e Courrent eq. Market exch rate Industrial eq. Foreign debt eq. Time The foreign debt equilibrium

29. 1. For new developmentalism: the industrial equilibrium. 2. For the orthodoxy and for populists: the foreign debt equilibrium (FDE). The country that has the DD and accepts the FDE is condemned to export commodities, because its prices will be wrong. 1. The exchange rate will be overvalued 2. The expected profit rate will be depressed 3. All revenues will be artificially high 29

30.  It will have to proceed two neutralizations: 1. the DD and more broadly, 2. the tendency to the overvaluation of the exchange rate.  The long-term policy (besides neutralizing the DD)  To reject the three habitual policies 1. Growth with foreign borrowing 2. High level interest rate 3. Exchange rate anchor policy to control inflation  To control capital flows when needed 30

31.  Satisfactory profit rate  Reduction of short-term consumption.  Increase of the investment rate.  Current-account surplus  Faster growth and growth of wages  Thus, the developing countries don’t need foreign capital.  But the surplus depends on rejecting the three habitual policies, which are all equivocated. 31

32.  Yes, it is because, generally, foreign savings don’t add to domestic savings.  There is a high rate of substitution of foreign for domestic rates, except when the country is growing very fast and the marginal propensity to consume falls.  Cause: when the country decides “to grow with foreign savings”, it incurs in current-account deficit, the exchange rate appreciate, investiments and desencouraged, and domestic savings fall.  Also a cause on the supply side: the appreciation increases revenues, increases consumption, domestic savings fall. 32

33.  Some criticize new developmentalism as conservative  The main object of macroeconomic policy is not distribution but full employment and growth.  It is a huge mistake to want high wages at the cost of an appreciated currency.  A depreciation increases profits (this is the objective) and reduces not only wages but all revenues.  The real distributive policies  Minimum wage  Welfare state  Progressive taxation. 33

34. 34

35. Before taxes & transfers After taxes & transfers Variation % Sweden0.490.2338.8 Germany0.440.2827.3 USA0.460.3426.1 35

36.  It is focused in the five macro prices  It is focused on the exchange rate, the current account deficit, and the expected profit rate.  It is based on the tendency to the overvaluation.  Its investment function includes the exchange rate, which tends to not give access to demand.  Has a new model for the Dutch disease.  Rejects growth with foreign savings.  Defends an active exchange rate policy.  Defends a manufactured goods export-led strategy. 36

37. Luiz Carlos Bresser-Pereira Professor Emérito da Fundação Getúlio Vargas www.bresserpereira.org.br 37

38. Taxa de câmbio: um equilíbrio, três teorias 38

39. Tendência à sobreapreciação crônica e cíclca da taxa de câmbio 39