The World Bank Economic Review - recent issues

Decentralizing Eligibility for a Federal Antipoverty Program: A Case Study for China

Ravallion, M. — 2009-02-26

In theory, the informational advantage of decentralizing the eligibility criteria for a federal antipoverty program could come at a large cost to the program's performance in reaching the poor nationally. Whether this happens in practice depends on the size of the local-income effect on the eligibility cutoffs. China's Di Bao program provides a case study. Poorer municipalities adopt systematically lower thresholds—roughly negating intercity differences in need for the program and generating considerable horizontal inequity, so that poor families in rich cities fare better. The income effect is not strong enough to undermine the program's overall poverty impact; other factors, including incomplete coverage of those eligible, appear to matter more.

Mental Health Patterns and Consequences: Results from Survey Data in Five Developing Countries

Das, J., Do, Q.-T., Friedman, J., McKenzie, D. — 2009-02-26

The social and economic consequences of poor mental health in the developing world are presumed to be significant, yet remain underresearched. This study uses data from nationally representative surveys in Bosnia and Herzegovina, Indonesia, and Mexico and from special surveys in India and Tonga to show similar patterns of association between mental health and socioeconomic characteristics. Individuals who are older, female, widowed, and report poor physical health are more likely to report worse mental health. Individuals living with others with poor mental health are also significantly more likely to report worse mental health themselves. In contrast, there is little observed relation between mental health and consumption poverty or education, two common measures of socioeconomic status. Indeed, the results here suggest instead that economic and multidimensional shocks, such as illness or crisis, can have a greater impact on mental health than poverty. This may have important implications for social protection policy. Also significant, the associations between poor mental health and lower labor force participation (especially for women) and more frequent visits to health centers suggest that poor mental health can have economic consequences for households and the health system. Mental health modules could usefully be added to multipurpose household surveys in developing countries. Finally, measures of mental health appear distinct from general subjective measures of welfare such as happiness.

Psychological Health Before, During, and After an Economic Crisis: Results from Indonesia, 1993-2000

Friedman, J., Thomas, D. — 2009-02-26

The 1997 Indonesian financial crisis resulted in severe economic dislocation and political upheaval. Previous studies have established the detrimental consequences for economic welfare, physical health, and child education. The crisis also affected the psychological well-being of the Indonesian people. Comparing responses of the same individuals interviewed before and after the crisis, this study documents substantial increases in several dimensions of psychological distress among men and women across the age distribution. It shows larger impacts of the economic crisis on the more vulnerable groups, including those with low education, the rural landless, urban residents, and those in provinces most affected by the crisis. Elevated psychological distress persists even after the economy returns to precrisis levels, suggesting that the deleterious effects of the crisis may persist longer on the psychological well-being of the Indonesian population than on standard measures of economic well-being.

Infrastructure and Public Utilities Privatization in Developing Countries

Auriol, E., Picard, P. M. — 2009-02-26

Should governments in developing countries promote private ownership and deregulated prices in noncompetitive sectors? Or should they run publicly owned firms and regulate prices at the expense of rents to insiders? A theoretical model is used to answer these normative questions. The analysis focuses on the tradeoff between fiscal benefits and consumer surplus during privatization of noncompetitive sectors. Privatization transfers control rights to private interests and eliminates public subsidies, yielding benefits to taxpayers at the cost of increased prices for consumers. In developing countries, where budget constraints are tight, privatization and price liberalization may be optimal for low profitability industries but suboptimal for more profitable industries. And once a market has room for more than one firm, governments may prefer to regulate the industry. Without a credible regulatory agency, regulation is achieved through public ownership.

Systemic Risk, Dollarization, and Interest Rates in Emerging Markets: A Panel-Based Approach

Bacha, E. L., Holland, M., Goncalves, F. M. — 2009-02-26

This study investigates the impact of systemic risks and financial dollarization on real interest rates in emerging economies. Higher systemic risks induce both higher real interest rates and increased dollarization. Using appropriate instruments for the dollarization ratio, the study overcomes the simultaneous equation problem and correctly estimates a negative coefficient for the dollarization ratio in the interest rate equation. It confirms the theoretical prediction that a strategy of "dedollarizing" the economy will raise the equilibrium domestic real interest rate if the strategy fails to address fundamental macroeconomic risks. Even so, it also finds that this effect is small, after controlling for the risks of dilution and default. The results bring to light the systemic-risk reasons for high interest rates in emerging economies—and contribute to evaluating the difficulties of dedollarization policies.

Quantitative Approaches to Fiscal Sustainability Analysis: A Case Study of Turkey since the Crisis of 2001

Budina, N., van Wijnbergen, S. — 2009-02-26

This case study of fiscal sustainability in Turkey after the crisis in 2001 reviews and extends quantitative approaches to fiscal sustainability analysis and brings them together in a user-friendly tool applicable in a data-sparse environment. It combines a dynamic simulations approach with a steady-state consistency approach. It also incorporates user-defined stress tests and stochastic simulations to deal with uncertainty. And it derives the future distribution of debt-output ratios, evaluating the fiscal adjustment required to stabilize them. Value at Risk analysis shows that considerable risks remain unless explicit feedback rules from debt surprises to the primary surplus are implemented.

Globalization and the Gender Wage Gap

Oostendorp, R. H. — 2009-02-26

There are several theoretical reasons why globalization will have a narrowing as well as a widening effect on the gender wage gap, but little is known about the actual impact, except for some country studies. This study contributes to the literature in three respects. First, it is a large cross-country study of the impact of globalization on the gender wage gap. Second, it employs the rarely used ILO October Inquiry database, which is the most far-ranging survey of wages around the world. Third, it focuses on the within-occupation gender wage gap, an alternative to the commonly used raw and residual wage gaps as a measure of the gender wage gap. This study finds that the occupational gender wage gap tends to decrease with increasing economic development, at least in richer countries, and to decrease with trade and foreign direct investment (FDI) in richer countries, but finds little evidence that trade and FDI also reduce the occupational gender wage gap in poorer countries.

Access to Finance: An Unfinished Agenda

Beck, T., Demirguc-Kunt, A. — 2008-12-15

Recent data compilations show that many poor and nonpoor people in many developing countries face a high degree of financial exclusion and high barriers in access to finance. Theory and empirical evidence point to the critical role that improved access to finance has in promoting growth and reducing income inequality. An extensive literature shows the channels through which finance promotes enterprise growth and improves aggregate resource allocation. There is less evidence at the household level, however, and on the effectiveness of policies to overcome financial exclusion. The article summarizes recent efforts to measure and analyze the impact of access to finance and discusses the unfinished research agenda.

Banking Services for Everyone? Barriers to Bank Access and Use around the World

Beck, T., Demirguc-Kunt, A., Martinez Peria, M. S. — 2008-12-15

Information from 209 banks in 62 countries is used to develop new indicators of barriers to banking services around the world, show their correlation with measures of outreach, and explore their association with bank and country characteristics suggested by theory as potential determinants. Barriers such as minimum account and loan balances, account fees, and required documents are associated with lower levels of banking outreach. While country characteristics linked with financial depth, such as the effectiveness of creditor rights, contract enforcement mechanisms, and credit information systems, are weakly correlated with barriers, strong associations are found between barriers and measures of restrictions on bank activities and entry, bank disclosure practices and media freedom, and development of physical infrastructure. In particular, barriers are higher in countries where there are more stringent restrictions on bank activities and entry, less disclosure and media freedom, and poorly developed physical infrastructure. Also, barriers for bank customers are higher where banking systems are predominantly government-owned and are lower where there is more foreign bank participation. Larger banks seem to impose lower barriers on customers, perhaps because they are better positioned to exploit economies of scale and scope.

What Can We Learn about Financial Access from U.S. Immigrants? The Role of Country of Origin Institutions and Immigrant Beliefs

Osili, U. O., Paulson, A. — 2008-12-15

Immigrants from countries with more effective institutions are more likely than other immigrants to have a relationship with a bank and to use formal financial markets more extensively. The evidence that a country's institutional environment shapes beliefs—and by extension the use of financial services—provides support for policies that focus on institutional reforms in promoting financial access. After holding wealth, education, and other factors constant, the impact of institutional quality in the country of origin affects the financial market participation of all immigrant groups except those who have lived in the United States for more than 28 years. These findings are robust to alternative measures of institutional effectiveness, to controlling for additional country of origin characteristics, and to various methods for addressing potential biases caused by immigrant self-selection.

Experimental Evidence on Returns to Capital and Access to Finance in Mexico

McKenzie, D., Woodruff, C. — 2008-12-15

A strong theoretical argument for focusing on access to finance is that financial market imperfections can result in large inefficiencies, as firms with productive investment opportunities underinvest. Lack of access to finance is a frequent complaint of microenterprises, which account for a large share of employment in developing countries. However, assessing the extent to which a lack of capital affects their business profits is complicated by the fact that business investment is likely to be correlated with a host of unmeasured characteristics of the owner and firm, such as entrepreneurial ability and demand shocks. In a randomized experiment that gave cash and in-kind grants to small retail firms, providing an exogenous shock to capital, the shock generated large increases in profits, with the effects concentrated among firms that were more financially constrained. The estimated return to capital was at least 20–33 percent a month—three to five times higher than market interest rates.

How Important Are Financing Constraints? The Role of Finance in the Business Environment

Ayyagari, M., Demirguc-Kunt, A., Maksimovic, V. — 2008-12-15

What role does the business environment play in promoting or restraining firm growth? Recent literature points to a number of factors as obstacles to growth. Inefficient functioning of financial markets, inadequate security and enforcement of property rights, poor provision of infrastructure, inefficient regulation and taxation, and broader governance features such as corruption and macroeconomic stability are all discussed without any comparative evidence on their ordering. Using firm-level survey data on the relative importance of different features of the business environment, the article finds that although firms report many obstacles to growth, not all the obstacles are equally constraining. Some affect firm growth only indirectly through their influence on other obstacles, or not at all. Analyses using directed acyclic graph methodology and regressions find that only obstacles related to finance, crime, and policy instability directly affect firm growth. The finance result is shown to be the most robust. The results have important implications for the priority of reforms. Maintaining policy stability, keeping crime under control, and undertaking financial sector reforms to relax financing constraints are likely to be the most effective routes to promote firm growth.

The Unbanked: Evidence from Indonesia

Johnston, D., Morduch, J. — 2008-12-15

To analyze the prospects for expanding financial access to the poor, bank professionals assessed 1,438 households in six provinces in Indonesia to judge their creditworthiness. About 40 percent of poor households were judged creditworthy according to the criteria of Indonesia's largest microfinance bank, but fewer than 10 percent had recently borrowed from a microbank or formal lender. Possessing collateral appeared as a minor determinant of creditworthiness, in keeping with microfinance innovations. Although these households were judged able to service loans reliably, most desired small loans. Calculations show that the bank, given its current fee structure and banking practices, would lose money when lending at the scales desired. So, while innovations have helped to extend financial access, it remains difficult to lend in small amounts and cover costs.

Patterns of Rainfall Insurance Participation in Rural India

Gine, X., Townsend, R., Vickery, J. — 2008-12-15

Take-up of an innovative rainfall insurance policy offered to smallholder farmers in rural India decreases with basis risk between insurance payouts and income fluctuations, increases with household wealth, and decreases with binding credit constraints. These results are consistent with the predictions of a simple neoclassical model with borrowing constraints. Other patterns are less consistent with the benchmark model. For example, participation in village networks and measures of familiarity with the insurance vendor are strongly correlated with insurance take-up decisions, and risk-averse households are less, not more, likely to purchase insurance. These results may reflect household uncertainty about the product, given their limited experience with it.

Trade Liberalization and Growth: New Evidence

Wacziarg, R., Welch, K. H. — 2008-06-24

A new data set of on openness indicators and trade liberalization dates allows the 1995 Sachs and Warner study on the relationship between trade openness and economic growth to be extended to the 1990s. New evidence on the time paths of economic growth, physical capital investment, and openness around episodes of trade policy liberalization is also presented. Analysis based on the new data set suggests that over the 1950–98 period, countries that liberalized their trade regimes experienced average annual growth rates that were about 1.5 percentage points higher than before liberalization. Postliberalization investment rates rose 1.5–2.0 percentage points, confirming past findings that liberalization fosters growth in part through its effect on physical capital accumulation. Liberalization raised the average trade to GDP ratio by roughly 5 percentage points, suggesting that trade policy liberalization did indeed raise the actual level of openness of liberalizers. However, these average effects mask large differences across countries.

Comprehensive Wealth and Future Consumption: Accounting for Population Growth

Ferreira, S., Hamilton, K., Vincent, J. R. — 2008-06-24

Economic theory predicts that the current change in national wealth, broadly defined to include natural and human capital as well as produced capital ("genuine savings"), determines whether the present value of future changes in consumption is positive or negative. Theoretical research has focused on the effects of population growth on this relation, but no rigorous empirical investigation has been conducted. Panel data for 64 developing countries during 1970–82 are used to test the effects of three adjustments for population growth, including one that controls for omitted wealth. Although the adjustments have substantial impacts on estimates of genuine savings, they lead to only limited improvements in the relation between those estimates and subsequent consumption changes. Even without adjustments for population growth, adjustments for natural resource depletion improve the relation significantly. Policymakers and economists can interpret published estimates of genuine savings as signals of future consumption paths if and only if the estimates include adjustments for natural resource depletion. But better estimates of capital stocks are needed before it can be confidently said that adjustments for population growth significantly improve the accuracy of those signals.

Comparison of Net Benefits of Incentive-Based and Command and Control Environmental Regulations: The Case of Santiago, Chile

O'Ryan, R., Sanchez, J. M. — 2008-06-24

The ambient permit system proposed in the literature for cost-effective pollution reduction is difficult to implement and may result in lower net benefits than using another instrument. The article develops a model for comparing the environmental net benefits of three policy instruments for Santiago, Chile, when the policy problem is to meet a given ambient quality standard. Two market-based instruments—the ambient permit system and a simpler emission permit system—are examined along with an emission standard, a command and control instrument usually favored by regulators. Both emission permit system and emission standard are costlier than the ambient permit system, sometimes in large part because they improve ambient emission concentrations beyond the required target in much of the city, but the ambient permit system requires a lower degree of control to comply with the standard. The somewhat costlier emission permit system and emission standard provide much higher net benefits than the ambient permit system when the health benefits of their "excessive" air quality improvements are taken into account. These benefits are different from the fact that an ambient permit system is administratively costlier to implement.

Women's Power, Conditional Cash Transfers, and Schooling in Nicaragua

Gitter, S. R., Barham, B. L. — 2008-06-24

The Social Safety Net (Red de Protección Social, RPS) program in Nicaragua is one of many conditional cash transfer programs that pay households cash stipends in exchange for school attendance and regular visits to health clinics by the children. A key feature is that payments go to the female head of household. Previous research suggests that exogenous transfers to women are more likely to be spent on their children's health, nutrition, and education and thus to reinforce the goals of these programs. Randomized experimental data from RPS are used to test for heterogeneous program impacts on school enrollment and spending based on a woman's power, as proxied by her years of schooling relative to her husband's years of schooling. The results confirm previous findings that more household resources are devoted to children when women are more powerful. However, when a woman's power greatly exceeds her husband's, additional female power reduces school enrollment. RPS impacts on schooling are much larger than the expected income effects estimated from the control group, although no evidence is found that female power alters the impact of RPS on school enrollment. The conditionality of RPS is probably decisive. While RPS significantly increases food and education expenditures, the impact is attributable primarily to income effects.

Does Aid for Education Educate Children? Evidence from Panel Data

Dreher, A., Nunnenkamp, P., Thiele, R. — 2008-06-24

Most of the aid effectiveness literature has focused on the potential growth effects of aggregate aid, with inconclusive results. Considering that donors have repeatedly stressed the multidimensionality of their objectives, a more disaggregated view on aid effectiveness is warranted. The impact of aid on education is analyzed empirically for almost 100 countries over 1970–2004. The effectiveness of sector-specific aid is assessed within the framework of social production functions. The Millennium Development Goals related to education, particularly the goal of achieving universal primary school enrollment, are considered as outcome variables. The analysis suggests that higher per capita aid for education significantly increases primary school enrollment, while increased domestic government spending on education does not. This result is robust to the method of estimation, the use of instruments to control for the endogeneity of aid, and the set of control variables included in the estimations.

World Bank Lending and Financial Sector Development

Cull, R., Effron, L. — 2008-06-24

A new database of World Bank loans to support financial sector development is used to investigate whether countries that received such loans experienced more rapid growth on standard indicators of financial development than countries that did not. Self-selection is accounted for with treatment-effects regressions. The results indicate that borrowing countries had significantly more rapid growth in M2/GDP than nonborrowers and swifter reductions in interest rate spreads and cash holdings (as a share of M2). Borrowers also had higher private credit growth rates than nonborrowers in some treatment-effects regressions but not in standard panel regressions with fixed country effects. On the whole, the results indicate some significant advantages in financial development for borrowers over nonborrowers.

HIV Pandemic, Medical Brain Drain, and Economic Development in Sub-Saharan Africa

Bhargava, A., Docquier, F. — 2008-06-24

Country-level longitudinal data at three-year intervals over 1990–2004 are used to analyze the factors affecting emigration of physicians from Sub-Saharan countries and the effects of this medical brain drain on life expectancy and number of deaths due to AIDS. Data are compiled on emigrating African physicians from 16 receiving Organisation for Economic Co-operation and Development (OECD) countries. A comprehensive longitudinal database is developed by merging the medical brain drain variables with recent data on HIV prevalence rates, public health expenditures, physicians' wages, and economic and demographic variables. A triangular system of equations is estimated in a random effects framework using five time observations for medical brain drain rates, life expectancy, and number of deaths due to AIDS, taking into account the interdependence of these variables. Lower wages and higher HIV prevalence rates are strongly associated with the brain drain of physicians from Sub-Saharan African to OECD countries. In countries in which the HIV prevalence rate exceeds 3 percent, a doubling of the medical brain drain rate is associated with a 20 percent increase in adult deaths from AIDS; medical brain drain does not appear to affect life expectancy. These findings underscore the need to improve economic conditions for physicians in order to retain physicians in Sub-Saharan Africa, especially as antiretroviral treatment becomes more widely available.

Foreign Direct Investment, Access to Finance, and Innovation Activity in Chinese Enterprises

Girma, S., Gong, Y., Gorg, H. — 2008-06-24

A recent, comprehensive database is used to investigate the link between inward foreign direct investment (FDI) and innovation activity in China. The results of the analysis suggest that private and collectively owned firms with foreign capital participation and those with good access to domestic bank loans innovate more than other firms do. Among enterprises not owned by the state, inward FDI at the sectoral level is positively associated with domestic innovative activity only among firms that engage in their own research and development or that have good access to domestic finance. At the sector level the effect of inward FDI into technology transfer is distinguished from the effect on domestic credit opportunities. FDI affecting credit is of little significance for state-owned enterprises and is independent of their access to finance. In contrast, better access to credit is an important channel through which FDI affects the innovation of domestic private and collectively owned enterprises.