The need to confront and drive back the forces of the Islamic State (IS) has pushed long-term reform efforts in Iraq far down the list of priorities. Yet pressing economic reforms – such as restructuring and rebuilding the country’s energy sector – increasingly seem a strategic necessity, as oil prices have fallen far below government projections. How can politicians be persuaded to invest in Iraq’s long-term future at a time of imminent security threats? How can the efforts to reform the Iraqi electricity network be harnessed to reestablish government authority in newly retaken areas?

Luay Al-Khatteeb and Harry Istepanian address these questions through analysis of past attempts at electricity sector reform. They argue that even before IS advances plunged Iraq into a deep political and security crisis, divisions within the Iraqi parliament and various government agencies had stymied efforts at reform. Still, they note that improving the provision of electricity is a clear opportunity to improve basic services to its citizens, boosting government legitimacy and acceptance in areas under its control, especially as it seeks to retake territory from IS.

Khatteeb and Istepanian hold that a comprehensive strategy is needed, one that incorporates an expanded role for the private sector, rationalized electricity tariffs, and a host of technical fixes to improve efficiency. Ultimately, they contend, much will depend on whether the government of Prime Minister Haidar al-Abadi views the IS threat as an excuse for inaction or an impetus for change.

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The Muslim Brotherhood has faced a great deal of opposition in the Middle East in recent years, with Egypt, Saudi Arabia, and the United Arab Emirates all declaring it to be a terrorist organization. Jordan’s Muslim Brotherhood, which has historically operated as a loyal opposition to the palace, has also come under fire as regional instability has dampened Jordanians’ appetite for protest and reform. While the group still enjoys significant public support, it is facing a number of internal tensions, culminating in its recent split. How can the Jordanian Muslim Brotherhood retain its political clout? Can it play a role in stabilizing and strengthening Jordan?

Read The Muslim Brotherhood in Jordan: Time to reform

In this new Policy Briefing, Neven Bondokji discusses the various reform efforts undertaken by Jordan’s Muslim Brotherhood since 2010, and argues that it urgently needs to see them through. She identifies key challenges, including the division over the Zamzam reform initiative, overlap between the movement and its affiliated political party, the inclusion of women, the ongoing ideological shifts in the movement’s political discourse, and generational tensions. Additionally, Bondokji examines how Jordan’s East Banker-Palestinian fault line is manifested within the Brotherhood.

Bondokji makes a series of recommendations, including that the Muslim Brotherhood ensure the independence of its political party’s leadership and decision-making, actively engage in and disseminate discourse on plural politics and policy debates, and introduce new leaders and styles of communication. She also asserts that Jordan’s government must empower political parties and allow for a more representative parliament. The application of such reforms, Bondokji concludes, would allow Jordan’s Muslim Brotherhood to be an asset in the country’s efforts against destabilizing extremism.

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Editor's Note: this article originally appeared in the 2012 Print Version of AARP: The Journal.

Using one platform to offer a variety of services

Known in the UK under the term “corporate platform” to indicate that it expands options available on the employer’s benefit platform, the development allows employees to use the employer’s retirement savings mechanism to save and invest for additional nonretirement purposes. When the corporate platform is fully implemented, employees will be able to man­age almost all of their investments and savings plans from one location, thus giving them a con­solidated view of their entire financial status. If carried to its full potential, the expanded saving platform will allow employees to shop for sav­ings products, among options that are available on the platform, instead of having to seek them out from individual suppliers—a search that often takes up work hours. Of even greater value, it gives employees one source to go to for indi­vidualized advice or financial literacy training.

The enhancement has special significance in the UK, where by fall 2012, the larger employers that don’t offer any other type of pension or retirement savings plan, must begin to automatically enroll their employees into basic retirement savings accounts. This requirement is causing a great deal of discussion about the future role of employer-provided benefits, as well as recon­sideration of the fees and services included in a traditional package. The platform enhancements allow an employer to differentiate its employee benefit package from the required basic account structure. It also gives younger employees a benefit of more immediate value, than they would have from a retirement savings account that they won’t access for a good 40 years.

Presentations from a variety of service providers at an October 2011 summit hosted by Pensions Insight, a UK trade journal, showed that the platform can be easily customized to meet the special needs of a specific workforce. Using a single computer interface, employees can select from a wide variety of savings and investment options that are appropriate for their income level and stage of life. Thus, an upper income manager who manages his or her own finances could see more sophisticated products, while an entry-level worker sees more basic sav­ings products. Live presentations by financial professionals who explain what is available on the computer platform add to the system’s value and increase its use.

A place to provide choice and to build financial literacy

The platform will have special value for moderate- and lower-income employees. While higher salaried employees may appreciate the opportunity to build their investments, the real value of the platform will be to enable moder­ate- and lower-income workers to find savings opportunities that they might otherwise miss because they don’t know where to go, are uncertain about what is a fair price, or for a variety of other reasons. Because employees tend to believe that services included on the corporate platform are implicitly endorsed by the employer, they usually have greater faith that the services are from legitimate providers at a fair price.

Employees at all levels can also use the site to receive guidance on individual products or basic financial literacy training. Individuals can choose from a range of options, from short videos on a specific topic by experts or fellow employees, to longer connected courses designed to meet the needs of specific age or income groups. Use is increased when employ­ees receive emails or text messages geared to birthdays or other life events, or generated after the employee visits a specific part of the website.

Understanding the value of peer evaluations to motivate others, some providers include a place where employees can post feedback about spe­cific products or savings choices. These postings help to guide other employees’ decisions and build the reputation of the platform as a source of unbiased information. The site can also include links to outside advisors who can answer specific questions, guide employees to another site for more information, or perform other services either online or over the telephone.

Differing age groups can be contacted and guided through different technologies. At the UK platform summit, David Harris, of Tor Financial Consulting, showed that younger employees preferred different communication methods than either older workers or the usual way employers provide information. However, the platform is able to use a wide variety of methods and is equally effective no matter which is used.

The platform’s value to international policy makers

Although the UK’s platform is intended as an enhancement to employer-provided benefits, it can also be used for a wide variety of policy goals, as the basic structure can be easily adapted to meet almost any nation’s specific tax and savings system. In the United States alone, policy experts have proposed dedicated savings accounts for nonretirement purposes ranging from unemployment benefits and retraining, home purchases, health care, and long-term health care coverage, to repaying student loans or building college balances for children or grandchildren. However, if all of these various accounts were established and funded, it is doubtful the employee would have any money left for food, clothing, and shelter.

Rather than having a host of specific savings programs, employees may be better served by more flexible accounts usable for a variety of purposes, as outside developments or chang­ing needs dictate. The platform concept would allow individuals to choose which purposes they need to save for and how much to save for each. Combined with targeted guidance or education, this structure could expose individuals to pos­sibilities they might not have considered before.

The structure is ideally suited to employment situations, but it could also be used by the self-employed or by consultants at sites aimed specifically at them and sponsored by trade associations, unions, or even government agen­cies. While their circumstances may preclude payroll deductions, the same products could be offered through direct debits to bank accounts.

The added value of nudge

The flexibility of the platform allows it to be used by employees with all levels of financial sophistication, but new participants would benefit from a variation on automatic enroll­ment that places certain amounts, in addition to the retirement savings amount, into a general savings account or similar vehicle. The automatic savings amounts deducted need not be large, and where the law allows, could vary according to employee age, with a larger proportion of the overall deduction going to nonretirement purpose for younger employees and to retirement for older ones.

As with automatic retirement enrollment, the employee would have the ability to vary amounts, divide the total among various accounts, and even stop all future contributions. However, automatic enrollment would offer workers direct experience with the nonretire­ment side of the platform. By varying enrollment in various accounts according to employees’ age, automatic enrollment could encourage them to consider saving for various purposes, such as a first home, college tuition for children, or additional health services.

Improving retirement security

Although the platform is applicable to a wide variety of other uses, its primary purpose is to build retirement security. Before retirement, the platform helps employees understand how to save, what they have, and how much more they need for a comfortable lifestyle. The other savings provide funds that can be used in the event of an emergency, thus helping to reduce leakage from retirement accounts in countries that allow early access to that money. At retire­ment, the platform helps individuals to see what other assets are available, and what loans or other liabilities must be factored in. In the UK, it is also being used to encourage individuals to use annuities and add them to their invest­ments. The UK experience can help to guide US policymakers in their efforts to increase the use of similar products.

The enhanced information and flexibility of the corporate platform should help individuals to better understand their finances and how to meet their goals. It moves retirement savings plans from a minor part of employees’ financial lives, to a central feature that has many more uses than just an event many years in the future. This promotes regular use of the platform, and a fuller understanding of what is necessary for a comfortable retirement.

      

American experience strongly suggests that the coming UK pension freedoms sound better in theory than they will work in practice. After nearly a decade where the UK has been the gold standard for retirement savings policy, it is about to take a step that it may regret.

As annuity purchases are not required, very few Americans buy them, feeling that they are spending a great deal of money for a comparatively small monthly income. Even those in traditional DB pension plans usually take a lump sum if they are allowed to do so. As a result, many US retirees spend unwisely, trust the wrong financial advisor, or make other financial mistakes.

Many people greatly overestimate how long their savings will last. Most others assume (often wrongly) that they can manage their own money as well as anyone else or that they can live comfortably on Social Security alone. U.S. Social Security pays a benefit that depends on the retirees’ individual income history. The average annual amount is about $13,000 (GBP 8,700).

One survey found that in West Virginia, a state with a relatively low average income, 78% of those near retirement and 67% of those at retirement would likely outlive their financial assets. Workers with lower incomes are most at risk. A recent national study found that by the 20th year of retirement, more than 81% of Americans with incomes up to $27,000 would run short of money, as would 38% of those earning up to $42,000, and 19% of those with incomes up to $65,000.  Even 8% of those with the highest incomes could not meet their expenses.

Advice alone is not likely to help. US experience shows that literally every minute that passes after general advice is given reduces the chance that the consumer will act on it – even when they have decided to do so. And even a significant number of those who consult with a financial planner fail to act on that guidance.

What does show promise is income illustration. In a 2014 U.S. survey, 85% of plan participants found estimates of the income they could anticipate from their retirement savings useful, and 35% said that they would save more. Income illustrations change the framing of retirement saving from gross amounts saved to retirement income.  Annuity-like products become insurance against running out of money, something Americans are increasingly concerned about.

Two other potential developments may help. One is longevity insurance, an annuity that provides income only after a set age. Purchasing a policy defines how long one must make retirement savings last, and the retiree is protected against running out of money. Because longevity insurance is deferred, one can receive higher amounts of monthly income for a lower cost.  In 2014, $50,000 would buy $275 a month at age 65 or $1200 a month starting at age 80.

Another idea is an automatic enrollment trial annuity. As developed by several Brookings Institution colleagues and me, new retirees would automatically use part of their savings for a two year annuity unless the retiree refused it. The rest of their savings would be available as a lump sum. After the trial period, the annuity would become permanent if they did nothing or they could cancel it and take the rest of their money as a lump sum.

The many annuity horror stories from the UK show a definite need for change, but the coming reforms go too far. US experience suggests that too many UK retirees are likely to see their savings exhausted all too quickly. There are alternatives that could do a better job of protecting retirees.

       

In many policy-related situations, the states can be useful laboratories to determine the most appropriate federal actions. Variations across states in health care programs, earned income credit rules, minimum wages, and other policies have helped inform debates about federal interventions.

In this paper, we reverse that approach. Many state and local governments currently face difficulties financing future pension obligations for their workers. The federal government, however, faced similar circumstances in the 1980s and successfully implemented a substantial reform. We examine the situation the federal government faced and how it responded to the funding challenge. We present key aspects of the situation facing state governments currently and draw comparisons between them and the federal situation in the 1980s. Our overarching conclusion is that states experiencing distress today about the cost and funding of its pension plans could benefit from following an approach similar to the federal government’s resolution of its pension problems in the 1980s.

The federal government retained the existing Civil Service Retirement System (CSRS) for existing employees and created a new Federal Employees’ Retirement System (FERS) for new employees. FERS combined a less generous defined benefit plan than CSRS, mandatory enrollment in Social Security, and a new defined contribution plan with extensive employer matching. Although we do not wish to imply that a “one size fits all” solution applies to the very diverse situations that different states face, we nonetheless conclude that the elements of durable, effective, and just reforms for state pension plans will likely include the major elements of the federal reform listed above.

Section II discusses the federal experience with pension reform. Section III discusses the status and recent developments regarding state and local pensions. Section IV discusses the similarities in the two situations and how policy changes structured along the lines of the federal reform could help state and local governments and their employees.

Download "Public Pensions in Flux: Can the Federal Government’s Experiences Inform State Responses?" »

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Editor's Note: In the coming decade, China’s economic growth is projected to slow from its long-run average annual rate of 10 percent, sustained over the past three decades. The imminent slowdown also reflects a variety of specific structural challenges. Arthur Kroeber argues that responding effectively to these challenges requires a broad set of reforms in the financial sector, fiscal policy, pricing of key factors such as land and energy which are now subject to extensive government manipulation, and the structure of markets.

In the coming decade, China’s economic growth will certainly slow from the long-run average annual rate of 10% sustained over the past three decades. In part this is a natural slowdown in an economy that is now quite large (around US$7 trillion at market exchange rates) and solidly middle-income (per capita GDP of about US$7,500, at purchasing power parity). Despite the certainty of this slowdown, China’s potential growth rate remains high: per-capita income is still far below the level at which incomes in the other major northeast Asian economies (Japan, South Korea and Taiwan) stopped converging with the US level; the per-capita capital stock remains low, suggesting the need for substantial more investment; and the supply of low-cost labor from the traditional agricultural sector has not yet been exhausted. All these factors suggest it should be quite possible for China to achieve average annual real GDP growth of at least 7% a year through 2020.[1]

But the imminent slowdown also reflects a variety of specific structural challenges which require active policy response. Inadequate policies could result in a failure of China to achieve its potential growth rate. Three of the most prominent structural challenges are a reversal of demographic trends from positive to negative; a substantial secular decline in the contribution of exports to growth; and the very rapid increase in credit created by the 2009-10 stimulus program, which almost certainly led to a substantial reduction of the return on capital. Responding effectively to these challenges requires a broad set of reforms in the financial sector, fiscal policy, pricing of key factors such as land and energy which are now subject to extensive government manipulation, and the structure of markets. This paper will argue that financial sector reform is the best and most direct way to overcome these three major structural challenges.

1. China’s growth potential

There are several strong reasons to believe that China has the potential to sustain a fairly rapid rate of GDP growth for at least another decade. We define “fairly rapid” as real growth of 7% a year, which is a very high rate for an economy of China’s size (US$7 trillion), but substantially below the average growth rate since 1980, which has been approximately 10%.

The most general reason for this belief is that China’s economic growth model most closely approximates the successful “catch-up” growth model employed by its northeast Asian neighbors Japan, South Korea and Taiwan in the decades after World War II. The theory behind “catch-up” growth is simply that poor countries whose technological level is far from the global technological frontier can achieve substantial convergence with rich-country income levels by copying and diffusing imported technology. Achieving this catch-up growth requires extensive investments in enabling infrastructure and basic industry, and an industrial policy that focuses on promoting exports. The latter condition is important because a disciplined focus on exports forces companies to keep up with improvements in global technology; in effect, a vibrant export sector is one (and probably the most efficient) mechanism for importing technology.

A survey of 96 major economies from 1970 to 2008 shows that 14 achieved significant convergence growth, defined as an increase of at least 10 percentage points in per capita GDP relative to the United States (at purchasing power parity). Eight of these countries were on the periphery of Europe and so presumably benefited from the spillover effects of western Europe’s rapid growth after World War II, and from the integration of eastern and western Europe after 1990. The other six were Asian export-oriented economies: Japan, South Korea, Taiwan, Malaysia, Thailand and China. Most of these countries experienced a period of very rapid convergence with US income levels and then a sharp slowdown or leveling off. On average, rapid convergence growth ended when the country’s per capita GDP reached 55% of the US level. The northeast Asian economies that China most closely resembles were among the most successful: convergence growth in Japan, Taiwan and South Korea slowed at 90%, 60% and 50% of US per capita income respectively. In 2010 China’s per capita income was only 20% of the US level. Based on this comparative historical experience, it seems plausible that China could enjoy at least one more decade of relatively rapid growth, until its per capita income reaches 40% or more of the US level.[2]

So China’s growth potential is fairly clear. But realizing this potential is not automatic: it requires a constant process of structural reform to unlock labor productivity gains and improve the return on capital. The urgency of structural reform is particularly acute now. To understand why, we now examine three structural factors that are likely to exert a substantially negative effect on economic growth in coming years.

2. Challenges to growth

When considering China’s structural growth prospects, it is necessary to take account of at least three major challenges to growth. Over the past three decades, rapid economic growth has been supported by favorable demographics, a very strong contribution from exports, and a large increase in the stock of credit. The demographic trend is now starting to go into reverse, the export contribution to growth has slowed dramatically in the last few years, and the expansion of credit cannot be safely sustained for more than another year or two at most.

Demographics. From 1975 to 2010, China’s “dependency ratio”—the ratio of the presumably non-working (young people under the age of 15 and old people above the age of 64) to the presumably working (those aged 15-64) fell from approximately 0.8 to 0.4. Over the same period the “prime worker ratio”—the ratio of people aged 20-59 to those 60 and above—stayed roughly stable at above 5. Both of these ratios indicate that China’s economy enjoyed a very high ratio of workers to non-workers. This situation is favorable for economic growth, because it implies that with a relatively small number of dependent mouths to feed, workers can save a higher proportion of their incomes, and the resulting increase in aggregate national saving becomes available for investment in infrastructure and basic industry.

Over the next two decades, however, these demographic trends will reverse. The dependency ratio will rise, albeit slowly at first, and the prime worker ratio will decline sharply from 5 today to 2 in the early 2030s. These demographic shifts are likely to exert a drag on economic growth, for two reasons.

The first impact, which is already being felt, is a reduction in the supply of new entrants into the labor force—those aged 15-24. This cohort has fluctuated between 200m and 230m since the early 1990s, and in 2010 it stood at the upper end of that range. By 2023 it will have fallen by one-third, to 150m, a far lower figure than at any point since China began economic reforms in 1978. Because the supply of new workers is falling relative to demand for labor, wage growth is likely to accelerate above the rate of labor productivity growth, which appears to be in decline from the very high levels achieved in 2000-2010. As a result, unit labor costs will start to rise (a trend already in evidence in the manufacturing sector since 2004) and inflationary pressures will build. In order to keep inflation at a socially acceptable level, the government will be forced to tighten monetary policy and reduce the trend rate of economic growth.

The second impact will be the large increase in the population of retirees relative to the number of workers available to support them. This is the effect described by the prime worker ratio, which currently shows that there are five people of prime working age for every person of likely retirement age. As this ratio declines, the overall productivity of the economy slows, and the health and pension costs of supporting an aging population rise. The combination of these two effects can contribute to a dramatic slowdown in economic growth: during the period when Japan’s prime worker ratio fell from 5 to 2 (1970-2005), the trend GDP growth rate fell from 8% to under 2% (though demographics, of course, does not explain all of this decline). Over the next 20 years China’s prime worker ratio will decline by exactly the same amount as Japan’s did from 1970-2005.

Export challenge. Another element of China’s extraordinary growth was its rapidly growing export sector. Exports are a crucial component of catch-up growth in poor economies because, as explained above, they act as a vector of technology transfer: in order to remain globally competitive, exporters must continually upgrade their technology (including their processes and management systems) to keep up with the continuous advance of the global technological frontier.

Precisely measuring the impact of exports on economic growth is tricky, because what matters is not headline export value (which contains contributions from imported components and materials), but the domestic value added content of exports. In addition, a dynamic export sector is likely to have indirect impacts on the domestic economy through the wages paid to workers, the long-run effect of technological upgrading and so on. If we ignore these second-round impacts and focus simply on the direct contribution to GDP growth of domestic value added in exports, we find that exports contributed 4.6 percentage points to GDP growth on average in 2003-07. In other words, exports accounted for about 40% of economic growth during that period.[3]

Such a high export contribution to growth is on its face unsustainable for a large continental economy like China’s, and in fact the export contribution has slowed substantially since the 2008 global financial crisis. In 2008-11 the average contribution of export value added to GDP growth was just 1.5 percentage points – about one-third the 2003-07 average. It is likely that the export contribution to growth will fall even further in coming years.

Credit challenge. China responded to the global financial crisis with a very large economic stimulus program which was financed by a large increase in the credit stock. The ratio of non-financial credit (borrowing by government, households and non-financial corporations) rose from 160% in 2008 to over 200% in 2011. While the overall credit/GDP ratio remains lower than the 250% that is typical for OECD nations, a rapid increase in the credit stock in a short period of time, regardless of the level, is frequently associated with financial crisis. In China’s case, it is evident that the majority of the increase in the credit stock reflects borrowing by local governments to finance infrastructure projects which are likely to produce economic benefit in the long run but which in many cases will result in immediate financial losses.[4] To avert a potential banking sector crisis, therefore, it would be prudent for government policy to target first a stabilization and then a decline in the credit/GDP ratio.

The good news is that China has recent experience of deflating a credit bubble. In the five years after the Asian financial crisis (1998-2003), the credit/GDP ratio rose by 40 percentage points (the same amount as in 2008-11) as the government financed infrastructure spending to offset the impact of the crisis. Over the next five years (2003-08), the credit/GDP ratio fell by 20 points, as nominal GDP growth (17% a year on average) outstripped the annual growth in credit (15%). This experience suggests that, in principle, it should be possible to reduce the annual growth in credit significantly without torpedoing economic growth.

The bad news is that the 2003-08 deleveraging occurred within the context of the extremely favorable demographics, and unusually robust export growth that we have just described. Not only are these conditions unlikely to be repeated in the coming decade, both these factors are likely to exert a drag on GDP growth. Given this backdrop, any reduction in the rate of credit growth must be accompanied by extensive measures to ensure that the productivity of each yuan of credit issued is far higher than in the past.

3. The role of financial sector reform

The three growth challenges described above are diverse, but they are reflections of a single broader issue which is that China’s ability to maintain rapid growth mainly through the mobilization of factors (labor and capital) is decreasing. Much of the high-speed growth of the last decade derived from a rapid increase in labor productivity which was in turn a function of an extremely high investment rate: as the amount of capital per worker grew, the potential output of each worker grew correspondingly (“capital deepening”). But the investment rate, at nearly 49% of GDP in 2011, must surely be close to its peak, since it is already 10 percentage points higher than the maximum rates ever reached by Japan or South Korea. So the amount of labor productivity gain that can be achieved in future by simply adding volume to the capital stock must be far less than during the last decade, when the investment/GDP ratio rose by 10 percentage points.

The obvious corollary is that if China’s ability to achieve rapid gains in labor productivity and economic growth through mobilization of capital is declining, these gains must increasingly be achieved by improved capital efficiency. More specifically, the tightening of the labor supply implied by the demographic transition means that unit labor cost growth will accelerate; all things being equal this means that consumer price inflation will be structurally higher in the next decade than it was for most of the last. This in turn means that nominal interest rates will need to be higher. As the cost of capital rises, the average rate of return on capital must also increase; otherwise a larger share of projects will be loss-making and the drag on economic growth will become pronounced.

On the export side, the dramatic slowdown in the contribution to economic growth from exports means the loss of a certain amount of “easy” productivity gains. Greater productivity of domestic capital could help offset the deceleration in productivity growth from the external sector. Finally, as just noted, the need to arrest or reverse the rapid rise in the credit/GDP ratio means that over the next several years, a given amount of economic growth must be achieved with a smaller amount of credit than in the past—in other words, the average return on capital (for which credit here serves as a proxy) must rise.

Conceptually this is all fairly straightforward. The problem for policy makers is that measuring the “productivity of capital” on an economy-wide basis is not at all straightforward. In principle, one could measure the amount of new GDP created for each incremental increase in the capital stock (the incremental capital output ratio or ICOR). But in practice calculating ICOR is cumbersome, and depends heavily on various assumptions, such as the proper depreciation rate. Moreover, in an industrializing economy like China’s, the ratio of capital stock to GDP tends to rise over time and therefore the ICOR falls; this does not mean that the economy misallocates capital but simply that it experiences capital deepening. Sorting out efficiency effects from capital deepening effects is a vexing task.[5]

A more practical approach is simply to examine the ratio of credit to GDP. There is no one “right” level of credit to GDP, since different economies use different proportions of debt and equity finance. But the trends in the credit to GDP ratio in a single country (assuming there is no major shift in the relative importance of debt and equity finance), which are easily measured, can serve as a useful proxy for trends in the productivity of capital, and provide some broad guidelines for policy.

Figure 1 shows the ratio of total non-financial credit to GDP in China since 1998 (all figures are nominal). Total non-financial credit comprises bank loans, bonds, external foreign currency borrowing, and so-called “shadow financing” extended to the government, households and non-financial corporations; it excludes fund-raising by banks and other financial institutions. This measure is similar to the measure of “total social financing” recently introduced by the People’s Bank of China. 

This shows, as noted previously, that the credit to GDP ratio rose sharply from 160% of GDP in 2008 to 200% in 2010. The current ratio is not abnormally high: many OECD countries have credit/GDP ratios of 250% or so, and Japan’s is around 350%. But it is obvious that the trend increase is worrying: if credit/GDP continues to rise at 20 percentage points a year then by 2015 it would hit 300%, a level much higher than is normal in healthy economies. It seems intuitively clear that to ensure financial stability, policy should target a stabilization or decline in the credit/GDP ratio. Success in this policy would imply that the productivity of credit, and capital more generally, improves.

The large increase in the credit/GDP ratio in 2008-10 is not unprecedented. Following the Asian financial crisis of 1997-98, the total credit stock rose from 143% of GDP in 1998 to 186% in 2003, an increase of 43 percentage points in five years, as a result of government spending on infrastructure and the creation of new consumer lending markets (notably home mortgages). During this period the credit stock grew at an average annual rate of 15.9%, but nominal GDP grew at just 10% a year.

Over the next five years, 2004-08, the average annual growth in total credit decelerated only slightly, to 14.8%. But thanks to a gigantic surge in productivity growth—caused by a combination of the delayed effect of infrastructure spending, deep market reforms (such as the restructuring of the state owned enterprise sector), and a boom in exports—nominal GDP growth surged to an average rate of 18.3%. As a consequence, the credit/GDP ratio declined to 160% in 2008, a decline of 26 percentage points from the peak five years earlier.

This experience shows that, in a developing country like China, it is quite possible to deflate a credit bubble relatively quickly and painlessly. To do so, however, two conditions must be met: the projects financed during the credit bubble must, in the main, be economically productive in the long run even if they cause financial losses in the short run; and structural reforms must accompany or quickly follow the credit expansion, in order to unlock the productivity growth that will enable deleveraging through rapid economic growth rather than through a painful recession. These conditions were clearly met during the 1998-2008 period: the expanded credit of the first five years mainly went to economically useful infrastructure such as highways, telecoms networks and port facilities; and deep structural reforms improved the efficiency of the state sector, expanded opportunities for the private sector, and created a new private housing market. This combination of infrastructure and reforms helped lay the groundwork for the turbo-charged growth of 2004-08.

The credit expansion of 2008-10, following the global financial crisis, was about the same magnitude as the credit expansion of a decade earlier: the credit/GDP ratio rose 40 percentage points, from 160% to 200%. But the expansion was much more rapid (occurring over two years instead of five), and while the bulk of credit probably did finance economically productive infrastructure, there is evidence that the sheer speed of the credit expansion led to far greater financial losses. A large proportion of the new borrowing was done by local government window corporations, often with little or no collateral and in many cases with no likelihood of project cash flows ever being large enough to service the loans. A plausible estimate of eventual losses on these loans to local governments is Rmb2-3 trn, or 4-7% of 2011 GDP.

Furthermore, whereas in the late 1990s restructuring of the state enterprise sector and creation of the private housing market took off at the same time the government began to expand credit, the 2008-10 credit expansion occurred without any significant accompanying structural reforms. In sum we have significantly less reason to be confident about the foundations for economic growth over the next five years than would have been the case in 2003.

On the assumption that the trend rate of nominal GDP growth over the next five years is likely be quite a bit less than in 2003-08, just how difficult will it be for China to stabilize or better yet reduce the credit to GDP ratio? For the purposes of analysis, Figure 1 proposes two scenarios. Both assume that nominal GDP will grow at an average rate of 13% in 2012-2015 (combining real growth of 7.5% a year with economy-wide inflation of 5.5%). The “stabilization” scenario assumes that total credit grows at the same 13% rate, stabilizing the credit/GDP ratio at around 200%. The “deleveraging” scenario assumes that credit growth falls to 9.5% a year, enabling a reduction in the credit/GDP ratio of 25 percentage points to 175%--about the same magnitude as the reduction of 2003-08.

A quick glance suggests that achieving either of these two outcomes will be far more difficult than in the previous deleveraging episode. In 2003-08, the average annual rate of credit growth was just one percentage point lower than during the credit bubble of 1998-2003. In other words, the work of deleveraging was accomplished almost entirely through economic growth, rather than through any material constraint on credit.

In the three years following the global financial crisis, by contrast, total credit expanded by 22.7% a year, generating nominal GDP growth of 14.1% on average. The required drop in average annual credit growth is 10 percentage points under the stabilization scenario and 13 points under the deleveraging scenario, while nominal GDP growth declines by only a point. In other words, this episode is likely to be the reverse of the 2003-08 episode: deleveraging will need to come almost entirely from a constraint on credit, rather than from economic growth.



Another way of looking at this is to examine the relationship between incremental credit and incremental GDP—that is, how many yuan of new GDP arise with each new yuan of credit. This calculation is presented in Figure 2. This shows that in 1998-2003 each Rmb1 of new credit generated Rmb0.39 of new GDP; this figure rose to 0.72 in 2003-08, an 84% increase in the productivity of credit. The GDP payoff from new credit in 2008-10 was far worse than in 1998-2003. Simply to stabilize the credit/GDP ratio at its current level will require a 73% increase in credit productivity. To achieve the deleveraging scenario, a 150% improvement will be required.

The good news is that under the deleveraging scenario, the average productivity of credit in 2011-2015 only needs to be the same as it was in 2003-08. In principle, this should be achievable. But as previously noted, the mechanism of improvement needs to be quite different this time round. In 2003-08, the productivity of credit rose because credit growth remained roughly constant while GDP growth surged, thanks to structural reforms that accelerated returns to both capital and labor. Over the next several years, by contrast, the best that can be hoped for is that GDP growth will remain roughly constant. Consequently any improvement in credit productivity must come from constraining the issuance of new credit, while substantially raising the efficiency of credit allocation and hence the returns to credit.

What are the main mechanisms for improving the efficiency of credit, and of financial capital more generally? Broadly speaking, there are two: diversification of credit channels, and more market-based pricing of credit. Historically most credit has been issued by large state-owned banks, which are subject to political pressure in their lending decisions, and the majority of credit has gone to state-owned enterprises. Diversifying the channels of credit to include a broader range of financial institutions, a more vigorous bond market, and even by encouraging the creation of dedicated small- and medium-size enterprise lending units within the big banks, should improve credit allocation by giving greater credit access to borrowers who were previously shut out simply by virtue of a lack of political connections. Over the past decade government policy has been broadly supportive of the diversification of credit channels: specialized consumer credit, leasing and trust companies have been allowed to flourish, and there is some anecdotal evidence that SME lending at the state owned banks has begun to pick up steam.

The government has been far more reluctant, however, to embrace systematic measures for improving the pricing of credit. Bank interest rates remain captive to the policy of regulated deposit rates. Guaranteed low deposit rates means that banks have little incentive to seek out and properly price riskier assets, and are content to earn a fat spread on relatively conservative loan books. Bond markets, which in more developed economies form the basis for pricing of financial risk, are in China large in primary issuance, but small in trading volumes. The majority of bonds are purchased by banks and other financial institutions and held to maturity, make them indistinguishable from bank loans. Active secondary market trading by a wide range of participants is the essential mechanism by which bond prices become the basis for financial risk pricing.

4. Conclusions and recommendations

China still has potential for another decade of relatively high speed growth, but a combination of structural factors means that “high speed” in future likely means a trend GDP growth rate of around 7%, well below the historic average of 10%. Moreover, a combination of negative trends in demographics and the external sector, and the need to constrain credit growth after the enormous credit expansion of 2008-2010, mean the obstacles to realizing this potential growth rate are quite large. In order to overcome these obstacles, the efficiency of credit, and of capital more generally, must be improved. A large increase in credit efficiency was achieved in the previous economic deleveraging episode of 2003-08, but that increase in efficiency resulted mainly from an acceleration in GDP growth due to capital deepening, rather than from a constraint on credit. Over the next several years, the best that can plausibly be achieved is a stabilization of nominal GDP growth at approximately the current level. Any increase in credit efficiency must therefore come from a constraint on credit growth and direct improvements in credit allocation, rather than from capital-intensive economic growth.

In order to achieve this improvement in credit efficiency, three improvements to China’s financial architecture are urgently needed. First, the diversification of financial channels should continue to be expanded, notably through the acceptance and proper regulation of so-called “shadow financing” activities, which reflect market pressure for higher returns to depositors and greater credit availability (at appropriate prices) for riskier borrowers. Second, the ceiling on bank deposit rates should gradually be lifted and ultimately abolished, in order to give banks incentives for increased lending at appropriate prices to riskier borrowers who (it is to be hoped) will deliver a higher risk-adjusted rate of return than current borrowers. Third, steps should be taken to increase secondary trading on bond markets, in order to enable these markets to assume their appropriate role as the basis of financial risk pricing. Particular stress should be laid on diversifying the universe of financial institutions permitted to trade on bond markets, to include pension funds, specialized fixed-income mutual funds and other institutional investors with a vested interest in active trading to maximize both short- and long-term returns.

 

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Following the global financial crisis of 2008, China’s authorities took a number of steps to internationalize the use of the Chinese currency, the renminbi. These included the establishment of currency swap lines with foreign central banks, encouragement of Chinese importers and exporters to settle their trade transactions in renminbi, and rapid expansion in the ability of corporations to hold renminbi deposits and issue renminbi bonds in the offshore renminbi market in Hong Kong.

These moves, combined with public statements of concern by Chinese officials about the long-term value of the central bank’s large holdings of U.S. Treasury securities, and the role of the U.S. dollar’s global dominance in contributing to the financial crisis, gave rise to widespread speculation that China hoped to position the renminbi as an alternative to the dollar, initially as a trading currency and eventually as a reserve currency.

This paper contends that, on the contrary, the purposes of the renminbi internationalization program are mainly tied to domestic development objectives, namely the gradual opening of the capital account and liberalization of the domestic financial system. Secondary considerations include reducing costs and exchange-rate risks for Chinese exporters, and facilitating outward direct and portfolio investment flows. The potential for the currency to be used as a vehicle for international finance, or as a reserve asset, is severely constrained by Chinese government’s reluctance to accept the fundamental changes in its economic growth model that such uses would entail, notably the loss of control over domestic capital allocation, the exchange rate, capital flows and its own borrowing costs.

This paper attempts to understand the renminbi internationalization program by addressing the following issues:

1. Definition of currency internationalization

2. Specific steps taken since 2008 to internationalize the renminbi

3. General rationale for renminbi internationalization

4. Comparison with prior instances of currency internationalization, notably the U.S. dollar after 1913, the development of the Eurodollar market in the 1960s and 1970s; and the deutsche mark and yen in 1970-1990

5. Understanding the linkage between currency internationalization and domestic financial liberalization

6. Prospects for and constraints on the renminbi as an international trading currency and reserve currency

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• China’s Global Currency: Lever for Financial Reform

      

The much anticipated Third Plenum of the Chinese Communist Party’s 18^th Congress closed its four-day session last Tuesday. A relatively bland initial communiqué was followed today by a detailed decision document spelling out major initiatives including a relaxation of the one-child policy, the elimination of the repressive “re-education through labor” camps, and a host of reforms to the taxation and state-owned enterprise systems. Today’s blizzard of specific reform pledges allays earlier concerns that the new government led by party chief Xi Jinping and premier Li Keqiang would fail to set major policy goals. But is this enough to answer the three biggest questions analysts have had since Xi and  Li ascended a year ago?

Those questions are, first, do Xi and his six colleagues on the Politburo standing committee have an accurate diagnosis of China’s structural economic and social ailments? Second, do they have sensible plans for addressing these problems? And third, do they have the political muscle to push reforms past entrenched resistance by big state owned enterprises (SOEs), tycoons, local government officials and other interest groups whose comfortable positions would be threatened by change? Until today, the consensus answers to the first two questions were “we’re not really sure,” and to the third, “quite possibly not.”

These concerns are misplaced. It is clear that the full 60-point “Decision on Several Major Questions About Deepening Reform”[1] encompasses an ambitious agenda to restructure the roles of the government and the market. Combined with other actions from Xi’s first year in office – notably a surprisingly bold anti-corruption campaign – the reform program reveals Xi Jinping as a leader far more powerful and visionary than his predecessor Hu Jintao. He aims to redefine the basic functions of market and government, and in so doing establish himself as China’s most significant leader since Deng Xiaoping. Moreover, he is moving swiftly to establish the bureaucratic machinery that will enable him to overcome resistance and achieve his aims. It remains to be seen whether Xi can deliver on these grand ambitions, and whether his prescription will really prove the cure for China’s mounting social and economic ills. But one thing is for sure: Xi cannot be faulted for thinking too small.

Main objective: get the government out of resource allocation

The four main sources we have so far on Xi’s reform strategy are the Plenum’s Decision, the summary communiqué issued right after the plenum’s close,[2] an explanatory note on the decision by Xi,[3] and a presumably authoritative interview with the vice office director of the Party’s Financial Leading Small Group, Yang Weimin, published in the People’s Daily on November 15, which adds much useful interpretive detail.[4] Together they make clear that the crucial parts of the Decision are as follows:

• China is still at a stage where economic development is the main objective.
• The core principle of economic reform is the “decisive” (决定性) role of market forces in allocating resources (previous Party decisions gave the market a “basic” (基础）role in resource allocation.
• By implication, the government must retreat from its current powerful role in allocating resources. Instead, it will be redirected to five basic functions: macroeconomic management, market regulation, public service delivery, supervision of society (社会管理), and environmental protection.

In his interview, Yang Weimin draws a direct comparison between this agenda and the sweeping market reforms that emerged after Deng Xiaoping’s southern tour in 1992, claiming that the current reform design is a leap forward comparable to Deng’s, and far more significant than the reform programs of Jiang Zemin and Hu Jintao.

This a very bold and possibly exaggerated claim. But the basic reform idea – giving the market a “decisive” role in resource allocation – is potentially very significant, and should not be dismissed as mere semantics. Over the last 20 years China has deregulated most of its product markets, and the competition in these markets has generated enormous economic gains. But the allocation of key inputs – notably capital, energy, and land – has not been fully deregulated, and government at all levels has kept a gigantic role in deciding who should get those inputs and at what price. The result is that too many of these inputs have gone to well-connected state-owned actors at too low a price. The well-known distortions of China’s economy – excessive reliance on infrastructure spending, and wasteful investment in excessive industrial capacity – stem largely from the distortions in input prices.

Xi’s program essentially calls for the government to retreat from its role in allocating these basic resources. If achieved, this would be a big deal: it would substantially boost economic efficiency, but at the cost of depriving the central government of an important tool of macro-economic management, and local governments of treasured channels of patronage. As a counterpart to this retreat from direct market interference, the Decision spells out the positive roles of government that must be strengthened: macro management and regulation, public service delivery, management of social stability, and environmental protection. In short, the vision seems to be to move China much further toward an economy where the government plays a regulatory, rather than a directly interventionist role.

Keep the SOEs, but make them more efficient

Before we get too excited about a “neo-liberal” Xi administration, though, it’s necessary to take account of the massive state-owned enterprise (SOE) complex. While Xi proposes that the government retreat from its role in manipulating the prices of key inputs, it is quite clear that the government’s large role as the direct owner of key economic assets will remain. While the Decision contains a number of specific SOE reform proposals (such as raising their dividend payout ratio from the current 10-15% to 30%, and an encouragement of private participation in state-sector investment projects), it retains a commitment to a very large SOE role in economic development. The apparent lack of a more aggressive state-sector reform or privatization program has distressed many economists, who agree that China’s declining productivity growth and exploding debt are both substantially due to the bloated SOEs, which gobble up a disproportionate share of bank credit and other resources but deliver ever lower returns on investment.

The communiqué and the Decision both make clear that state ownership must still play a “leading role” in the economy, and it is a very safe bet that when he retires in 2022, Xi will leave behind the world’s biggest collection of state-owned enterprises. But while privatization is off the table, subjecting SOEs to much more intense competition and tighter regulation appears to be a big part of Xi’s agenda. In his interview, Yang Weimin stresses that the Plenum decision recognizes the equal importance of both state and non-state ownership – a shift from previous formulations which always gave primacy to the state sector. Moreover, other reports suggest that the mandate of the State-owned Assets Supervision and Administration Commission (Sasac), which oversees the 100 or so big centrally-controlled SOE groups, will shift from managing state assets to managing state capital.[5] This shift of emphasis is significant: in recent years SOEs have fortified their baronies by building up huge mountains of assets, with little regard to the financial return on those assets (which appears to be deteriorating rapidly). Forcing SOEs to pay attention to their capital rather than their assets implies a much stronger emphasis on efficiency.

This approach is consistent with a long and generally successful tradition in China’s gradual march away from a planned economy. The key insight of economic reformers including Xi is that the bedrock of a successful modern economy is not private ownership, as many Western free-market economists believe, but effective competition. If the competitive environment for private enterprises is improved – by increasing their access to capital, land and energy, and by eliminating regulatory and local-protectionist barriers to investment – marginal SOEs

must either improve their efficiency or disappear (often by absorption into a larger, more profitable SOE, rather than through outright bankruptcy). As a result, over time the economic role of SOEs is eroded and overall economic efficiency improves, without the need to fight epic and costly political battles over privatization.

Can Xi deliver?

Even if we accept this view of Xi as an ambitious, efficiency-minded economic reformer, it’s fair to be skeptical that he can deliver on his grand design. These reforms are certain to be opposed by powerful forces: SOEs, local governments, tycoons, and other beneficiaries of the old system. All these interest groups are far more powerful than in the late 1990s, when Zhu Rongji launched his dramatic reforms to the state enterprise system. What are the odds that Xi can overcome this resistance?

Actually, better than even. The Plenum approved the formation of two high-level Party bodies: a “leading small group” to coordinate reform, and a State Security Commission to oversee the nation’s pervasive security apparatus. At first glance this seems a classic bureaucratic shuffle – appoint new committees, instead of actually doing something. But in the Chinese context, these bodies are potentially quite significant.

In the last years of the Hu Jintao era, reforms were stymied by two entrenched problems: turf battles between different ministries, and interference by security forces under a powerful and conservative boss, Zhou Yongkang. Neither Hu nor his premier Wen Jiabao was strong enough to ride herd on the squabbling ministers, or to quash the suffocating might of the security faction. By establishing these two high-level groups (presumably led by himself or a close ally), Xi is making clear that he will be the arbiter of all disputes, and that security issues will be taken seriously but not allowed to obstruct crucial economic or governance reforms.

The costs of crossing Xi have also been made clear by a determined anti-corruption campaign which over the last six months has felled a bevy of senior executives at the biggest SOE (China National Petroleum Corporation), the head of the SOE administrative agency, and a mayor of Nanjing infamous for his build-at-all-costs development strategy. Many of the arrested people were closely aligned with Zhou Yongkang. The message is obvious: Xi is large and in charge, and if you get on the wrong side of him or his policies you will not be saved by the patronage of another senior leader or a big state company. Xi’s promptness in dispatching his foes is impressive: both of his predecessors waited until their third full year in office to take out crucial enemies on corruption charges.

In short, there is plenty of evidence that Xi has an ambitious agenda for reforming China’s economic and governance structures, and the will and political craft to achieve many of his aims. His program may not satisfy market fundamentalists, and he certainly offers no hope for those who would like to see China become more democratic. But it is likely to be effective in sustaining the nation’s economic growth, and enabling the Communist Party to keep a comfortable grip on power.

Editor's Note: Arthur Kroeber is the Beijing-based managing director of Gavekal Dragonomics, a global macroeconomic research firm, and a non-resident fellow of the Brookings-Tsinghua Center. A different version of this article appears on www.foreignpolicy.com.

       

After the enthusiasm which greeted the launch of Chinese President Xi Jinping’s landmark reform blueprint at the Third Plenum of the 18th Central Committee in November 2013, the mood among observers of China’s economy has gradually soured. A common view is that progress on economic reforms has been slow, bogged down not only by the opposition of vested interests but also by the government’s own distraction with its endless anti-corruption campaign, and by its anxiousness to support short-term growth through easy monetary policy.

This popular take misses the mark in three respects. First, the top priority of Xi’s reform is not about economics; it is to remake China’s system of governance. Successful reform of government and administration, along with more specific market reforms, will, in turn, enable more sustainable economic growth. Second, China’s leaders clearly reject the view that to be serious about structural economic reform, they must accept a sharp cyclical slowdown. Instead, they believe that maintaining relatively rapid growth in the short term will give them more breathing room to push through their complex economic agenda. Finally, a tally of economic reform measures this year shows that progress has in fact been impressively brisk.

Governance, Not Economics, Tops the Agenda

Understanding the primacy of governance reform is essential to grasping the role of the anti-corruption campaign, which has resulted in the investigation or disciplining of over 70,000 officials at all levels of government in virtually every province, and has now spread to senior levels of the People’s Liberation Army. This campaign is often portrayed as a cynical effort by Xi Jinping to consolidate power, eliminate his enemies and curtail the influence of retired senior leaders, notably former Presidents Jiang Zemin and Hu Jintao. These motives no doubt play a large role, but the campaign is too far-reaching, and has gone on for too long, for them to be a full explanation.

It is now apparent that the campaign’s central goal is to sharply reduce the system’s tolerance of corruption, which has been quite high since the beginning of economic reforms in the late 1970s. This, in turn, suggests a desire to renegotiate the basic bargain between the central and local governments that has held throughout the reform period. In essence, that bargain tasked local officials with maximizing economic growth, in exchange for which they were tacitly permitted to skim off part of the financial gains from that growth. Central authorities only cracked down when the graft reached grotesque proportions (as with smuggling scandals in Xiamen and other coastal cities in south China in the late 1990s), or when political and policy interests converged in an exemplary prosecution (as in the purge of Shanghai party Secretary Chen Liangyu in 2005, which both removed a Politburo rival to Hu Jintao and sent a message to cities to rein in property speculation).

This bargain proved effective in stimulating sustained rapid growth while China was still a low-income country. But the nation’s economy has now matured and with a per capita national income of $6,560, China now qualifies as an upper-middle income country, by the World Bank’s definition. To sustain high growth at this income level, China needs better governance, a more reliable legal system and considerably less corruption. Thus, the anti-graft campaign is not incidental to or a distraction from the main reform agenda—it is an essential part of the foundation of a more successful economic and political system.

Similarly, the legal system reform outlined at the Fourth Plenum in October, while disappointing many Western observers because it sanctified the Communist Party’s position above the laws that apply to everyone else, is in fact a significant step towards a more consistent, predictable, rules-based system. As Cheng Li has pointed out, the very act of devoting a Plenum to legal issues has made possible a discussion about how to create rule of law in China (see “Fourth Plenum Has Opened Discourse on Constitutionalism, Governance”). And the specific reforms that legal scholars believe are likely—creation of circuit courts to limit the influence of parochial interests, more consistent publication of court decisions, prohibition on Party interference in most cases and the creation of limited avenues for public-interest litigation against polluting industries—have the potential to make Chinese governance fairer, more transparent and more responsive to citizens' concerns. As with the anti-corruption drive, a key theme is to readjust the balance of power in favor of the central government at the expense of the localities.

A final element in the governance reform agenda is the important but often-overlooked fiscal program adopted by the Politburo on June 30. By 2016, China will complete its first major overhaul of the nation’s taxation and government spending system in two decades. Key items include the elimination of land-based local government financing and its replacement by provincial bond issues; restructuring of taxes to reduce local governments’ revenue shortfalls and encourage them to promote consumer services, rather than heavy industry; and stronger resource and environmental taxes to arrest environmental degradation and promote more efficient energy use. Once more, much of the focus is on redefining the core role of local governments: their main mission will shift from promotion of economic growth to effective provision of public services.

Cyclical Economic Management Supports the Reform Agenda

Once we understand the primary role of governance, the sequencing of reform measures becomes more evident, and the relative tardiness of more narrowly economic reforms becomes more understandable. But skeptics have another concern: that the government is losing sight of its long-term structural reform goals in a desperate effort to keep short-term gross domestic product (GDP) growth above seven percent. The premise of this worry is that unless the authorities are willing squeeze out inefficiencies and curb the rapid rise in debt—measures which inevitably require a sharp slowdown in growth—then the structural reforms have little chance of success. In short, the economic model cannot change unless the old, bad habits are punished by clear failure.

Two pieces of recent evidence support this view. First, early in 2014, Beijing relaxed monetary policy and started removing long-standing administrative restrictions on house purchases, in order to prop up a property market that seemed on the brink of collapse. These measures reversed the tight monetary policy of the second half of 2013, which succeeded in bringing credit growth down from 23 percent in April to around 16 percent by the end of the year. Second, the new, looser policy meant that the country’s aggregate debt-to-GDP ratio continued to rise in 2014. After rising from 145 percent of GDP in 2008 to 220 percent in 2013, this ratio continued to climb in 2014 and now exceeds 230 percent of GDP. In absolute terms, this figure is not alarming—most developed countries, including the United States, have significantly higher ratios. But the rapid increase in leverage in a short time is usually a harbinger of financial problems.

It is a mistake, however, to assume that the continued increase in leverage shows that Beijing is incurably addicted to its old debt-fueled growth model, or that the authorities have decided to prioritize growth over reform. First of all, the credit stimulus used to support the property market this year was extremely modest: the year-on-year growth rate of credit ticked up only about one percentage point for a few months, and quickly dropped again once stimulus was withdrawn. The removal of administrative restrictions on house purchases arguably played a larger role in the property stabilization than did easy credit.

More important, Beijing’s approach to deleveraging is a deliberate policy choice driven by the conviction that growth and reform are partners, rather than antagonists. A relevant comparison is the debate between U.S. and European policymakers after 2008 about the appropriate response to the global financial crisis, which left the rich economies stuck with low growth and big debts. Washington argued that policy must focus on sustaining growth (through ultra-easy monetary policy and large fiscal deficits), and that fiscal consolidation should take a back seat. European officials, especially in Germany, argued that fiscal consolidation and debt reduction had to be a top priority, even if it harmed growth. Beijing obviously favors an American-style approach to deleveraging and structural adjustment. Given the superior performance of the U.S. economy (relative to Europe) since the global crisis, this is a defensible choice.

Economic Reforms are Proceeding Smartly

The last point is that, in fact, China’s rollout of specific reform measures over the past year has been impressive. In addition to the fiscal reform package, whose significance has been severely underrated by the market-obsessed international financial media, achievements of 2014 include:

• Abolition of registered capital requirements for new firms, which caused growth in new-company registrations to surge to over 20 percent, the highest rate in a decade.

• Switching the resource tax on coal from a volume to a value basis, a long-delayed measure which should discourage excessive investment and promote energy efficiency.

• Publication of a plan to deregulate all pharmaceutical prices beginning in 2015.

• Publication by virtually all provinces of plans for “mixed-ownership” reform of state enterprises.

• A significant opening of the capital account via the Shanghai-Hong Kong Connect program which permits investors in those two financial hubs to put money directly in each others’ stock markets.

• The publication of draft rules on deposit insurance, paving the way for implementation next year, followed by full liberalization of deposit interest rates.

Clearly these are just initial steps and much work needs to be done to broaden these reforms in ways that will have material impact on China’s $8 trillion economy. But it is hard to think of another major world leader whose government has accomplished so much in such a short period of time. Japanese Prime Minister Shinzo Abe, for instance, came to office two years ago promising “three arrows” of monetary easing, expansive fiscal policy and deep structural reform. So far he has delivered only one—monetary easing, which has driven the yen down and the stock market up—but structural reform is missing in action and fiscal policy was disastrously captured by Ministry of Finance hawks, whose consumption-tax increase drove the country into a needless recession. The U.S. government is gridlocked and is still fighting over a health care reform law passed five years ago. Six years after the global crisis, Italy has just begun to put in place long-overdue reforms to its labor market, and France, under its last two presidents, has done nothing at all to address its structural economic malaise. Xi Jinping can certainly be criticized on many issues, but failure to deliver on his reform agenda is not one of them.

       

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While countless factors have contributed to China’s dramatic economic transformation, the groundbreaking economic reforms instituted by Premier Zhu Rongji from 1998 to 2003 were critical in setting the stage for China to become one of the world’s dominant economic powers. From combatting corruption and inefficient state-owned enterprises at home to engineering China’s ascension to the World Trade Organization, Zhu left behind a legacy on which successive administrations have sought to build. What similarities, differences or parallels can be drawn between Zhu’s time and today? And what lessons can China’s current leaders learn from Zhu’s reforms?

On January 9, the John L. Thornton China Center at the Brookings Institution launched the second English volume of Zhu Rongji: On The Record (Brookings Press, 2015), which covers the critical period during which Zhu served as premier between 1998-2003. In addition to highlighting Zhu’s legacy, this event also featured public panel discussions outlining the past, present and future of Chinese economic reform and its impact domestically and internationally.

Audio

• Chinese Economic Reform: Past, Present and Future - Part 1
• Chinese Economic Reform: Past, Present and Future - Part 2

Transcript

• Transcript (.pdf)

Event Materials

• 20150109_china_economic_reform_transcript

       

       

       

       

      

Editor's Note: This article was the first published in the June 2008 World Cities Summit edition of ETHOS.

At the dawn of a new century, broad demographic, economic and environmental forces are giving American cities their best chance in decades to thrive and prosper. The renewed relevance of cities derives in part from the very physical characteristics that distinguish cities from other forms of human settlement: density, diversity of uses and functions, and distinctive design.

Across the United States (U.S.), a broad cross section of urban practitioners—private investors and developers, government officials, community and civic leaders—are taking ambitious steps to leverage the distinctive physical assets of cities and maximise their economic, fiscal, environmental and social potential.

A special class of urban interventions—what we call “transformative investments”—is emerging from the millions of transactions that occur in cities every year. The hallmark of transformative investments is their catalytic nature and seismic impact on markets, on people, on the city landscape and urban possibilities—far beyond the geographic confines of the project itself.

Recognising and replicating the magic of transformative investments, and making the exception become the norm is important if U.S. cities are to realise their full potential.

THE URBAN MOMENT
The U.S. is undergoing a period of dynamic change, comparable in scale and complexity to the latter part of the nineteenth century. Against this backdrop, there is a resurgence in the importance of cities due to their fundamental and distinctive physical attributes.

Cities offer a broad range of physical choices—in neighbourhoods, housing stock, shopping venues, green spaces and transportation. These choices suit the disparate preferences of a growing population that is diverse by race, ethnicity and age.

Cities are also rich with physical amenities—mixed-use downtowns, historic buildings, campuses of higher learning, entertainment districts, pedestrian-friendly neighbourhoods, adjoining rivers and lakes—that are uniquely aligned with preferences in a knowledge-oriented, post-industrial economy. A knowledge economy places the highest premium on attracting and retaining educated workers, and an increasing proportion of these workers, particularly young workers, value urban quality of life when making their residential and employment decisions.

Finally, cities, particularly those built in the nineteenth and early twentieth centuries, are compactly constructed and laid out along dense lines and grids, enhancing the potential for the dynamic, random, face-to-face human exchange prized by an economy fuelled by ideas and innovation. Such density also makes cities perfect agents for the efficient delivery of public services as well as the stewardship of the natural environment.

Each of these elements—diversity, amenities and density—distinguishes cities from other forms of human settlement. In prior generations, these attributes were devalued in a nation characterised by the single family house, the factory plant, cheap gas, and environmental profligacy. In recent history, many U.S. cities responded by making the wrong physical bets or by replicating low-density, suburban development—further eroding the very strengths that make cities distinctly urban and competitive.

Yet, the U.S., a nation in demographic and economic transition, is revaluing the quality of life uniquely offered by cities and urban places, potentially altering the calculus by which millions of American families and businesses make location decisions every year.

DELIVERING "CITYNESS": THE RISE OF TRANSFORMATIVE INVESTMENTS
Across the U.S., a practice of city building is emerging that builds on the re-found value and purpose of the urban physical landscape, and recognises that cities thrive when they fully embrace what Saskia Sassen calls “cityness”.¹

The move to recapture the American city can be found in all kinds of American cities: global cities like New York, Los Angeles and Chicago that lie at the heart of international trade and finance; innovative cities like Seattle, Austin and San Francisco that are leading the global economic revolution in technology; older industrial cities like Cleveland, Pittsburgh and Rochester that are transitioning to new economies; fast-growing cities like Charlotte, Phoenix and Dallas that are regional hubs and magnets for domestic and international migration.

The new urban practice can also be found in all aspects or “building blocks” of cities: in the remaking of downtowns as living, mixed-use communities; in the creation of neighbourhoods of choice that are attractive to households with a range of incomes; in the conversion of transportation corridors into destinations in their own right; in the reclaiming of parks and green spaces as valued places; and in the revitalisation of waterfronts as regional destinations, new residential quarters and recreational hubs.

Yet, as the new city building practice evolves, it is clear that a subset of urban investments are emerging as truly “transformative” in that they have a catalytic, place-defining impact, creating an entirely new logic for portions of the city and a new set of possibilities for economic and social activity.

We define these transformative investments as “discrete public or private development projects that trigger a profound, ripple effect of positive, multi-dimensional change in ways that fundamentally remake the value and/or function of one or more of a city’s physical building blocks”.

This subset of urban investments share important characteristics:

• On the economic front, transformative investments uncover the hidden value in a part of the city, creating markets in places where markets either did not exist or were only partially realised.
• On the fiscal front, transformative investments dramatically enhance the fiscal capacity of local governments, generating revenues through the rise in property values, the growth in city populations, and the expansion of economic activity.
• On the cognitive front, transformative investments redefine the identity and image of the city. They effectively “re-map” previously forgotten or ignored places by residents, visitors and workers. They create nodes of new activities and new places for people to congregate.
• On the environmental front, transformative investments enable cities to achieve their “green” potential by cleaning up the environmental residue from prior industrial uses or urban renewal efforts, by enabling repopulation at greater densities to occur and by providing residents, workers and visitors with transportation alternatives.
• On the social front, transformative investments have the potential, while not always realised, to alter the opportunity structure for low-income residents. When carefully designed, staged and leveraged, they can expand the housing, employment and educational opportunities available to low-income residents and overcome the racial, ethnic and economic disparities that have inhibited city performance for decades.

DISSECTING SUCCESS: HOW AND WHERE TRANSFORMATIVE INVESTMENTS TAKE PLACE
The best way to identify and assess transformative investments is by examining exemplary interventions in the discrete physical building blocks of cities: downtowns, neighbourhoods, corridors, parks and green spaces, and waterfronts.

Downtowns
If cities are going to realise their true potential, downtowns are compelling places to start. Physically, downtowns are equipped to take on an emerging set of uses, activities and functions and have the capacity to absorb real increases in population. Yet, as a consequence to America’s sprawling appetite, urban downtowns have lost their appeal. Economic interests, once the stronghold in downtowns, have moved to suburban town centres and office parks, depressing urban markets and urban value.

Across the US, downtowns are remaking themselves as residential, cultural, business and retail centres. Cities such as Chattanooga, Washington, DC and Denver have demonstrated how even one smart investment can inject new energy and jumpstart new markets. The strategic location of a new sports arena in a distressed area of downtown Washington, DC fits our definition of a transformative investment. Leveraging the proximity of a transit stop, the MCI Arena was nestled within the existing urban fabric on a city-owned urban renewal site. The arena’s pedestrian-oriented design strengthened, rather than interrupted, the continuity of the 7th Street retail corridor.² Today, the area has been profoundly transformed as scores of new restaurants, retail and bars dot the arena’s surroundings. Residents and visitors rely heavily on the nearby transit to come to this destination.

Neighbourhoods
Ever since the physical, economic and social agglomeration of “city” was established, the function of neighbourhoods has remained relatively untouched. While real estate values of neighbourhoods have shifted over time in response to micro- and macro-economic trends, a subset of inner city communities have remained enclaves of poverty. Victims of earlier urban renewal and public housing efforts, millions of people are consigned to living in neighbourhoods isolated from the economic and social mainstream.

Cities such as St. Louis, Louisville and Atlanta have been at the forefront of public housing (and hence neighbourhood) transformation, supported by smart federal investments in the 1990s. For example, the demolition of the infamous high-rise Vaughn public housing project in St. Louis enabled the construction of a new human scale, mixed-income housing development in one of the poorest, most crime-ridden sections of the city. This redevelopment cured the mistakes made by failed public housing projects, by restoring street grids, providing quality design, and injecting a sense of social and physical connection. Constructing a mix of townhouses, garden apartments and single family homes helped catalyse other public and private sector investments.

What made this investment transformative was that it included the reconstitution of Jefferson Elementary, a nearby public school. Working closely with residents, and with the financial support of corporate and philanthropic interests, the developer helped modernise the school, making it one of the most technologically advanced educational facilities in the region. A new principal, new curriculum, and new school programmes helped it become one of the highest performing inner city schools in the state of Missouri.

Corridors
City corridors are the physical tissue that knit disparate parts of a city together. In the best of conditions, corridors are multi-dimensional in purpose, where they are destinations as much as facilitators of movement. In many cities, however, corridors are simply shuttling traffic past blocks of desolated retail and residential areas or they have become yet another cookie cutter image of suburbia—parking lots abutting the main street, standardised buildings and design, and oversized and cluttered signage.

Cities like Portland, Oregon and urban counties like Arlington, Virginia have used mass transit investments and land use reforms to create physically, economically and socially healthy corridors that give new residents reasons to choose to live nearby and existing residents reasons to stay.

Portland conceived a streetcar to spur high density housing in close-in neighbourhoods that were slowly shedding old industrial uses. The streetcars traverse a three-mile route through residential areas, the water front, to the university. Since its construction, the streetcar has not only expanded transportation choices, it has helped galvanise new destinations along its route—including new neighbourhoods, retail clusters, and economic districts.

Parks and Open Space
City green spaces (such as parks, nature trails, bike paths) were initially designed to provide the lungs of the city and an outlet for recreation, entertainment and social cohesion. As general conditions declined in many cities, the quality of urban parks also declined, to the great consternation of local residents. Green spaces were turned into under-used, if not forgotten, areas of the city; or worse still, hot spots of crime and illegal activity. Such blight discouraged cities to transform outmoded uses (such as manufacturing areas) into more green space. In cities with booming development markets, parks failed to be designed and incorporated into the new urban fabric.

Across the US, cities are pursuing a variety of strategies to reclaim or augment urban green spaces. Cities like Atlanta, for example, have created transformative parks from outmoded economic uses, such as manufacturing land along urban waterfronts or by converting old railway lines into urban trail-ways.

Cities like Scranton have reclaimed existing urban parks consumed by crime and vandalism. This has required creative physical and programmatic investments, including: redesigning parks (removing physical and visibility barriers such as walls, thinning vegetation, and eliminating “dark corners”); increasing the presence of uniformed personnel; increasing the park amenities (such as evening movies and other events to increase patronage);³ and providing regular maintenance of the park and recreational facilities.⁴

Waterfronts
Many American cities owe their location and initial function to the proximity to water: rivers, lakes and oceans. Waterfronts enabled cities to manufacture, warehouse and ship goods and products. Infrastructure was built and zoning was aligned to carry out these purposes. In a knowledge-intensive economy, however, the function of waterfronts has dramatically changed, reflecting the pent-up demand for new places of enjoyment, activities and uses.

As with the other building blocks, cities are pursing a range of strategies to reclaim their waterfronts, often by addressing head-on the vestiges of an earlier era.

New York has overhauled the outdated zoning guidelines for development along the Brooklyn side of the East River, enabling the construction of mixed-income housing rather than prescribing manufacturing and light industry uses.

Pittsburgh and many of its surrounding municipalities have embarked on major efforts to re-mediate the environmental contamination found in former industrial sites, paving the way for new research centres, office parks and retail facilities.

Milwaukee, Providence and Portland have demolished the freeways that separated (or hid) the waterfront from the rest of the downtown and city, and unleashed a new wave of private investment and public activities.

WHAT IS THE RECIPE FOR SUCCESS?
The following are underlying principles that set these diverse investments apart from other transactions:

Transformative Investments advance “cityness”: Investments embrace the characteristics, attributes, and dynamics that embody “city”—its complexity, its intersection of activities, its diversity of populations and cultures, its distinctively varied designs, and its convergence of the physical environment at multiple scales. Project by project, transformative investments are reclaiming the true urban identity by strengthening aspects of the ‘physical’ that are intrinsically urban—be it density, rehabilitation of a unique building or historic row, or the incorporation of compelling, if not iconic, design.

Transformative Investments require a fundamental rethinking of land use and zoning conventions: In the midst of massive economic global change, 21st century American cities still bear the indelible markings of the 20th century. In the early 20th century, for example, government bodies enacted zoning to establish new rules for urban development. While originally intended to protect “light and air” from immense overbuilding, later versions of zoning added the segregation of uses—isolating housing, office, commercial and manufacturing activities from each other. Thus, transformative investments require, at a minimum, variances from the rigid, antiquated rules that still define the urban landscape. In many cases, examples of successful transformative investments have become the tool to overhaul outdated and outmoded frameworks and transform exceptions into new guidelines.

Transformative Investments require innovative, often customised financing approaches: Cities have distinctive physical forms (e.g., historic buildings) and distinctive physical visions (e.g., distinct districts). Yet private and even public financing of the American physical landscape, for the most part, is standardised and routinised, enabling the production of similar products (e.g., single family homes, commercial strips) at high volume, low cost and low quality. Transformative investments, however, require the marrying of multiple sources of financing (e.g., conventional debt, traditional equity, tax-driven equity investments, innovative financing arrangements, public subsidy, patient philanthropic capital), placing stress on project design and implementation. In addition, achieving social objectives often require building innovative tax and shared equity approaches into particular transactions, so that appreciations in property value can serve higher community purposes (e.g., creating affordable housing trust funds). As with regulatory frames, the evolution from exceptional transactions to routinised forms of investments is required to ensure that transformative investments become more the rule rather than the exception.

Transformative Investments often involve an empirically-grounded vision at the building block level: While a vision is not a necessary pre-requisite for realising transformative investments, cities that proceed without one have a higher probability of making the wrong physical bets, siting them in the wrong places, or ultimately creating a physical landscape that fails to cumulatively add up to “ cityness”. It is easy to find such examples around the country, such as isolated mega-projects (a new stadium or convention centre) or waterfront revitalisation efforts that constructed the wrong projects, having misunderstood the market and the diversifying demographic.

Telescoping the possibilities and developing a bold vision must be done through an empirically-grounded process. A visioning exercise should therefore include: an economic and market diagnostic of the building block; a physical diagnostic; an evaluation of existing projects; and the development of a vision to transform the landscape. From here, disparate actors (public, private, civic, not-for-profit) will have the best instruments to assess whether a physical project could meet specific market, demographic and physical needs—increasing its chances of becoming truly transformative.

Transformative Investments require integrative thinking and action: Transformative investments are often an act in “connecting the dots” between the urban experiences (e.g., transportation, housing, economic activity, education and recreation), which are inextricably linked in reality but separated in action. This requires a significant change in how cities are both planned and managed.

On the public side, it means that transportation agencies must re-channel scarce infrastructure investments to leverage other city building goals beyond facilitating traffic. It means that agencies driving a social agenda, such as schools and libraries, have to re-imagine their existing and new facilities to integrate strong design and move away from isolated projects.

In the private sector, it means understanding the broader vision of the city and carefully siting and designing investments to increase successful city-building and not just project-building. It means increasing their own standards by using exemplary design and construction materials. It means finding financially beneficial approaches to mixed income housing projects and mixed use projects instead of just single uses. In all cases, it requires holistic thinking that cuts across the silos and stovepipes of specialised professions and fragmented bureaucracies.

BUILDING GREAT CITIES
For the first time in decades, American cities have a chance to experience a measurable revival. While broader macro forces have handed cities this chance, city builders are also learning from past mistakes. After investing billions of dollars into city revitalisation efforts, the principles underpinning particularly successful and catalytic projects—transformative investments—are beginning to be clarified. The most important lesson for cities, however, is to embrace “cityness”, to maximise what makes them physically and socially unique and distinctive. Only in this way will American cities reach their true greatness.

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• ¹Saskia Sassen defined the term “cityness” to be the concept of embracing the characteristics, attributes, and dynamics that embody “city”: complexity, the convergence of the physical environment at multiple scales, the intersection of differences, the diversity of populations and culture, the distinctively varied designs and the layering of the old and the new. Sassen, S., “Cityness in the Urban Age”, Urban Age Bulletin 2 (Autumn 2005).
• ²Strauss, Valerie, “Pollin Says He’ll Pay for Sports Complex District, Awaits Economic Boost, Upgraded Image”, Washington Post, Thursday, 29 December 1994.
• ³Personal communication from Peter Harnik, Director, Center for City Park Excellence, Trust for Public Land, 6 June 2005.
• ⁴Harnik, Peter, “The Excellent City Park System: What Makes it Great and How to Get There”. San Francisco, CA: The Trust for Public Land, 2003. Available online at http://www.tpl.org/tier3_cd.cfm?content_item_id=11428&folder_id=175

      

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On February 2 and 3, 2010, the Brookings Institution Metropolitan Policy Program and Lazard convened leaders from the public sector, energy, infrastructure, finance and venture capital communities for an in-depth conversation focused on innovative policy and business practices that will help build the next American economy.

California Governor Arnold Schwarzenegger and Pennsylvania Governor Edward G. Rendell provided the keynote remarks. Both stressed the need for strategic investments in innovative infrastructure and energy practices going forward.

Framing the conference was the notion that the next American economy must be export-oriented, low carbon, innovation-fueled and opportunity rich—an idea which has been proposed by leading economists such as Director of the National Economic Council Larry Summers. It is with this mindset that Brookings and Lazard put together high-level, dynamic panels that centered around the private sector needs for building out the next American economy—and the policy implications. Specifically, they focused on how the traditional industry leaders (e.g., utility companies), the new industry leaders (e.g., venture capital investors), and public sector leaders can work together to move our country forward, especially within the metro areas where the resources and networks that drive innovation are rooted.

For media coverage of the event, please visit the following:

Time Is Running Out: The New York Times – Bob Herbert

Watching China Run: The New York Times – Bob Herbert

High Hopes for Clean-Energy Jobs: The Wall Street Journal - Rebecca Smith

Campaign for 'Next American Economy' Begins: San Francisco Chronicle - Andrew Ross

Bruce Katz, Vice President and Director, Metropolitan Policy Program, Brookings Institution		Vernon Jordan, Senior Managing Director, Lazard and California Governor Arnold Schwarzenegger
Wall Street Journal reporter Rebecca Smith leads a conversation with business leaders		Pennsylvania Governor Edward Rendell
Conference participants Jim Robinson of RRE Ventures and Michael Ahearn of First Solar		From left: Bob Herbert (New York Times), Mallory Walker (Walker and Dunlop) and George Bilicic (Lazard)

Video

• The Keys to American Competitiveness

Audio

• The Next American Economy: Transforming Energy and Infrastructure Investment

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• Transcript (.pdf)
• Bruce Katz's delivered remarks (.pdf)

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• 0203_transcript
• 0203_nextecon_katz
• 0203_overview
• 0203_agenda
• 0203_nextecon_pres

      

       

Earlier this summer, we examined how the Big Four banks – Bank of America, Citigroup, JPMorgan Chase, and Wells Fargo – performed before, during, and after the 2007-09 financial crisis.  We also blogged about the lending trends within these large banks, expressing concern about the growing gap between deposits taken and loans made by the Big Four, and calling on policymakers to explore the issue further.  We have conducted a similar analysis on the regional banks - The regional banks: The evolution of the financial sector, Part II - and find that these smaller banks are actually faring somewhat better than their bigger counterparts.

Despite the mergers and acquisitions that happened during the crisis, the Big Four banks are a smaller share of banking today than they were in 2007.  The 15 regionals we evaluated, on the other hand, are thriving in the post-crisis environment and have a slightly larger share of total bank assets than they had in 2007.  The Big Four experienced rapid growth in the years leading up to the crisis but much slower growth in the years since.  The regionals, however, have been chugging along: with the exception of a small downward trend during the crisis, they have enjoyed slow but steady growth since 2003.

There is a gap between deposits and loans among the regionals, but it is smaller than the Big Four’s gap.  Tellingly, the regionals’ gap has remained basically constant in size during the recovery, unlike the Big Four’s gap, which is growing.  Bank loans are important to economic growth, and the regional banks are growing their loan portfolios faster than the biggest banks.  That may be a good sign for the future if the regional banks provide more competition for the big banks and a more competitive banking sector overall.

      

Mercutio: I am hurt. A plague a’ both your houses! I am sped. Is he gone and hath nothing? — Romeo and Juliet, Act 3, scene 1, 90–92

The eurozone crisis, which includes the Greek crisis but is not restricted to it, has undermined the credibility of the EU institutions and left millions of Europeans disillusioned with the European Project. The euro was either introduced too early, or it included countries that should never have been included, or both were true. High rates of inflation left countries in the periphery uncompetitive and the constraint of a single currency removed a key adjustment mechanism. Capital flows allowed this problem to be papered over until the global financial crisis hit.

The leaders of the international institutions, the European Commission, the European Central Bank, and the International Monetary Fund, together with the governments of the stronger economies, were asked to figure out a solution and they emphasized fiscal consolidation, which they made a condition for assistance with heavy debt burdens. The eurozone as a whole has paid the price, with real GDP in the first quarter of 2015 being about 1.5 percent below its peak in the first quarter of 2008, seven years earlier, and with a current unemployment rate of 11 percent. By contrast, the sluggish U.S. recovery looks rocket-powered, with GDP 8.6 percent above its previous peak and an unemployment rate of 5.5 percent.

The burden of the euro crisis has been very unevenly distributed, with Greece facing unemployment of 25 percent and rising, Spain 23 percent, Italy 12 percent, and Ireland 9.7 percent, while German unemployment is 4.7 percent. It is not surprising that so many Europeans are unhappy with their policy leaders who moved too quickly into a currency union and then dealt with the crisis in a way that pushed countries into economic depression. The common currency has been a boon to Germany, with its $287 billion current account surplus, but the bane of the southern periphery. Greece bears considerable culpability for its own problems, having failed to collect taxes or open up an economy full of competitive restrictions, but that does not excuse the policy failures among Europe’s leaders. A plague on both sides in the Greek crisis!

During the Great Moderation, it seemed that the Bretton Woods institutions were losing their usefulness because private markets could provide needed funding. The financial crisis and the global recession that followed it shattered this belief. The IMF did not foresee the crisis, nor was it a central player in dealing with the period of greatest peril from 2007 to 2009. National treasuries, the Federal Reserve, and the European Central Bank were the only institutions that had the resources and the power to deal with the bank failures, the shortage of liquidity, and the freezing up of markets. Still, the IMF became relevant again and played an important role in the euro crisis, although at the cost of sharing the unpopularity of the policy response to that crisis.

China’s new Asian Infrastructure Investment Bank is the result of China’s growing power and influence and the failure of the West, particularly the United States, to come to terms with this seismic shift. The Trans-Pacific Partnership trade negotiations have deliberately excluded China, the largest economy in Asia and largest trading partner in the world. Reform of the governance structure of the World Bank and the IMF has stalled with disproportionate power still held by the United States and Europe. Unsurprisingly, China has decided to exercise its influence in other ways, establishing the new Asian bank and increasing the role of the yuan in international transactions. U.S. policymakers underestimated China’s strength and the willingness of other countries to cooperate with it, and the result has been to reduce the role and influence of the Bretton Woods institutions.

Can the old institutions be reinvented and made more effective? In Europe, the biggest problem is that bad decisions were made by national governments and by the international institutions (although the ECB policies have been generally good). The World Bank and IMF do need to reform their governance, but it may be too late to bring China back into the fold.

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This post originally appeared in the International Economy: Does the Industrialized World’s Economic and Financial Statecraft Need to Be Reinvented? (p.19)

      

       

       

       

       

       

       

       

       

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The 2008 elections showcased the power of the Internet to generate voter enthusiasm, mobilize volunteers and increase small-donor contributions. After the political world has been arguing about campaign finance policy for decades, the digital revolution has altered the calculus of participation.

On January 14, a joint project of the Campaign Finance Institute, American Enterprise Institute and the Brookings Institution unveiled a new report that seeks to change the ongoing national dialogue about money in politics. At this event, the four authors of the report will detail their findings and recommendations. Relying on lessons from the record-shattering 2008 elections and the rise of Internet campaigning, experts will present a new vision of how campaign finance and communications policy can help further democracy through broader participation.

Video

• Thomas Mann
• Michael Malbin
• Anthony Corrado
• Norm Ornstein

Audio

• Campaign Reform in the Networked Age: Fostering Participation through Small Donors and Volunteers

Transcript

• Transcript (.pdf)

Event Materials

• 20090114_campaign_finance

       

Executive Summary

The political world has been arguing about campaign finance policy for decades. A once rich conversation has become a stale two-sided battleground. One side sees contribution or spending limits as essential to restraining corruption, the appearance of corruption, or the “undue influence” of wealthy donors. The other resists any such limits in the name of free speech. The time has come to leap over this gulf and, as much as possible, move the disputes from the courts. Preventing corruption and protecting free speech should each be among the key goals of any policy regime, but they should not be the only objectives. This report seeks to change the ongoing conversation. Put simply, instead of focusing on attempts to further restrict the wealthy few, it seeks to focus on activating the many.

This is not a brief for deregulation. The members of this working group support limits on contributions to candidates and political parties. But we also recognize the limits of limits. More importantly, we believe that some of the key objectives can be pursued more effectively by expanding the playing field.

Interactive communications technology potentially can transform the political calculus. But technology alone cannot do the trick. Sound governmental policies will be essential: first, to protect the conditions under which a politically beneficial technology may flourish and, second, to encourage more candidates — particularly those below the top of the national ticket — to reach out to small donors and volunteers.

We focus on participation for two reasons. First, if enough people come into the system at the low end there may be less reason to worry about the top. Second, heightened participation would be healthy for its own sake. A more engaged citizenry would mean a greater share of the public following political events and participating in public life. And the evidence seems to suggest that giving and doing are reciprocal activities: volunteering stimulates giving, while giving small amounts seems to heighten non-financial forms of participation by people who feel more invested in the process.

For these reasons, we aim to promote equality and civic engagement by enlarging the participatory pie instead of shrinking it. The Supreme Court has ruled out pursuing equality or civic engagement by constraining speech. But the Court has never ruled out pursuing these goals through policies that do not constrain speech.

This report will show how to further these ends. The first half surveys current conditions; the second contains detailed recommendations for moving forward.

The report begins with new opportunities. The digital revolution is altering the calculus of participation by reducing the costs of both individual and collective action. Millions of American went online in 2008 to access campaign materials, comment on news reports, watch campaign videos and share information. The many can now communicate with the many without the intervention of elite or centralized organizations. This capacity has made new forms of political organizations easier to create, while permitting the traditional organizations — candidates and parties — to achieve unprecedented scales of citizen participation. No example better illustrates this potential than the Obama campaign of 2008, which is discussed at length in the full report.

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• Expanding Participation
• Improving Transparency

       

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• {9ABF977A-E4A6-41C8-B030-0FD655E07DBF}, 978-0-8157-0332-7, $32.95 Add to Cart

       

       

       

       

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By most metrics, the 1991 Gulf War, also known as Operation Desert Storm, was a huge and rapid success for the United States and its allies. The mission of defeating Iraq's army, which invaded Kuwait the year prior, was done swiftly and decisively. However, the war's impact on soldiers who fought in it was lasting. Over 650,000 American men and women served in the conflict, and many came home with symptoms including insomnia, respiratory disorders, memory issues and others attributed to a variety of exposures – “Gulf War Illness."

On June 16, the Center for 21st Century Security and Intelligence at Brookings and Georgetown University Medical Center co-hosted a discussion on Desert Storm, its veterans, and how they are faring today. Representative Mike Coffman (R-Col.), the only member of Congress to serve in both Gulf wars, delivered an opening address before joining Michael O’Hanlon, senior fellow at Brookings, for a moderated discussion. Joel Kupersmith, former head of the Office of Research and Development of the Department of Veterans Affairs, convened a follow-on panel with Carolyn Clancy, deputy under secretary for health for organizational excellence at the Department of Veterans Affairs; Adrian Atizado, deputy national legislative director at Disabled American Veterans; and James Baraniuk, professor of medicine at Georgetown University Medical Center.

Audio

• Desert Storm after 25 years: Confronting the exposures of modern warfare

Transcript

• Uncorrected Transcript (.pdf)

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• 20160616_desert_storm_transcript

      

       

       

       

Editor's Note: In September of this year Visiting Fellow Norman Eisen was featured in the Council on Government Ethics Law (COGEL) members-only magazine, The Guardian. An abbreviated version of his interview is featured below.

Interview conducted by Wesley Bizzell, Assistant General Counsel, Altria Client Services LLC.

Recently, you addressed the Italian Parliament to discuss ethics in government, as that legislative body considers adopting its own code of ethical conduct. In that speech, you noted you believe there are four key concepts at the center of Federal U.S. ethics laws. What are those four concepts and why they are important?

Firstly, I’d like to note the importance of focusing on four concepts. The House of Representatives Ethics manual is 456 pages long; too long to be of any real use in creating an ethics system. Instead, these four principles serve as a foundation upon which different governments can build their own sets of rules based on their own unique needs.

I focused on just four to make a point about priorities. The first is “conflicts”—that is, problems that arise when an individual’s personal interests and parliamentary duties may be at odds with one another. The second is “gifts”. Even if there isn’t an explicit quid-pro-quo style agreement involved, when a political figure accepts a gift from someone with a demonstrated interest in government decision-making, the suspicion of misconduct will always be there. “Revolving door” is the third core concept. When individuals rotate from the private sector to the public sector over and over again, they are naturally going to form relationships that tempt them toward unethical behavior. Finally, “use official resources.” Officials must be careful to use official resources only for official purposes, being particularly careful not to conduct any campaign activity on the taxpayer’s dime. The goal with these four priorities is not only to keep people from behaving unethically, but also to make sure it doesn’t seem like anyone is doing anything unethical either.

In that speech, you said that focusing on these four areas keeps you from losing the forest for the trees when working with ethics codes. Can you elaborate on that?

There’s always a danger for members of the executive branch, because the system of rules and regulations that governs ethical behavior is itself so complex. When it’s imbedded in equally complicated and overlapping sets of statute you risk creating rules so specific that they’re practically useless. The same is true in the legislative branch and I dare say in the federal judicial branch, as well as at the state and local levels. You’re always on the edge of being lost in the minutiae.

In fact, you can often make wrong decisions if you focus in too much on the specifics, because you lose sight of the larger picture that guides the rules. There are always options in ethical dilemmas, and the big picture needs to be kept in focus.

While at the White House serving as Special Counsel to the President for Ethics and Government Reform you oversaw numerous significant changes in the area of open government—including helping craft and implement President Obama’s Open Government Directive; publishing White House visitor logs on the internet; and generally improving the Freedom of Information Act (FOIA) process. What change in the area of open government are you most proud?

I was struck when we began the interview by the list of topics—campaign finance, lobbying, ethics, elections, and FOIA issues—because all of those were part of my portfolio as Special Counsel to the President for Ethics and Government Reform during the first two years of the Obama administration. I would have to say that I’m most proud of my role in the President’s decision to put all of the White House visitor records on the internet.

Remember, in previous administrations, Democratic and Republican alike, plaintiffs had to litigate for years just to get a handful of visitor records. To have all of the visitor records on the internet, categorized into various types, opens access to the White House to an unprecedented degree. There are now over four-and-a-half million visitor records available on the White House website, with more added every month. I think that that is remarkable.

Truthfully, I was torn between that accomplishment and a second one, which is that the President and his staff in the White House have had the longest run in presidential history (knock on wood) without a major ethics scandal or a grand jury investigation, indictment, or conviction. I was tempted to list that second fact as the accomplishment of which I was most proud. But it occurred to me that the death of White House scandal is actually a function of the exceptional level of transparency that the visitor records represent. Transparency helps ensure people don’t have meetings they shouldn’t be having, which keeps them out of trouble. So I’ll offer that second accomplishment as a part of the first one.

In your view, what was the most significant lobbying and ethics reform during your tenure at the White House?

No doubt about it: reversing the revolving door. Craig Holman of Public Citizen, who studies these issues, says we were the first in the world to create a reverse revolving door. I think it is absolutely critical to slow the revolving door in both directions—both coming out of government and going in.

I should also note that the comprehensive nature of the ethics system we put into place in the Obama administration bears a responsibility for the good results. The first rule, of course, of any ethics system is “tone at the top.” The president exemplifies that. He has the highest standards of ethics himself, and as a result everyone around him feels he will be personally let down if they don’t embrace the ethics system. Good results flow from that. Looking back, we can identify certain aspects that have more and less successful, but it’s important to recognize that the positive results are owed to the gestalt. Our transparency and ethics system was one of the most through and transparent that I’ve seen in any government, and the result speak for themselves.

      

I was honored today to speak at the kick off meeting of the new ReFormers Caucus. This group of over 100 former members of the U.S. Senate, the House, and governors of both parties, has come together to fight for meaningful campaign finance reform. In the bipartisan spirit of the caucus, I shared speaking duties with Professor Richard Painter, who was the Bush administration ethics czar and my predecessor before I had a similar role in the Obama White House. 

As I told the distinguished audience of ReFormers (get the pun?) gathered over lunch on Capitol Hill, I wish they had existed when in my Obama administration role I was working for the passage of the Disclose Act. That bill would have brought true transparency to the post-Citizens United campaign finance system, yet it failed by just one vote in Congress.  But it is not too late for Americans, working together, to secure enhanced transparency and other campaign finance changes that are desperately needed.  Momentum is building, with increasing levels of public outrage, as reflected in state and local referenda passing in Maine, Seattle and San Francisco just this week, and much more to come at the federal, state and local level.

       

On June 20, I moderated a conversation on the future of the Department of Veterans Affairs with Secretary Robert McDonald. When he took office almost two years ago, Secretary McDonald inherited an organization in crisis: too many veterans faced shockingly long wait-times before they received care, VA officials had allegedly falsified records, and other allegations of mismanagement abounded.

Photo: Paul Morigi

Since he was sworn into office, Secretary McDonald has led the VA through a period of ambitious reform, anchored by the MyVA program. He and his team have embraced three core strategies that are securing meaningful change. They are important insights for all government leaders, and private sector ones as well.

1. Set bold goals

Secretary McDonald’s vision is for the VA to become the number one customer-service agency in the federal government. But he and his team know that words alone won’t make this happen. They developed twelve breakthrough priorities for 2016 that will directly improve service to veterans. These actionable short-term objectives support the VA’s longer term aim to deliver an exceptional experience for our veterans. By aiming high, and also drafting a concrete roadmap, the VA has put itself on a path to success.

2. Hybridize the best of public and private sectors

To accomplish their ambitious goal, VA leadership is applying the best practices of customer-service businesses around the nation. The Secretary and his colleagues are leveraging the goodwill, resources, and expertise of both the private and public sector. To do that, the VA has brought together diverse groups of business leaders, medical professionals, government executives, and veteran advocates under their umbrella MyVA Advisory Committee. Following the examples set by private sector leaders in service provision and innovation, the VA is developing user-friendly mobile apps for veterans, modernizing its website, and seeking to make hiring practices faster, more competitive, and more efficient. And so that no good idea is left unheard, the VA has created a "shark tank” to capture and enact suggestions and recommendations for improvement from the folks who best understand daily VA operations—VA employees themselves.

3. Data, data, data

The benefits of data-driven decision making in government are well known. As led by Secretary McDonald, the VA has continued to embrace the use of data to inform its policies and improve its performance. Already a leader in the collection and publication of data, the VA has recently taken even greater strides in sharing information between its healthcare delivery agencies. In addition to collecting administrative and health-outcomes information, the VA is gathering data from veterans about what they think . Automated kiosks allow veterans to check in for appointments, and to record their level of satisfaction with the services provided.

The results that the Secretary and his team have achieved speak for themselves:

• 5 million more appointments completed last fiscal year over the previous fiscal year
• 7 million additional hours of care for veterans in the last two years (based on an increase in the clinical workload of 11 percent over the last two years)
• 97 percent of appointments completed within 30 days of the veteran’s preferred date; 86 percent within 7 days; 22 percent the same day
• Average wait times of 5 days for primary care, 6 days for specialty care, and 2 days for mental health are
• 90 percent of veterans say they are satisfied or completely satisfied with when they got their appointment (less than 3 percent said they were dissatisfied or completely dissatisfied).
• The backlog for disability claims—once over 600,000 claims that were more than 125 days old—is down almost 90 percent.

Thanks to Secretary McDonald’s continued commitment to modernization, the VA has made significant progress. Problems, of course, remain at the VA and the Secretary has more work to do to ensure America honors the debt it owes its veterans, but the past two years of reform have moved the Department in the right direction. His strategies are instructive for managers of change everywhere.

Fred Dews and Andrew Kenealy contributed to this post.

       

       

Led by presidential candidate Bernie Sanders, one-time supporters of ‘single-payer’ health reform are rekindling their romance with a health reform idea that was, is, and will remain a dream.  Single-payer health reform is a dream because, as the old joke goes, ‘you can’t get there from here.

Let’s be clear: opposing a proposal only because one believes it cannot be passed is usually a dodge.One should judge the merits. Strong leaders prove their skill by persuading people to embrace their visions. But single-payer is different. It is radical in a way that no legislation has ever been in the United States.

Not so, you may be thinking. Remember such transformative laws as the Social Security Act, Medicare, the Homestead Act, and the Interstate Highway Act. And, yes, remember the Affordable Care Act. Those and many other inspired legislative acts seemed revolutionary enough at the time. But none really was. None overturned entrenched and valued contractual and legislative arrangements. None reshuffled trillions—or in less inflated days, billions—of dollars devoted to the same general purpose as the new legislation. All either extended services previously available to only a few, or created wholly new arrangements.

To understand the difference between those past achievements and the idea of replacing current health insurance arrangements with a single-payer system, compare the Affordable Care Act with Sanders’ single-payer proposal.

Criticized by some for alleged radicalism, the ACA is actually stunningly incremental. Most of the ACA’s expanded coverage comes through extension of Medicaid, an existing public program that serves more than 60 million people. The rest comes through purchase of private insurance in “exchanges,” which embody the conservative ideal of a market that promotes competition among private venders, or through regulations that extended the ability of adult offspring to remain covered under parental plans. The ACA minimally altered insurance coverage for the 170 million people covered through employment-based health insurance. The ACA added a few small benefits to Medicare but left it otherwise untouched. It left unaltered the tax breaks that support group insurance coverage for most working age Americans and their families. It also left alone the military health programs serving 14 million people. Private nonprofit and for-profit hospitals, other vendors, and privately employed professionals continue to deliver most care.

In contrast, Senator Sanders’ plan, like the earlier proposal sponsored by Representative John Conyers (D-Michigan) which Sanders co-sponsored, would scrap all of those arrangements. Instead, people would simply go to the medical care provider of their choice and bills would be paid from a national trust fund. That sounds simple and attractive, but it raises vexatious questions.

• How much would it cost the federal government? Where would the money to cover the costs come from?
• What would happen to the $700 billion that employers now spend on health insurance?
• How would the $600 billion a year reductions in total health spending that Sanders says his plan would generate come from?
• What would happen to special facilities for veterans and families of members of the armed services?

Sanders has answers for some of these questions, but not for others. Both the answers and non-answers show why single payer is unlike past major social legislation.

The answer to the question of how much single payer would cost the federal government is simple: $4.1 trillion a year, or $1.4 trillion more than the federal government now spends on programs that the Sanders plan would replace. The money would come from new taxes. Half the added revenue would come from doubling the payroll tax that employers now pay for Social Security. This tax approximates what employers now collectively spend on health insurance for their employees...if they provide health insurance. But many don’t. Some employers would face large tax increases. Others would reap windfall gains.

The cost question is particularly knotty, as Sanders assumes a 20 percent cut in spending averaged over ten years, even as roughly 30 million currently uninsured people would gain coverage. Those savings, even if actually realized, would start slowly, which means cuts of 30 percent or more by Year 10. Where would they come from? Savings from reduced red-tape associated with individual insurance would cover a small fraction of this target. The major source would have to be fewer services or reduced prices. Who would determine which of the services physicians regard as desirable -- and patients have come to expect -- are no longer ‘needed’? How would those be achieved without massive bankruptcies among hospitals, as columnist Ezra Klein has suggested, and would follow such spending cuts? What would be the reaction to the prospect of drastic cuts in salaries of health care personnel – would we have a shortage of doctors and nurses? Would patients tolerate a reduction in services? If people thought that services under the Sanders plan were inadequate, would they be allowed to ‘top up’ with private insurance? If so, what happens to simplicity? If not, why not?

Let me be clear: we know that high quality health care can be delivered at much lower cost than is the U.S. norm. We know because other countries do it. In fact, some of them have plans not unlike the one Senator Sanders is proposing. We know that single-payer mechanisms work in some countries. But those systems evolved over decades, based on gradual and incremental change from what existed before. That is the way that public policy is made in democracies. Radical change may occur after a catastrophic economic collapse or a major war. But in normal times, democracies do not tolerate radical discontinuity. If you doubt me, consider the tumult precipitated by the really quite conservative Affordable Care Act.

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Editor's note: This piece originally appeared in Newsweek.

       

Health reform (aka Obamacare) is entering a new stage. The recent announcement by United Health Care that it will stop selling insurance to individuals and families through most health insurance exchanges marks the transition. In the next stage, federal and state policy makers must decide how to use broad regulatory powers they have under the Affordable Care Act (ACA) to stabilize, expand, and diversify risk pools, improve local market competition, encourage insurers to compete on product quality rather than premium alone, and promote effective risk management. In addition, insurance companies must master rate setting, plan design, and network management and effectively manage the health risk of their enrollees in order to stay profitable, and consumers must learn how to choose and use the best plan for their circumstances.

Six months ago, United Health Care (UHC) announced that it was thinking about pulling out of the ACA exchanges. Now, they are pulling out of all but a “handful” of marketplaces. UHC is the largest private vendor of health insurance in the nation. Nonetheless, the impact on people who buy insurance through the ACA exchanges will be modest, according to careful analyses from the Kaiser Family Foundation and the Urban Institute. The effect is modest for three reasons. One is that in some states UHC focuses on group insurance, not on insurance sold to individuals, where they are not always a major presence. Secondly, premiums of UHC products in individual markets are relatively high. Third, in most states and counties ACA purchasers will still have a choice of two or more other options. In addition, UHC’s departure may coincide with or actually cause the entry of other insurers, as seems to be happening in Iowa.

The announcement by UHC is noteworthy, however. It signals the beginning for ACA exchanges of a new stage in their development, with challenges and opportunities different from and in many ways more important than those they faced during the first three years of operation, when the challenge was just to get up and running. From the time when HealthCare.Gov and the various state exchanges opened their doors until now, administrators grappled non-stop with administrative challenges—how to enroll people, helping them make an informed choice among insurance offerings, computing the right amount of assistance each individual or family should receive, modifying plans when income or family circumstances change, and performing various ‘back office’ tasks such as transferring data to and from insurance companies. The chaotic first weeks after the exchanges opened on October 1, 2013 have been well documented, not least by critics of the ACA. Less well known are the countless behind-the-scenes crises, patches, and work-arounds that harried exchange administrators used for years afterwards to keep the exchanges open and functioning.

The ACA forced not just exchange administrators but also insurers to cope with a new system and with new enrollees. Many new exchange customers were uninsured prior to signing up for marketplace coverage. Insurers had little or no information on what their use of health care would be. That meant that insurers could not be sure where to set premiums or how aggressively to try to control costs, for example by limiting networks of physicians and hospitals enrollees could use. Some did the job well or got lucky. Some didn’t. United seems to have fallen in the second category. United could have stayed in the 30 or so state markets they are leaving and tried to figure out ways to compete more effectively, but since their marketplace premiums were often not competitive and most of their business was with large groups, management decided to focus on that highly profitable segment of the insurance market. Some insurers, are seeking sizeable premium increases for insurance year 2017, in part because of unexpectedly high usage of health care by new exchange enrollees.

United is not alone in having a rough time in the exchanges. So did most of the cooperative plans that were set up under the ACA. Of the 23 cooperative plans that were established, more than half have gone out of business and more may follow. These developments do not signal the end of the ACA or even indicate a crisis. They do mark the end of an initial period when exchanges were learning how best to cope with clerical challenges posed by a quite complicated law and when insurance companies were breaking into new markets. In the next phase of ACA implementation, federal and state policy makers will face different challenges: how to stabilize, expand, and diversify marketplace risk pools, promote local market competition, and encourage insurers to compete on product quality rather than premium alone. Insurance company executives will have to figure out how to master rate setting, plan design, and network management and manage risk for customers with different characteristics than those to which they have become accustomed.

Achieving these goals will require state and federal authorities to go beyond the core implementation decisions that have absorbed most of their attention to date and exercise powers the ACA gives them. For example, section 1332 of the ACA authorizes states to apply for waivers starting in 2017 under which they can seek to achieve the goals of the 2010 law in ways different from those specified in the original legislation. Along quite different lines, efforts are already underway in many state-based marketplaces, such as the District of Columbia, to expand and diversify the individual market risk pool by expanding marketing efforts to enroll new consumers, especially young adults. Minnesota’s Health Care Task Force recently recommended options to stabilize marketplace premiums, including reinsurance, maximum limits on the excess capital reserves or surpluses of health plans, and the merger of individual and small group markets, as Massachusetts and Vermont have done.

In normal markets, prices must cover costs, and while some companies prosper, some do not. In that respect, ACA markets are quite normal. Some regional and national insurers, along with a number of new entrants, have experienced losses in their marketplace business in 2016. One reason seems to be that insurers priced their plans aggressively in 2014 and 2015 to gain customers and then held steady in 2016. Now, many are proposing significant premium hikes for 2017.

Others, like United, are withdrawing from some states. ACA exchange administrators and state insurance officials must now take steps to encourage continued or new insurer participation, including by new entrants such as Medicaid managed care organizations (MCOs). For example, in New Mexico, where in 2016 Blue Cross Blue Shield withdrew from the state exchange, state officials now need to work with that insurer to ensure a smooth transition as it re-enters the New Mexico marketplace and to encourage other insurers to join it. In addition, state insurance regulators can use their rate review authority to benefit enrollees by promoting fair and competitive pricing among marketplace insurers. During the rate review process, which sometimes evolves into a bargaining process, insurance regulators often have the ability to put downward pressure on rates, although they must be careful to avoid the risk of underpricing of marketplace plans which could compromise the financial viability of insurers and cause them to withdraw from the market. Exchanges have an important role in the affordability of marketplace plans too. For example ACA marketplace officials in the District of Columbia and Connecticut work closely with state regulators during the rate review process in an effort to keep rates affordable and adequate to assure insurers a fair rate of return.

Several studies now indicate that in selecting among health insurance plans people tend to give disproportionate weight to premium price, and insufficient attention to other cost provisions—deductibles and cost sharing—and to quality of service and care. A core objective of the ACA is to encourage insurance customers to evaluate plans comprehensively. This objective will be hard to achieve, as health insurance is perhaps the most complicated product most people buy. But it will be next to impossible unless customers have tools that help them take account of the cost implications of all plan features and report accurately and understandably on plan quality and service. HealthCare.gov and state-based marketplaces, to varying degrees, are already offering consumers access to a number of decision support tools, such as total cost calculators, integrated provider directories, and formulary look-ups, along with tools that indicate provider network size. These should be refined over time. In addition, efforts are now underway at the federal and state level to provide more data to consumers so that they can make quality-driven plan choices. In 2018, the marketplaces will be required to display federally developed quality ratings and enrollee satisfaction information. The District of Columbia is examining the possibility of adding additional measures. California has proposed that starting in 2018 plans may only contract with providers and hospitals that have met state-specified metrics of quality care and promote safety of enrollees at a reasonable price. Such efforts will proliferate, even if not all succeed.

Beyond regulatory efforts noted above, insurance companies themselves have a critical role to play in contributing to the continued success of the ACA. As insurers come to understand the risk profiles of marketplace enrollees, they will be better able to set rates, design plans, and manage networks and thereby stay profitable. In addition, insurers are best positioned to maintain the stability of their individual market risk pools by developing and financing marketing plans to increase the volume and diversity of their exchange enrollments. It is important, in addition, that insurers, such as UHC, stop creaming off good risks from the ACA marketplaces by marketing limited coverage insurance products, such as dread disease policies and short term plans. If they do not do so voluntarily, state insurance regulators and the exchanges should join in stopping them from doing so.

Most of the attention paid to the ACA to date has focused on efforts to extend health coverage to the previously uninsured and to the administrative stumbles associated with that effort. While insurance coverage will broaden further, the period of rapid growth in coverage is at an end. And while administrative challenges remain, the basics are now in place. Now, the exchanges face the hard work of promoting vigorous and sustainable competition among insurers and of providing their customers with information so that insurers compete on what matters: cost, service, and quality of health care.

Editor's note: This piece originally appeared in Real Clear Markets. Kevin Lucia and Justin Giovannelli contributed to this article with generous support from The Commonwealth Fund.

       

Executive Summary

Two-thirds of Americans have broadband Internet access in their homes.[1] But because of poor infrastructure or high prices, the remaining third of Americans do not. In some areas, broadband Internet is plainly unavailable because of inadequate infrastructure: More than 14 million Americans – approximately 5 percent of the total population – live in areas where terrestrial (as opposed to mobile) fixed broadband connectivity is unavailable.[2] The effects of insufficient infrastructure development have contributed to racial and cultural disparities in broadband access; for example, terrestrial broadband is available to only 10 percent of residents on tribal lands.[3]

Even where terrestrial broadband connectivity is available, however, the high price of broadband service can be prohibitive, especially to lower income Americans. While 93 percent of adults earning more than $75,000 per year are wired for broadband at home, the terrestrial broadband adoption rate is only 40 percent among adults earning less than $20,000 annually.[4] These costs also contribute to racial disparities; almost 70 percent of whites have adopted terrestrial broadband at home,   but only 59 percent of blacks and 49 percent of Hispanics have done the same.[5]

America's wireless infrastructure is better developed, but many Americans still lack wireless broadband coverage. According to a recent study, 3G wireless networks cover a good portion of the country, including 98 percent of the United States population,[6] but certain states have dramatically lower coverage rates than others. For example, only 71 percent of West Virginia's population is covered by a 3G network.[7] Wireless providers will likely use existing 3G infrastructure to enable the impending transition to 4G networks.[8] Unless wireless infrastructure expands quickly, those Americans that remain unconnected may be left behind.

Though America is responsible for the invention and development of Internet technology, the United States has fallen behind competing nations on a variety of important indicators, including broadband adoption rate and price. According to the Organization for Economic Cooperation and Development's survey of 31 developed nations, the United States is ranked fourteenth in broadband penetration rate (i.e. the number of subscribers per 100 inhabitants); only 27.1 percent of Americans have adopted wired broadband subscriptions, compared to 37.8 percent of residents of the Netherlands.[9]

America also trails in ensuring the affordability of broadband service. The average price for a medium-speed (2.5Mbps-10Mbps) Internet plan in America is the seventeenth lowest among its competitor nations. For a medium-speed plan, the average American must pay $38 per month, while an average subscriber in Japan (ranked first) pays only $22 for a connection of the same quality.[10]

The National Broadband Plan (NBP), drafted by the Federal Communication Commission and released in 2010, seeks to provide all Americans with affordable broadband Internet access.[11] Doing so will not be cheap; analysts project that developing the infrastructure necessary for full broadband penetration will require $24 billion in subsidies and spending.[12] President Obama’s stimulus package has already set aside $4.9 billion to develop broadband infrastructure,[13] and some small ongoing federal programs receive an annual appropriation to promote broadband penetration.[14] However, these funding streams will only account for one-third of the $24 billion necessary to achieve the FCC's goal of full broadband penetration.[15] Moreover, developing infrastructure alone is not enough; many low-income Americans are unable to afford Internet access, even if it is offered in their locality.

To close this funding gap and to make broadband more accessible, the National Broadband Plan proposes to transform the Universal Service Fund – a subsidy program that spends $8.7 billion every year to develop infrastructure and improve affordability for telephone service – into a program that would do the same for broadband Internet.

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