COVID-19: Will the world remain flat after the curve flattens?

Reflections on disruption, supply chains, and globalization by Krisha Gandhi ’20 (ITFD)

Photo by Edwin Hooper on Unsplash

In my all-time favourite book ‘Antifragile’, Nassim Taleb divides the world into 3 categories- fragile, robust and antifragile. He refers to fragility as the state of being that involves avoiding disorder and disruption for fear of the mess that threatens to disrupt your life: you think you are keeping safe, but really you are making yourself vulnerable to the shock that will tear everything apart. Robustness is the ability to stand up to shocks without flinching, without changing who you are. But you are antifragile if shocks make you better able to adapt to each new challenge you face. You are antifragile if you can opportune from disruptions, to be stronger and more creative. Taleb thinks we should all try to be antifragile!

On March 11, 2020, declared a world pandemic, the COVID-19, is an epitome of the chaotic disruption Taleb was referring to. The onset of this crisis got me pondering whether populations, institutions, financial bodies, governments and policy-makers -i.e. the world as a whole will be able to be resilient in the face of the aftermath of this crisis? Do we have the acceptance, courage and strength besides the technical, innovative and problem-solving skills to start afresh and turn this disequilibrium around into the most memorable salvation story we have ever seen? Or will we succumb to this dooming, seemingly apocalyptic spiral, and lose everything we take for granted in our day-to-day lives? When the noise of this unprecedented shock dies, will we be left at the inception of a brand new system that will push us to rethink policies, and rewrite mandates that shape, govern and structure the world? 

The outbreak of this global health crisis saw a strong backlash against globalization in the form of acceleration of trends underway. Before COVID-19 slammed the global economy earlier this year, China had adopted selective international exchange rates for political incentives. This had consequently led to US-China trade wars involving up to 25% tariff imposition on Chinese imports.

In March, COVID-19 contributed to this backdrop by declining the number of cargo ships setting off for the United States by 10%. The cost of shipping goods by air nearly doubled, restricting trade further. In order to contain the outbreak of the rapidly spreading virus, countries were forced to close their borders to foreign visitors which severely restricted the movement of people worldwide.

With no signs of the situation returning to normalcy, countries are desperately trying to be “self-sufficient” by ordering factories at home to produce ventilators, banning exports of face masks, and localizing pharmaceutical supply chains even at the cost of added expenses. The declaration of a potential suspension of immigration into the U.S by the President seemed like a final nail in the coffin for the era of globalization.

The world’s response to COVID  comes across as ratifying Trump’s argument for protectionism and supply chain controls. This alludes to a pressing question in such uncertain times: Will the world remain flat after the curve flattens after all? Let’s first look at what does it mean for the “world to be flat”? In the book, ‘The world is flat’ by Thomas L. Friedman, the author endorses his view of the world as a level-playing field, wherein all players have equal opportunity and the world is a global market where historical and geographic boundaries are becoming increasingly irrelevant.

Globalization has persisted in different forms for decades. In my opinion, just like the dotcom bubble, 9/11 debacle, 2008 financial crisis, the COVID-19 pandemic too, is a temporary shock, which will perhaps change the face of globalization but not sink it. In the near future, we will likely either have a vaccine or much of the world will be infected by the virus. Either way, the current restrictions will neither be needed nor sustainable in the long run.

For instance, by the time the curve peaks, most countries will perhaps already have bought or produced enough inventory. In that case, will it really make sense to use tax-payers money on incurring exorbitant production costs to set up ventilator factories at home when their supply is already bolstered by sufficient purchase? Evidently, medical supply chains will change less than politicians currently promise! 

But even after the shock evanesces, COVID-19 will heavily influence the decision-making process with regards to investment and relocation. Many argue that the crisis was an exemplary demonstration of increased risks associated with globalised supply-chains. A flip-side to the dispute is that in the quest to maximize profits and reduce the risk of localized disruption from the crisis, if anything, firms might only expand production lines across the world, creating employment more evenly, and promoting eventual global recovery. In fact, the renowned economist, Obstfeld, who served as IMF’s chief from late 2015 through 2018, said that “While global supply chains will undoubtedly change in a post-crisis economy, much of that change will be in the form of diversification, not on-shoring.”

While layoffs and increasing unemployment in a post-crisis recessive economy are inevitable, they will not mark the end of outsourcing. Turning to autarky-like economies will be too costly to be sustainable for countries world-over. There will be plenty of opportunities to employ people in jobs that demand highly skilled labour to meet the needs of the recovering economies. This will pave the way for Globalisation 3.0, described in Friedman’s book as individuals focusing on finding their foothold in the present global competition and making significant global collaborations. In fact, skill up-gradation of this form, to ensure relevance as demanded by the need of the hour, will push humans towards becoming antifragile, as recommended by Taleb. 

However, “Outsourcing is just one dimension of a much more fundamental thing happening today in the world”, Friedman claims. Experts often view globalization from a one-dimensional perspective- physical goods and services crossing borders. But in fact, many intangibles- data, value, ideas, innovation frequently cross borders. In his book, Friedman emphasizes that “You don’t need to emigrate to innovate”. “Globalization in recent times has created a platform where intellectual work, intellectual capital, can be delivered from anywhere. It could be disaggregated, delivered, distributed, produced and put back together again — and this gave a whole new degree of freedom to the way work is done, especially work of an intellectual nature.” In light of this view of global integration, I believe that the world is going to get flatter. With workforces across nations getting training on Zoom video conferencing, to extensive sharing of knowledge in research on medical advances, the spillover of ideas and innovation is going to witness only an onward spur. The quantity and value of data transmitting between countries are increasing and with the high-value data processing replacing supply chains as the predominant channel of global economic exchange, I see this only increasing further. 

So is the world after coronavirus tending to globalization or deglobalization? I think it depends on where you look. COVID can make it harder to ship Chelsea fan-club merchandise around the world, but no quarantine can contain cryptos from crossing borders! 

COVID-19 US County Dashboard

Charlie Thompson ’14 (ITFD) has built an RStats dashboard that tracks COVID-19 cases in the United States at the county level using the latest data from The New York Times.

Check it out to see how US communities are “flattening the curve”:

Charlie Thompson ’14 is a Data Scientist at Spotify. He is an alum of the Barcelona GSE Master’s in International Trade, Finance, and Development.

LinkedIn | Twitter

Sectoral risk-weights and macroprudential policy

Publication in Journal of Banking and Finance by Alex Hodbod (ITFD ’12) and Steffi Huber (Economics ’10, GPEFM ’17)

We have a forthcoming article “Sectoral Risk Weights and Macroprudential Policy” in the Journal of Banking & Finance with our co-author Konstantin Vasilev (Essex).

The authors!

Paper abstract

This paper analyses bank capital requirements in a general equilibrium model by evaluating the implications of different designs of such requirements regarding their impact on the tendency of banks to amplify the business cycle.

figure
Interest rate spreads structure. This figure gives an overview of the different interest rate spreads within the model and the factors that affect them. The asset-specific interest rate spreads determine the borrowing costs of households and firms and hence the quantities of specific loan types in the economy.

We compare the Basel-established Internal Ratings-Based (IRB) approach to risk-weighting assets with an alternative macroprudential approach which sets risk-weights in response to sectoral measures of leverage. The different methods are compared in a crisis scenario, where the crisis originates from the housing market that affects the banking sector and is then transmitted to the wider economy.

figure
Variance decomposition – real consumption during the Great Recession. This variance decomposition shows that the model identifies the productivity shock and the shock to mortgage lending risk to be the main drivers of the crash in real consumption during the Great Recession. In our model, the main channel through which the shock to mortgage risk has a procyclical effect on consumption is through lending and house prices.

We investigate both boom and bust phases of the crisis by simulating an unrealized news shock that leads to a gradual build-up and rapid crash in the economy. Our results suggest that the IRB approach creates procyclicality in regulatory capital requirements and thereby works to amplify both boom and bust phases of the financial cycle. On the other hand, our proposed macroprudential approach to setting risk-weights leads to counter-cyclicality in regulatory capital requirements and thereby attenuates the financial cycle.

figure
Impulse Response Function – Unrealised news shock. Here, we model both the build-up and crash phases of the crisis and use this to examine how different policy approaches perform in handling the boom phase of the cycle. In periods 1-4 agents start with expectations that a housing boom will occur, but at period 4 a shock arrives as this boom does not materialise. At the top of the chart one sees that the policy setup based on the IRB approach (red) generates the biggest macroeconomic consequences from this shock; it is the most procyclical. The macroprudential approach to risk-weighting (in green) is the least procyclical. An unweighted “leverage ratio” approach (blue) is less procyclical than the IRB approach, but more so than our macroprudential approach.

Conclusions in brief

  • We show that IRB risk-weights can induce procyclicality of capital requirements and amplify both boom and bust phases of the business cycle. This is particularly concerning because procyclical risk weights could undermine other macroprudential tools, as these other tools are themselves based on risk-based measures of capital requirements e.g. Counter Cyclical Capital Buffers.
  • Our alternative approach of macroprudential risk weights could induce countercyclicality of capital requirements, which may offer benefits in terms of smoothening financial cycles. Targeting macroprudential intervention on bank risk-weights is likely to be more effective when it is sector-specific. This will alter banks’ incentives in a sensitive way – thereby tending to attenuate sectoral asset booms.
  • The results complement the ongoing debate about the potential merits of a Sectoral Counter Cyclical Capital Buffer, which is ongoing internationally.

About the authors

portrait

Alexander Hodbod ’12 is Adviser to representatives on the ECB Supervisory Board. He is an alum of the Barcelona GSE Master’s in International Trade, Finance and Development.

LinkedIn | Twitter

portrait

Stefanie J. Huber ’10 is Assistant Professor at the University of Amsterdam. She is an alum of the Barcelona GSE Master’s in Economics and GPEFM PhD Program (UPF and Barcelona GSE).

LinkedIn | Website

If you are an alum and would like to share your work on the Barcelona GSE Voice, please reach out!

Household level effects of flooding: Evidence from Thailand

International Trade, Finance, and Development master project by Zhuldyz Ashikbayeva, Marei Fürstenberg, Timo Kapelari, Albert Pierres, Stephan Thies ’19

Source: NY Times

Editor’s note: This post is part of a series showcasing Barcelona School of Economics master projects. The project is a required component of all BSE Master’s programs.

Abstract

This thesis studies the impacts of flooding on income and expenditures of rural households in northeast Thailand. It explores and compares shock coping strategies and identifies household level differences in flood resilience. Drawing on unique household panel data collected between 2007 and 2016, we exploit random spatio-temporal variation in flood intensities on the village level to identify the causal impacts of flooding on households. Two objective measures for flood intensities are derived from satellite data and employed in the analysis. Both proposed measures rely on the percentage area inundated in the surrounding of a village, but the second measure is standardized and expressed in comparison to the median village level flood exposure. We find that household incomes are negatively affected by floods. However, our results suggest that rather than absolute levels of flooding, deviations from median flood exposure are driving negative effects on households. This indicates a certain degree of adaptation to floods. Household expenditures for health and especially food rise in the aftermath of flooding. Lastly, we find that above primary school education helps to completely offset potential negative effects of flooding.

Conclusion

This paper adds to the existing body of literature by employing a satellite based measure to investigate the long-run effects of recurrent floods on household level outcomes. We first set out to identify the causal impacts of flooding on income and expenditures of rural households in Thailand. Next, we explored and compared shock coping strategies and identified potential differences in flood resilience based on household characteristics. For this purpose, we leveraged a detailed household panel data set provided by the Thailand Vietnam Socio Economic Panel. To quantify the severity of flood events, we calculated flood indices based on flood maps collected by the Geo-Informatics and Space Technology Development Agency (GISTDA) measuring the deviation from median levels of flooding in a 5km radius around a respective village. The figure below illustrates the construction of the index for a set of exemplary villages that lie in the Nang Rong district of Buri Ram in northeast Thailand.

(a) 2010 flooding in Buri Ram and surrounding provinces. Red lines mark the location of the Nong Rong district.

(b) Detailed overview of flood index construction. Red dot shows the exact location of each village with the 5 km area around each village marked by the red circle.

Our results suggest a negative relationship between floods and per household member income, for both total income and income from farming. Per household member expenditure, however, does not seem to be affected by flood events at all. The only exemptions are food and health expenditures, which increase after flood events that are among the top 10 percent of the most severe floods. The former is likely to be driven by the fact that many households in northeastern Thailand live at subsistence level, and therefore consume their farming produce. A lack of production in a given year may lead these households to substitute this loss by buying produce from markets. Rising health expenditures may be explained by injuries caused or diseases obtained during a heavy flood.

Investigating potential risk mitigation strategies revealed that households with better educated household heads suffer less during flood events. However, this result does not necessarily point to a causal relationship, as better educated households might settle in locations of the village which are less likely to be flooded. While our data does not allow to control for such settlement choices on the micro-spatial level, our findings still provide valuable insights for future policy-relevant research on the effects of education on disaster resilience in rural Thailand. Moreover, our data suggests that only very few households are insured against potential disasters. Future research will help to investigate flood impacts and risk mitigation channels in more detail.

Authors: Zhuldyz Ashikbayeva, Marei Fürstenberg, Timo Kapelari, Albert Pierres, Stephan Thies

About the BSE Master’s Program in International Trade, Finance, and Development

Brexit, digital money, and (Super) Mario, oh my!

Fall 2019 roundup of CaixaBank Research by Barcelona GSE alumni

charts

It’s time once again to check in with Barcelona GSE Alumni who are now Economists and Senior Economists at CaixaBank Research in Barcelona. As part of their duties, they regularly publish working papers and reports on a range of topics. Below are some of their latest contributions.

(If you’re a Barcelona GSE alum and you’re also writing about Economics, Finance, or Data Science, let us know where we can find your stuff!)


The «sense and sensibility» of the ECB’s communication

Gabriel L. Ramos ’19 (Finance) and Adrià Morron ’12 (Economics)

Communication is one of the most powerful monetary policy tools. For this reason, CaixaBank Research has developed an index to measure the sentiment of the ECB’s statements.Our ECB sentiment index shows a strong correlation with euro area economic activity indicators and foresees changes in the reference interest rate. The index notes a significant deterioration in ECB sentiment between late 2017 and Q3 2019 and shows how geopolitical uncertainty has affected the ECB’s view of the economic outlook.


The United Kingdom’s potential for Spain after Brexit

Javier Ibañez de Aldecoa ’18 (Economics) with Claudia Canals and Josep Mestres Domènech

In this article, we analyse the extent to which it will be more difficult for Spanish companies to establish relations for international expansion with the United Kingdom following Brexit. We use the CaixaBank Index for Business Internationalisation (CIBI), which classifies foreign countries according to the potential for internationalisation they offer for Spanish companies, and we analyse the impact of the four Brexit scenarios put forward by the Bank of England.


The e-monetary policy of the new digital economy

Adrià Morron ’12 (Economics) and Ricard Murillo ’17 (International Trade, Finance and Development)

Digital technologies permeate the debate on the future of the economy. Monetary policy and its main vehicle, money, are no exception. More and more products are sold over the internet and cash is used less and less. This new digital economy creates new demands on the financial sector and digital money emerges as a new means of payment that appeals to consumers. How does all this affect monetary policy? What can central banks do (and what are they doing) about it?


The farewell of (Super) Mario Draghi

Adrià Morron ’12 (Economics)

Mario Draghi ends his eight-year mandate at the ECB on October 31, leaving the central bank at the cutting edge of monetary policy. Under Draghi’s leadership, the ECB has offered significant support to the recovery of the euro area. However, the latest measures have raised doubts over the margin for action and effectiveness of monetary policy. Christine Lagarde, with a less technical profile but a vision of continuity in monetary policy, will take over in a sombre economic environment in which signs of fragmentation between ECB members have appeared.


Source: CaixaBank Research

Bank Interconnectedness and Monetary Policy Transmission: Evidence from the Euro Area

ITFD master project by Sofia Alvarez, Michael Barczay, Guadalupe Galambos, Ina Sandler, and Rasmus Herløw Schmidt ’19

Editor’s note: This post is part of a series showcasing Barcelona School of Economics master projects. The project is a required component of all BSE Master’s programs.

Abstract

Whereas monetary policy in the euro area is conducted by one single authority, the European Central Bank (ECB), the real effects of these decisions provoke different reactions among the set of targeted countries. One common explanation for this finding is structural heterogeneity across the members of the eurozone. The paper assesses how commercial bank interconnectedness – as a specific source of structural heterogeneity – affects the propagation of common monetary policy shocks across the euro countries between 2003 and 2018. While recent research has found that bank interconnectedness can counteract the contraction in loans resulting from a monetary policy tightening in the US, evidence on the effects in the euro area is scarce. The paper tests this hypothesis empirically by constructing a panel data set for the original euro area countries, creating a measure for country-specific bank interconnectedness, and by identifying an exogenous monetary policy shocks based on high-frequency data. Employing local projections we find evidence that – in accordance with the theoretical model we discuss – a contractionary monetary policy surprise leads to a reduction in the supply of corporate and household loans in countries with a low degree of interconnectedness. Conversely, when the banking sector is highly interconnected, the impact of monetary policy is reduced or even counteracted. This implies that a common monetary policy shock can have heterogeneous effects among countries of the euro area, depending on the degree of interconnectedness of their banking industries. These results are robust to the inclusion of a wide set of controls and alternative shock specifications.

Conclusions and Key Results

Standard theory, assuming that the balance sheet transmission channel is at play, suggests that an increase in the interest rate reduces the value of pledgeable assets held by firms and households. This reduction in the borrowers’ creditworthiness consequently induces banks to constrain their amount of lending. A higher degree of interconnectedness of the banking sector, however, makes banks less sensitive to changes in the value of the collateral posted by borrowers since loan portfolios can be traded among banks with different risk exposures. Thus, when banks are highly interconnected, the reduction of the loans supply after contractionary monetary policy is expected to be smaller and the effects of monetary policy are likely to be less pronounced.

The paper tests this hypothesis for the eurozone using local projections and a panel dataset of 12 euro-area countries in the period between 2003 and 2018. The eurozone constitutes an excellent subject to study: It exhibits significant variation of bank interconnectedness – both across time and countries – which makes the hypothesis of bank interconnectedness as a determinant of heterogeneous reactions to monetary policy particularly relevant.

The key findings of the paper are that interconnectedness is in fact an important driver of heterogeneity in the transmission of monetary policy in the eurozone. More precisely, the analysis shows that when bank interconnectedness is low, contractionary monetary policy leads to a reduction in lending. In countries with highly interconnected banking sectors, however, the paper documents that the impact of monetary policy on loans may be offset. Even more so, our findings suggest that the effect of monetary policy may even be reversed at certain points in time after a monetary policy shock (see Figure 1). More generally, these effects seem to persist for approximately 15 months and hold for both household and corporate loans. A potential conjecture for the observed increase in loans, when bank interconnectedness is high, could be that contractionary shocks induce lending from highly interconnected core countries to countries with low bank interconnectedness in the European periphery.

Additionally, higher interest rates may induce banks to increase the loan supply due to higher potential returns in a context of efficient risk-sharing. The analysis also suggests that cross-country variation of bank interconnectedness, in particular, plays an important role in explaining heterogeneous responses to monetary policy. Muting the cross-country variation, by contrast, delivers effects that are  still in line with the theory but which turn out to be statistically insignificant. In other words, accounting for cross-country heterogeneity is essential. Moreover, employing alternative specifications, the results are found to be robust to using alternative shock measures, including additional controls, and excluding outliers.

Figure_1
Figure 1: Impulse response of total loans to a one basis point increase in the monetary policy shock variable (Red: Low bank interconnectedness, blue: high bank interconnectedness)

Using our estimates to predict the country specific responses to a monetary policy shock, we show that countries are expected to react very heterogeneously. While Greece, for instance, is predicted to experience a contraction of loans after an interest rate hike at its 10th, 50th, and 75th percentile of bank interconnectedness, the effect of  monetary policy is almost completely offset in Germany or Austria (see Figure 2).

Figure 2
Figure 2: Implied heterogeneous responses after 6 months to a common monetary policy shock of 1 basis point by each country’s degrees of interconnectedness

In sum, the analysis contributes to the understanding of how monetary policy is transmitted across countries in the euro area. The paper shows how heterogeneous responses can be explained by the variation in countries’ individual levels of bank interconnectedness. Furthermore, it provides a potential explanation for why recent research has found rather modest responses of the loan supply to monetary policy. Such observations appear inevitable given that many countries display levels of interconnectedness at which the reaction of loans to monetary policy is predicted to be only small or even nonexistent. Only by incorporating interbank lending into the analysis, sizable effects of monetary policy become apparent again. 

Authors: Sofia Alvarez, Michael Barczay, Guadalupe Galambos, Ina Sandler, and Rasmus Herløw Schmidt

About the BSE Master’s Program in International Trade, Finance, and Development

City Design, Planning, Policy Innovations: The Case of Hermosillo

IDB publication co-authored by Miguel Angel Santos (ITFD ’11, Economics ’12)

After a lengthy review process we are proud to announce that our book “City Design, Planning, Policy Innovations: The Case of Hermosillo” is published and available for download from the Inter-American Development Bank. Cutting edge research on cities featuring my work with Douglas Barrios, my colleague at the Center for International Development’s Growth Lab at the Harvard Kennedy School. Thanks to Andreina Seijas and Diego Arcia for the superb coordination and editing work.

About the book

This publication summarizes the outcomes and lessons learned from the Fall 2017 course titled “Emergent Urbanism: Planning and Design Visions for the City of Hermosillo, Mexico” (ADV-9146). Taught by professors Diane Davis and Felipe Vera, this course asked a group of 12 students to design a set of projects that could lay the groundwork for a sustainable future for the city of Hermosillo—an emerging city located in northwest Mexico and the capital of the state of Sonora. Part of a larger initiative funded by the Inter-American Development Bank and the North-American Development Bank in partnership with Harvard University, ideas developed for this class were the product of collaboration between faculty and students at the Graduate School of Design, the Kennedy School’s Center for International Development and the T.H. Chan School of Public Health.

Miguel Angel Santos (ITFD ’11, Economics ’12) is Director of Applied Research at the Growth Lab at Harvard Kennedy School.

LinkedIn | Twitter

Women in Economics seminar

Master’s students Analía García ’19 (ITFD) and Lorena Franco ’19 (Economics) organized the seminar to highlight research by female PhD students and professors

Women in Economics seminar

This May, BGSE Master’s students Analía García ’19 (ITFD) and Lorena Franco ’19 (Economics) organized the Women in Economics two-day seminar, which meant to highlight female PhD students and faculty members’ research.

Three students and four Barcelona GSE Affiliated Professors presented their work, which varied from family economics to political economics and experimental economics. More information of the speakers and their topics below.

Organizers Analía García ’19 and Lorena Franco ’19

These efforts, nonetheless, started over two months ago when both students, who are from Latin America and the Caribbean, organized an open forum on International Women’s Day. Having prior work experience and noting the clear lack of female representation in economics and academia, they wanted to expand the conversations on the topic and discuss what we could do to potentially “make it better” within their parameters. The Women in Economics seminar was born from the conversations during the first and second open forums, and thanks to the ideas of Marta Morazzoni and Claudia Meza, both PhD students at GPEFM (UPF and Barcelona GSE).

Putting this together was a challenge given this had not been done at BGSE before, but the organizers hope this was insightful for all those who attended.

More female and racial diversity in economics and academia, please!

The speakers and the titles of the work were the following (listed alphabetically):

PhD Students

  • Marta Morazzoni “Family Dynamics in Macroeconomics: when the representative household does not represent us anymore”
  • Marta Santamaría “The Gains from Reshaping Infrastructure: Evidence from the Division of Germany”
  • Alina Velias “When to Tie Odysseus to the Mast: Costly Commitment Under Biased Expactations”

Professors

  • Enriqueta Aragonés “Stability of a Multi-level Government: A Catalonia in Spain”
  • Rosa Ferrer “Consumers’ Costly Responses to Product-Harm Crises” and “Gender Gaps in Performance: Evidence from Young Lawyers”
  • Ada Ferrer-i-Carbonell “Relative Deprivation in Tanzania”
  • Rosemarie Nagel “Regularities in the Lab, Brain, and Field: A Cognitive Reasoning Model”

The long journey from research to impact: remittance regulation in sub-Saharan Africa

Antonia Esser ’11 (International Trade, Finance, and Development)

portrait

I started to work on remittances around three years ago when I joined my current organization, the Centre for Financial Regulation and Inclusion (or Cenfri in short) as a researcher. We are an independent, not-for-profit think-and-do-tank based in Cape Town, South Africa, trying to answer complex questions around the role of the financial sector in improving individuals’ welfare in emerging economies. Remittances is one of our key focus areas and we have received donor funding from Financial Sector Deepening Africa (FSDA) to understand why the cost of sending funds into Africa is still the highest in the world.

According to the World Bank, the average cost of sending remittances globally stood at just under 7% of the total value of the transfer in the first quarter of this year; in sub-Saharan Africa (SSA), consumers had to pay on average 9.25% – by far the most expensive region in the world. The SDGs want to bring down the cost to between three and five percent. Most disturbingly, intra-Africa transfers can cost way more than 15% in some corridors, even when the countries are neighbours (e.g. Nigeria and Cameroon where a transfer can cost 15%). The following graphic shows the average prices some time in 2017 between the UK and selected African countries.

chart
The cost of sending remittances to and within Africa are the highest in the world. Sources: FSDA (2017) and The World Bank (2017)

When one considers that around 80% of African migrants stay within Africa, this is an incredibly high burden in terms of cost that reduces the positive impact of these essential flows for recipients. Many migrants are therefore forced to use informal mechanisms that are often cheaper, more trusted and more convenient. Yet informal mechanisms can be fronts for illicit financial flows, including money laundering and the financing of terrorism. They also indirectly influence competition as they mask the true size of a remittance corridor, deterring providers from entering the market.

Formal remittance flows are now higher than the value of official development assistance (ODA) and foreign direct investment (FDI). They have shown to have significant positive impact as they flow directly in the hands of those that rely on these funds as a primary source of income, and they tend to be more stable than ODA or FDI.

Based on all this evidence, FSDA asked us to understand the cost drivers and why it is still so expensive to send money to and within the continent despite all the innovations in the FinTech space with apps from players such as WorldRemit. We embarked on a journey to collect evidence through stakeholder interviews (with private sector players such as money transfer organisations, banks, FinTechs, and post offices, as well as regulators, policy makers and experts), mystery shopping, speaking to consumers, and ploughing through existing literature. We travelled to important remittance markets such as Nigeria, Ethiopia, Côte d’Ivoire and Uganda last year to understand the situation on the ground.

What I’ve learned since then is that remittances are an incredibly complicated business. It consists of providers in the first mile (where cash sending happens), the middle mile (where the processing of payments happens) and the last mile (where the recipient collects the money). The value chain is therefore very long and brings with it not only partnership complications but also technical issues. Cross-border money transfers are heavily regulated due to money laundering fears and severe risk exposure, but especially in Africa capital outflows of any kind are also heavily controlled in many markets still. To get a money transfer license can sometimes take a decade, we heard from some providers.

Overall, there were many interesting insights but at the end of the day we narrowed the reasons for the high costs down to four categories: business case barriers, regulatory barriers, infrastructure barriers and consumer-facing barriers. We then evaluated the number of citations and their impact on cost and access for the consumer to show how severe the barrier is for both providers and consumers:

Chart summarizing insights
Click to view the full-size image

From these insights we produced a range of reports, that you can access here, if you are interested, with the aim to disseminate them at key events and bring them into relevant discussions with the various stakeholders.

One avenue we are pursuing is to reduce the regulatory burden for providers to stimulate competition, especially in intra-Africa corridors. Many cross-border corridors are still dominated by one or two companies such as Western Union or MoneyGram that can set their prices freely. They are helped by the regulation as the licensing requirements in some cases can be incredibly high. For example, you may need to show capital of USD 20 million, be operational in at least seven countries for at least ten years. Of course, none of the newer players that can offer cheaper remittances through using apps, for example, can meet all
these requirements.

We were therefore on the hunt to influence regulators to revise some of the regulations. And a lot of regulation touches cross-border remittances: payment system act, banking act, foreign exchange act, agent banking regulation, e-money regulation, telecommunications regulation, cross-border transfer regulation etc – the list goes on and on. Every country seems to have their own set of rules and regulations that need to be made interoperable or at least harmonise to reduce the regulatory burdens in a value chain that can cross many jurisdictions. Definitely not an easy task! Many African countries are still heavily dependent on natural resources, such as Nigeria on oil for example. Their exchange rate with the dollar is fixed by the central bank. Yet, the Nigerian Naira is overvalued, leading to a parallel shadow market where one can get better rates for dollars on the streets of Lagos, impacting the use of formal remittance channels. But of course, the regulator is very concerned with financial stability and the impact a devaluation could have on foreign exchange reserves, inflation etc. Attracting more formal remittances does not sway the regulator enough to change the exchange rate policies. All of these realities need to be taken into consideration when approaching the regulators to try and achieve change based on research, and of course protocols play a huge role.

As part of this effort to reach regulators and based on the research we had done, I was recently invited to attend the inaugural meeting of experts, organized by the African Institute for Remittances (AIR), which is a programme established by the African Union. We were called from all over the continent based on our research and professional experience to build a cohort that would give technical assistance to willing African regulators. Last month we met in Mombasa, Kenya, and learned more about the planned interventions. On the one hand, we want to achieve better remittance data quality in the individual countries as the data can be questionable, but on the other hand we want to assist with writing the right kind of regulation that fosters innovation, reduces cost without reducing the access for consumers, and incentivise the uptake of formal remittance mechanisms.

I learned which data point to allocate to which balance of payment code at the central bank to make sure there is consistency across countries. I also learned how we will go about understand the regulatory background, as of course there is a difference between de jure and de facto regulation, i.e. we need to understand how regulation is interpreted from a stakeholder point of view.

So far it has been an exciting journey to see how we can take our insights into regulatory change. Some countries have already shown interest in being assessed and assisted and we will receive a list of our country missions as the expert cohort soon. Judging from our past work with regulators, this process can take many months, years if not decades but the potential impact of such fundamental changes is immense, especially for the individual person on the ground. System-level impact takes patience and perseverance.

ITFD taught me to be precise and on-point with my research to effect change – policy makers do not want to read 300 pages no matter how well-researched the material is. Insights need to be relatable and digestible, yet you also need to be able to raise funding for important interventions even if they seem cumbersome. We are lucky that FSDA has such a mandate and I look forward to continuing this journey with them and the African Union. Hopefully I will be able to report a significant drop in remittance prices due to regulatory change soon..ish.

portrait

Antonia Esser ’11 is an Associate at Cenfri in Cape Town, South Africa. She is an alum of the Barcelona GSE Master’s in International Trade, Finance, and Development.

LinkedIn | Twitter

Economics by Barcelona GSE alumni at CaixaBank Research (Vol. 2)

Recent work by alumni at CaixaBank Research

It’s our second roundup of articles by Barcelona GSE Alumni who are now working as research assistants and economists at CaixaBank Research in Barcelona (see Vol. 1).

This roundup includes posts and videos from the second half of 2018 and early 2019, listed in reverse chronological order. Click each author’s name to view all of his or her articles from CaixaBank Research in English, Catalan, and Spanish.

Education as a lever for inclusive growth

Ricard Murillo ’17 (International Trade, Finance, and Development)

The importance of education for people’s well-being throughout all stages of their lives is beyond any doubt. At the economic level, individuals with higher levels of education tend to enjoy higher employment rates and income levels. What is more, all the indicators suggest that in the years to come, the role of education will be even more important. The challenges posed by technological change and globalisation have a profound effect on the educational model.


Social cohesion and inclusive growth: inseparable

Javier Ibáñez de Aldecoa ’18 (Economics)

Faced with the major transformation of the productive system brought about by technological change and globalisation, as well as the challenges posed by an ageing population, it is important to take action to strengthen social cohesion – an indispensable element if we are to carry out reforms that foster an inclusive and sustained form of growth.


The central banks, at the helm of a more volatile environment

Adrià Morron ’12 (Economics) and Ricard Murillo ’17 (ITFD)

The US and the euro area are at different stages of their financial cycles: while the Fed’s monetary policy is close to becoming neutral or even restrictive, the ECB remains in clearly accommodative territory. However, to some extent, both are facing a common risk: the decoupling between their monetary policy and the financial conditions. The two institutions will try to manage their tools carefully, in order to facilitate a gradual adjustment of the financial conditions in the US and, in the case of the euro area, to keep them in accommodative territory.


Regulation more appropriate to the nature of the banking sector

Gerard Arqué ’09 (Macroeconomic Policy and Financial Markets)

Thanks to the implementation of the measures introduced following the financial crisis, today the financial sector is more robust than before. This will help to minimise the impact to the economy and financial stability in periods of upheaval, since countries with better-capitalised banking systems tend to experience shorter recessions and less contraction in the supply of credit. However, the outstanding tasks we have mentioned should be properly addressed sooner rather than later.

Bonus video! An unconventional monetary policy cycle

Adrià Morron ’12 (Economics)

Central banks are facing the challenge of removing the extraordinary measures imposed during the financial crisis of 2007-2008 and the subsequent economic recession. In normal times, central banks would simply raise interest rates up to the desired level. However, monetary policy is currently in a rather unconventional cycle.


Source: Caixabank Research

If you’re an alum and you’re also writing about Economics, let us know where we can find your stuff!