Dear Roy

From a global trade perspective, the United States clearly matters more to the world economy than China – but its pre-eminence in world markets is gradually declining.
The US share of world imports has shrunk from 19 percent in 2000 to below 15 percent in 2007, while the share of East Asia (excluding Japan) is now 19 percent — of which China is over 6 percent — and that of other developing countries is around 22 percent.

Note that there is a lot of trade of intermediate and semi-finished products within East Asia which is ultimately destined for US markets – so a slowdown in US imports is usually accompanied by a slow down in trade within East Asia. If we assume East Asia is one country (economists are used to assuming anything to make a point!), then the United States imports about imports about 29 percent of East Asia’s final exports – compared to about 26 percent for other developing countries and 45 percent for other industrial countries (that is Europe, Japan, Australia, Canada and so on).

In short, the US is an important player in the world market (it accounts for roughly a fifth of the world’s GDP), but its role has been shrinking slowly.

Best regards

Vikram

Dear Roy

I am not an expert on the international rice market, and a lot of analysis is underway to try to explain why the rice prices have suddenly exploded (and there is no better term to describe what has happened). For what its worth, my sense is that that part of the striy can be explained by two long term trends – rapidly growing global demand for rice driven in part by rapid growth in incomes in the developing world, especially China and India; and slowing growth in rice production as yield increases have slowed and land used for rice cultivation has been lost to urbanization and industrialization in key producing countries – again in countries like China and India, but also in Indonesia and Thailand among others.

But the above explanation suggests that the relative price of rice would increase relatively gradually – although, as we have seen, the price of rice suddenly began to climb rapidly around the middle of last year. My hunch is that the long-term trends have been overlaid by three relatively short-term factors that explain the sudden spike in recent months. First, rice stocks have gradually declined in the rice surplus countries and the markets did not react until they reached critically low levels; second, the crisis in the US financial markets have driven investors – always in search of high returns – away from the stock and bond markets and toward commodities (which also partly explains, incidentally, why there has been a spike recently in other food prices, as well as fuel, and metal prices). Finally, the worlds major exporters are relatively few – Thailand, Egypt, India, Vietnam, China, and so on – and many of these countries have either banned rice exports or placed tough export restrictions in a bid to keep domestic prices affordable for their own populations.

But as I said, these are just my own “theories” without any real evidence to back them up, so let’s wait and see what the real "gurus" have to say once they have analyzed the data.

Best regards

Vikram

Dear Mr. Windfield

East Asia's (and China's) export growth rate has been declining since 2004 even as its GDP growth rate has been rising. It follows that domestic demand has become a more important driver of growth over the last few years.

Looking to the future, the deceleration in global growth stemming from the slowdown in the United States will mean that export markets are unlikely to grow as rapidly in 2008 as they did in 2007 – which suggests that exports from East Asia (and China) will grow even more slowly. And while GDP growth is also expected to slow, it will not slow as rapidly as export growth – thanks to continued robust domestic demand.

Best regards

Vikram

Dear Sokheang

The US slowdown – which is likely to spread to other industrial and developing countries -- will obviously have a dampening effect on Cambodia’s export prospects, particularly in garments. But we don’t believe this will too pronounced because the US slowdown is not the only global factor that will affect Cambodia. Another factor is high global food prices which we hope will spur agricultural production in Cambodia (a primarily agricultural economy where agricultural growth in the past contributed about a quarter of the growth rate of GDP). In addition, while the slowdown in the world economy may dampen the growth of tourist arrivals in the country (many of whom come to see the world-famous Angkor Wat temple complex in Siem Reap), it is important to remember that Cambodia is a largely dollarized economy, and the declining value of the US dollar has made tourism to Cambodia very cheap for Asian and European tourists. So its quite possible that the price effect may trump the income effect, and Cambodia’s tourist industry may actually benefit overall.

Inflation has been rising in Cambodia just as it has in other East Asian economies (or for that matter, around the world). Cost-push pressure is being exerted by higher food, fuel, and metals prices, but this is being more than accommodated by rising money supply which is being driven by substantial capital inflows. Here the situation is rather the same as in Vietnam.

Best regards

Vikram

Dear Eddy

The technology you suggest, if it works, could be invaluable to governments who are keen to target subsidies to specific individuals or households. Such forms of “smart” conditional cash transfers could significantly reduce costs of administering such subsidy schemes. The challenge will remain, however, of how to identify the individuals and households who should receive such cards. In Indonesia, they have a terrific family planning survey which they used to identify poor households during the crisis so they could give each such household 20kgs of rice each month. But updating such survey information is costly -- and therein lies the rub. Once you have a technology that is able to do that frequently, accurately, and cost-effectively, then you could have a real winning combination.

Best regards

Vikram

Dear Imran

I am not sure what you mean by your first question, but its interesting to note that a strong and resilient Chinese economy (which is the third largest in the world in PPP terms) works strongly in favor of the United States – especially now that its economy is slowing so quickly – because China has become an important market for US exports. The decline in the US dollar should assist the United States in becoming more competitive in external markets and allow exports to become an engine of growth and reverse – or at least ameliorate -- its economic slowdown. And indeed there are indications that this is already happening – the US trade deficit (that is, imports less exports) is shrinking rapidly. But this process will be helped enormously if US export markets are strong and growing healthily. And that not only means China but other developing and developed economies as well.

A strong and resilient Chinese economy is even more helpful to Asia – especially East Asia. Trade within East Asia has been growing particularly rapidly over the last three decades, and China has been at the center of such growth in the last two of them. Apart from being a part of an East Asian production network, China is also an independent source of demand for raw materials as well as finished goods. Slower growth in China has important ramifications for export growth in the rest of East Asia.

Best regards

Vikram

Dear Luong (I hope I have your first name right!)

Allow me to rephrase your question if I may. I think you mean to ask whether it is possible for Vietnam to reduce the growth rate of credit from 50 percent a year (which was the case in 2007) to 30 per cent a year (the recently announced target for 2008) while still maintaining GDP growth at around 8 percent.

If that is your question, then it’s a terrific one!

I think there is no doubt that the Vietnamese authorities are quite right in being concerned about the inflation rate – which was above 16 percent as of February 2008. Rising food prices, and the desire to maintain a fixed exchange rate that, in turn, fueled rapid credit growth, were the most important underlying reasons. Lowering the pace of domestic credit expansion to around 30 percent in 2008 is, therefore, an important element in the country’s anti-inflationary policy – but it’s not the only one. The authorities are also looking to see if their fiscal stance can also be less expansionary and are re-examining their policies toward exchange rate flexibility (to allow the nominal exchange rate to appreciate somewhat as a way of reducing imported inflation).

Will the reduction in the credit expansion rate from 50 percent to 30 percent be so drastic as to affect the growth rate? We believe that a slowdown in the growth rate is probably inevitable, but it should not be too significant. Indeed, the Vietnamese have done this once before – in 2004, when the authorities reduced the growth rate of credit from 46 percent to 25 percent (although admittedly they did it over two years), and the impact on the growth rate was not an issue. But more important is the point that economic policymaking involves balancing many different objectives, and this requires that adjustments in key macroeconomic policy parameters are done gradually. Thus, the authorities need to gradually reduce domestic credit expansion over 2008 so as not to “shock” the economy and avoid any sharp contraction in economic activity. And if it turns out that the eventual outcome is a higher pace of credit expansion than the target 30 percent, then so be it – so long as they don’t deviate from their eventual objective of lowering the core inflation rate (that is, excluding food and fuel) to a level that is below the real growth rate.

Now, some people could argue that the target credit growth rate of 30 percent for 2008 is too “expansionary” and would continue to fuel inflation. While this is certainly possible – in which case monetary policy may need to be tightened further – its important to remember that Vietnam ‘s economy is still being monetized, so an expansion in broad money at a rate significantly higher than the growth of nominal GDP is possible while still being consistent with decelerating inflation.

Best regards

Vikram

Dear Nasrudin

The Indonesian economy has been recovering well since the 1997 crisis. Last year it reached its highest growth rate since the crisis, the government’s debt burden has declined considerably (as has the external debt burden of the country), and the banks and corporations are in much better financial shape today (thanks to more careful lending and borrowing decisions). All of this while the country has gone through two transformations -- the first is its transformation into a vibrant democracy and the second is its transformation into a highly decentralized economy. These are remarkable accomplishments.

But to be honest, there are other features that worry me – some of which are short term and others are long term.

Among the short term issues, I worry about the high and rising oil subsidy that is a huge burden on the budget (it costs over 100 trillion rupiah a year at the current high price of oil in world markets!). What is more, this subsidy helps the rich more than it helps the poor. One estimate shows that something like 45 percent of the subsidy benefits people at the top 10 percent of the income distribution. At this level the subsidy is also equal to the government’s entire social spending plus its capital spending. Wouldn’t it be better if this subsidy were reduced somewhat and the savings be used to help the genuinely poor –so that they can better afford to pay for the rising cost of food?

A second concern I have is the so-called “jobless’ nature of the growth in much of this decade. Usually, growth leads to more employment and poverty reduction – but in Indonesia the employment generation and poverty reduction in recent years has been disappointing, although I’m glad to say that employment did show strong growth in 2007. I am not sure why the trend of employment growth has been slow – it could be that much of the growth is coming from plantations and capital intensive industries that do not employ a lot of people; or it could be that industries are loathe to employ additional staff as they grow because restrictive labor regulations will not allow them to be shed in the event of a downturn. What is needed is a careful examination of the causes – something that the World Bank is doing jointly with the government – so that corrective measures can be taken. And this is where your second point comes in –rapidly growing and healthy small and medium enterprises (SMEs) usually helps boost employment and productivity (and hence wages) and also creates skills in the informal sector. But promoting a vibrant SME sector is easier said than done – may countries have tried and failed. At the same time some have succeeded and it is worth seeing what lessons Indonesia can learn from these examples. I would suggest that you take a look at the World Bank’s excellent Private Sector Development Blog to learn more: http://psdblog.worldbank.org, as well as the following IFC-World Bank website specifically devoted to SME development: http://ifchq14.ifc.org/ifcext/sme.nsf/Content/Home.

A third concern I have (and I promise I will stop here!) is to do with Indonesia’s long term prospects – which depends a great deal on its ability to develop world class competitive "knowledge intensive industries". Experience shows that successful middle income countries have been able to become competitive in areas that have traditionally been the preserve of industrial economies – areas that require knowledge and skills, such as electronics, finance, medicine, genetics, ICT, and so on. But there is little sign of such industries developing in Indonesia – and at the same time, it is not clear what the government needs to do promote their growth (introducing the wrong policies could do more damage than good!). So this is clearly an area for further investigation and debate.

Best regards

Vikram

Dear Saadi

Unfortunately, our analysis focuses on East Asia – and therefore, I cannot say much about Pakistan which is part of South Asia. But you can always contact my colleague, Shanta Devarajan, the World Bank’s Chief Economist for the South Asia Region and ask him your question at his excellent blog: End Poverty in South Asia. (http://endpovertyinsouthasia.worldbank.org/).

Good luck.

Vikram

Dear Bruno

You raise a very interesting question. My sense is that the Chinese authorities are probably hoping that the slowdown in the global economy will help their own efforts in cooling the Chinese economy. That may explain the pause in the gradual appreciation of the nominal exchange rate that had been taking place earlier. At the same time, the authorities have been steadily tightening monetary policy (domestic interest rates have been rising steadily). I suspect that unless inflation actually comes down, the authorities will continue to adopt a fairly restrictive monetary stance.

At the same time, the authorities have imposed a few price controls and export quotas of foodstuffs and this has probably suppressed the headline inflation rate somewhat – although to what extent is not known.

Finally, let me add that there is a debate in China on the effectiveness of monetary policies and whether tightening monetary policy can actually slow investment and growth. Those who believe monetary policy is largely ineffective argue that much public and private investment is driven by local authorities who sell or lease land to finance their investments – and this activity is independent of the interest rate. In addition, despite monetary tightening, the real lending rate in China is still marginally negative, so the incentive to borrow continues to be strong.

Best regards

Vikram

Dear Ben

The growth rate of China’s exports more than halved between 2004 and 2007 (from 40 percent to 20 percent) while GDP growth increased from slightly around 9 percent to over 11 percent. That means domestic demand became a more important driver of growth during that period.

Best regards

Vikram

Dear Dr, van Gessel

Thank you for your very kind words. Your proposal on tempe processing appears quite intriguing, so may I suggest you contact our Sector Manager for Rural Development in East Asia – Mr. Rahul Raturi – and seek his advice on the matter. We'll send you his contact details separately after the chat.

Best regards

Vikram

Dear Banjoko

I am not sure I fully follow the logic behind your question, but let me use this opportunity to make one point. China’s rapid growth over the last three decades has been far higher than the growth rate of the United States – so by simple arithmetic, China’s importance in the world economy has grown relative to that of the US. Yet, the GDP of the US is still about four times that of China ($13 trillion compared to $3 trillion) while China has a population that is four times that of the US. That means the average per capita income in the US is about sixteen times that of China. Of course, if the two countries continue to grow at their current pace (say 10 percent a year for China compared to about 3 percent a year for the US), then China’s per capita income will equal that of the US in about 40 years. But a lot of things can happen in 40 years!

Best regards

Vikram

Dear Deborah

I agree with you that price controls dampen incentives to produce. But I am not sure I agree with you when you suggest that distribution channels are to blame for high prices or that "middlemen" are the culprits. I know that this is a popular view in many countries, but there is little evidence to support it. Its quite possible that this may be true in a particular locality in a particular country, but I don’t believe one can generalize from a few instances.

The reality is that foodgrain – such as rice or wheat or corn – is a fairly homogenous commodity (at least the different strains are homogenous). And it would take an astonishingly capable trader to corner the market in a country. In some countries, however, the government may by law grant a public sector company monopoly control over foodgrain trade, but I don’t believe you are referring to such cases.

Best regards

Vikram

Dear Djarot,

My earlier answer to Nasrudin Arief might be helpful. The Indonesian economy is growing strongly recently and we are expecting around a 6% growth rate in 2008. However the ‘jobless’ nature of growth is a concern - although employment did grow strongly in 2007 - and this problem needs more analysis and attention. Sustained poverty reduction will be helped by continued strong growth and be further assisted by the government’s growing focus on targeted programs for the poor and on social spending for health and education.

Best regards

Vikram

Dear Nkoulou

Good question – but I am not competent to answer it! But do keep an eye on the World Bank’s Africa Region website at http://www.worldbank.org/afr for information.

Best wishes

Vikram

Dear Marina

Your projections are based on current trends continuing into the not-too-distant future – and I daresay you are probably right (although I have not done the numbers myself). But China has enormous opportunities to improve the energy efficiency of its economy for the simple reason that it invests about half its GDP – and this allows it to replace old capital stock (machines, buildings, cars, buses, and so on) fairly quickly with new capital stock that could embody new technologies that use less energy. It also has the opportunity to develop new transport systems and plan its rapidly growing urban areas in ways that make them far more energy efficient than the United States. But to do this, there not only need to be strong price incentives to shape consumer choice and encourage energy efficient investment, but also strong urban and other public policies that ensure sound environmental standards and efficient energy use.

Of course, with oil at above $100 per barrel, not only has the incentive to increase energy efficiency increased, but the incentive to find substitutes has also increased substantially. There is renewed interest in wind and solar energy and there has been a substantial increase in the production of bio-fuels (although with the painful side effect of increasing the demand for corn and contributing significantly to its recent price increases).

Incidentally, most of China’s energy does not come from oil but from coal – and if oil-based technologies can be converted to electricity-based technologies, then China’s reliance on oil will be significantly reduced (and it has abundant coal). But coal has its own environmental problems, although in electricity generation China uses the latest technology in its new electricity generation plants that ensure they do not pollute the environment. On average, China puts up four 500 MW electricity generation plants a week (most of them coal-based) – that’s one every two days or so! Unfortunately, I understand that these new environmentally-friendly technologies are sometimes not used because not using them saves more money than paying the fines for polluting the environment!

Best regards

Vikram

Dear Qiwen
As I said in my responses to some other questioners, the Chinese authorities are keen to prevent a situation of significant excess demand which could threaten a more general inflation, and have therefore already been tightening monetary policy in various ways. A moderate slowdown due to weaker export growth would likely be welcome to policy makers, as it would help prevent the emergence of excess demand, while also reducing the trade surplus (which has been a source of trade friction with countries like the US). As you note, the government does have significant room to use more expansionary fiscal policy, should the slowdown in the economy turn out to be more than desirable. However you probably want to keep separate the question of the desirable rate of growth from that of energy efficiency and pollution. The aim should be to maintain high growth that generates new jobs and continues to reduce poverty rapidly, while at the same time applying policies that help firms and individuals change their production and consumption patterns towards more energy efficiency and less pollution.

Best regards

Vikram

Dear Seii,

I’m afraid I’m probably not qualified to give you specific investment advice! But let me suggest that further development of domestic capital markets is going to be one of the most important and exciting economic developments in East Asia in coming years. Most companies in the developing countries of the region still derive the bulk of their financing from banks or internally generated profits. However stock markets and domestic bond markets, while still relatively small, are growing fast, especially as governments make strong efforts to improve the legal, regulatory and technical underpinnings needed. The development of such markets will in turn boost development by providing firms and individuals access to more diversified forms of financing and new ways to diversify risk.

Best regards

Vikram

Dear Mr. Lutfi

I know Mr. Boediono well and I would certainly not presume to give him any advice – and I think his move to Bank Indonesia augurs well for the country. Right now Indonesia is facing the same concerns and problems that are confronting all the other countries of the East Asia region – namely cost push pressures that are leading to rising headline inflation. Bank Indonesia’s primary objective is to ensure that this one-off increase in food prices does not trigger higher core inflation – but that’s not an easy task!

Best regards

Vikram

Dear Show

The reason we do not include Myanmar in our analysis is because Bank activities are limited and no financing is provided to the Government. In line with the Bank’s practice of engagement in fragile and prolonged crisis situations, we continue to conduct analytical and monitoring activities, including providing technical support to IMF Article IV missions and missions led by other donors, and a small amount of trust-funded grant support for global public goods through non-government arrangements (in particular, to FAO for avian and human influenza-related issues). As with other countries in non-accrual status, the Bank’s limited activities with respect to Myanmar aim to maintain the World Bank’s analytical and operational readiness to assist, when circumstances warrant, as part of an international re-engagement effort that would include progress towards arrears clearance. Furthermore, data are often so scarce that it prevents us from doing analytical work with much depth.

Best regards

Vikram

Dear Rae

This is a really good question for which the answer would vary depending on the country concerned. As the East Asia Update noted, one set of effects of further “aftershocks” from the financial crisis in the US will be felt through either the stock and bond markets, or more directly through the balance sheets of banks. As far as stock and bond markets are concerned, they have already experienced – and absorbed – the initial shocks, but countries need to be concerned that further shocks do not lead to significant capital outflows. But even if this were to happen, most if not all countries of the region have significant reserves to deal with the situation – or they could allow greater flexibility in the exchange rate if necessary. Most corporations rely on banks for their financing – and from what we can discern the banks seem to be in good shape to continue providing loans to them.

There is a possibility that the aftershocks will also lead to a deeper and longer slowdown in the US – in which case the impact on East Asia will be through even slower growth in exports that will then feed through into slower growth in incomes. Here again, given their already rapid growth, East Asian economies could potentially slow further and still be growing reasonably fast. At some point however, if growth slows to the point that it leads to concerns about the impact on the poor or perhaps to social tensions, East Asian economies have the fiscal space to introduce expansionary fiscal policies to stimulate the economy and substitute domestic demand growth or export growth. I should note, though, that this fiscal space may not be all that large, given that the countries in the region are already facing rising inflation and expansionary fiscal policies could potentially add to those pressures.

Best regards

Vikram

Dear Zulgerel

China has become a key engine of growth through trade and financial flows – and its rapid growth has promoted exports and investments in the rest of East Asia. Increasingly, the countries of East Asia are being connected through production and financing networks – and China is a key part of this structure in large part because if its enormous size, but also because of its rapid growth and high investment levels.

As far as analysis of these structures are concerned, you may wish to look at the World Bank’s report entitled: "An East Asian Renaissance: Ideas for Economic Growth" – published last year - on the web http://go.worldbank.org/E3DKQVL300.

Best regards

Vikram

Dear Sarah

You have presented well the challenges of conveying policy recommendations that cut across sectors and ministries. Some countries have already set up inter-ministerial committees to deal with the problem of rising food prices – which include the central bank, the Ministry of Finance, the Agricultural Ministry, the Ministry of Industry, and so on. In others, decisions are being coordinated by offices of coordinating ministers or the prime minister. So it all depends on what the specific decision making structures are in each country – but without doubt, it is important that such policies be supported from the very top of the government hierarchy.

Best regards

Vikram

Dear Ramon

You may want to look at an earlier question on rice that I think should answer your question.

Best regards

Vikram

Dear Show,

Sovereign wealth funds are of two kinds – either they come from the reserves of the central bank or they are financed from the accumulated savings from government fiscal surpluses. In either case, the ownership is with the sovereign authority of the country – hence the name “sovereign wealth fund”. That is why the Myanmar government cannot have any claims on the Singapore sovereign wealth fund (actually Singapore has two: Temasek and the Government Investment Corporation).

But that does not preclude the Government of Myanmar having resources invested outside the country – as many governments and central banks, and indeed sovereign wealth funds, do.

Best regards

Vikram

Dear Richard

First of all, let me thank you for performing such an important service as the disabled are often a forgotten group in developing countries.

Coming to your question – to the extent that programs for the disabled are dependent on government budgets or voluntary contributions from the private sector or households, any broad economic slowdown is likely to also lead to some erosion in financial support. This is something that we need to keep a close eye on. I also worry that were the slowdown in East Asia to accelerate and lead to lay-offs and more unemployment, then the disabled could be affected disproportionately. In such circumstances, there is a strong case for governments to consider programs to protect the disabled as well as ensuring that the disabled are not discriminated against in the workplace.

Good luck with your work.

Best regards

Vikram

China is an interesting case of rising inequality accompanied by rapid poverty reduction. In recent years rural incomes have been rising at about 5-6%, while incomes of the wealthier urban populations rise at 10%. So, the Gini measure of inequality has continued to increase, reaching a level now about the same as in the U.S. At the same time, the income gains in rural areas are enough to rapidly move people out of poverty. The share of the population below our "cost of basic needs" poverty line declined by one-third between 2004 and 2007 (from 10% to 7%). Another factor supporting inclusive growth is that each year millions of people relocate from low-productivity rural employment to higher productivity urban employment.

China provides many interesting lessons that other developing countries can learn from. I would highlight four factors that have helped it grow well: (1) it is very open to foreign trade and direct foreign investment (but not portfolio flows); (2) it has developed good infrastructure in roads, rail, ports, power, and telecom primarily through a "cost recovery" policy that prices those services high enough to pay for the investment and maintenance; (3) dozens of cities have created good investment climates for the private sector and these cities compete with each other to attract investment; and (4) Chinese people (though not necessarily the government) investment a lot in education.

The poverty line we prefer to use is 888RMB of consumption; this is an estimate of what is needed to provide 2100 calories per day and the other basic necessities of life. It happened that at the old PPP estimates, this line was almost exactly $1 per day at PPP. With the new price estimates, this line will now be less than $1 per day, and the new $1 per day line will be somewhat higher. The World Bank research department has not yet published a final estimate. But they have given us a range into which the new poverty estimate will fall: the old $1 per day estimate was 64% in 1981; that will rise to somewhere in the 71-77% range; the old estimate for 2004 was 10%; that will rise to the range of 13-17%.

China has more than 50 ethnic minority groups scattered around the country. Some live in relatively isolated western or mountainous areas. These areas have had some economic growth but not as much as in the dynamic coastal areas. Poverty has declined for ethnic minorities, but not as quickly as for Han Chinese. The World Bank has a number of projects that benefit ethnic minority populations. "Basic education in the west" supports literacy in native languages. The soon-to-be-approved "Guizhou cultural heritage preservation project" will help ethnic communities in the poorest province of China preserve their living heritage.

The definition of inflation is a rise in prices. High food prices, caused by price hikes on the international markets and domestic supply problems, pushed up inflation in 2007. In January 2008 consumer price inflation reached 7.1 percent. Inflation eats into people’s purchasing power. If not contained, it also threatens macroeconomic stability. That is why China’s policymakers, as policymakers in other countries, are concerned when inflation is rising. So far, the high food prices have not spilled over into overall inflation pressures. However, some of this spill-over has happened, and the authorities are right to be keen to prevent large scale spill over and contain inflation pressures. As we mention in the quarterly, we agree that, in the face of price pressures on international markets, a strong exchange rate helps dampen price pressures. The government seems to be of the same view: the pace of appreciation against the US$ has increased since the fall of 2007, and is expected to remain considerable.

I don’t think I would call the downturn in the U.S. a "crisis," but an important theme of our quarterly report is that the U.S. economy is slowing and that this will affect China and the rest of the world. We are cautiously optimistic, however, that China will continue to grow rather well – our projection is 9.6% for 2008 – and that will help support global growth and make it easier for the U.S. to resume healthy growth.

Industrialization has had very significant pollution costs for China. In the case of water pollution the situation has improved somewhat in recent years. Over 90% of industrial discharge is treated, so that industry is no longer the main source of water pollution. The biggest source is un- or poorly treated household waste (only slightly more than 50% of urban household waste is treated). Most cities are investing rapidly to expand waste-water treatment, so water quality is likely to continue to gradually improve. Agriculture is also a major source of water pollution through run-off of fertilizer and pesticides. This is harder to change because it involves hundreds of millions of peasants. What is needed are extension services for farmers to better understand fertilizer and pesticide use; effective bans on the most dangerous chemicals; and consumer movements raising awareness about safe food.

Migrant workers are both a challenge and an opportunity for China. The fact that so many rural people want to move to cities indicates that they have better economic opportunities there. China has a registration system that to some extent manages migration. Even with this system in place, 200 million people or so have moved to cities in the past 20 years. The World Bank is working with three Chinese provinces on improving the training and employment services for migrants so that they integrate more successfully into urban life. Programs to help migrants get skills, find jobs, and get access to social services in their new location can help China sustain its rapid growth and improve the lives of the rural population.

China will soon emerge as the largest user of energy in the world, while its domestic supply of energy is modest. Because of rapid global growth and dwindling supply, traditional sources of energy are becoming more scarce. China recognizes the scarcity issue and has set a highly amibitious target to increase energy efficiency by 20% during its current five-year plan. It has a number of ambitious administrative measures: closing less efficient power plants, raising fuel-efficiency standards of cars beyond the U.S. level. However, in my view it is not sufficiently taking advantage of market measures. China does not pass the full cost increase of petroleum in the world market through to its consumers. Its energy prices are similar to the U.S. If it followed a European policy of higher energy prices it would cut its energy use significantly. China also has an ambitious program to develop renewable energy sources and to increase their role in the overall energy mix.

In China the livestock sector, like the rest of agriculture, is primarily managed by private farmers. The government provides some support in the form of extension services, but the development is mostly based on private investment. Agriculture overall has been growing at a healthy rate of 4-5% in recent years. Further grain production has only modest potential, so that most of this increase comes from livestock, fruits, and vegetables.

The percentage of FDI going to agriculture is very small. Most FDI goes to manufacturing, and some goes to service sectors such as banking and hotels.

We do not think that China’s economy is significantly overheated. We belief that the rapid growth in China has been combined with rapid expansion of the capacity to produce ("potential output" has grown broadly in line with actual GDP growth). That is why we think that China has not seen significant excess demand and domestically generated inflation pressure of the type that we often see in other emerging markets when they grow rapidly. Although food prices have increased drastically (see answer to Dan Berg’s question on inflation for the reasons), non-food inflation remains at 1 – 1.5 percent year on year. Other indicators that support the judgement that China’s economy is not significantly overheated are that there are no systemic bottlenecks in the real economy and there is no current account deficit.

With international interest rates falling and Chinese rates increasing, the net gain/cost to the PBC is becoming less favorable. And the impact is material. For instance, every 1 percentage point of lower US treasury bond yields would mean about US$ 10-15 billion less revenue for the PBC against its cost of domestic liabilities. Up to some limit, we would not expect the cost of sterilization to be a dominating factor in determining policy. But there are limits. With the RMB traditionally anchored around the US$, fluctuations in the US$/euro rate indeed affects the RMB exchange rate. We agree with governor Zhou, who has noted that with trade with countries other than the US increasingly important, China’s exchange rate should increasingly be looked at in (trade weighted) effective terms, rather than in terms of the US$ rate. The more rapid pace of appreciation against the US$ in recent months is likely to be motivated at least in part by the desire to dampen price pressures.

Development has been faster in coastal cities because of their better location and their earlier moves to reform. All parts of China have experienced rapid growth and poverty reduction, however. China overall still is only a country with $2,000 per capita GDP, so many interior locations look poor. But if you saw them 20 years ago, they were far poorer then. Many of the interior parts of China are now growing very well and central provinces certainly have the potential to develop successfully. But some parts of the north such as Inner Mongolia, Shaanxi, and Shanxi are severely water-stressed, and that limits their potential. It would be economically rational for some people to migrate out of these water-stressed areas to other parts of China.

The State Environmental Protection Agency has been working with the World Bank to estimate the costs of pollution in China. For example, we estimate that the health costs of air and water pollution amount to 4.3% of GDP. In principle you can use these kinds of estimates to adjust traditional GDP measures to become "green GDP." Personally, I prefer to keep the two estimates separate, as this is more useful for policy. The traditional GDP measure tells you how much economic activity there is (value of all goods and services produced in China in a year). The estimate of the cost of pollution tells you that if the pollution can be cleaned up at a lower cost, then it would be net benefit to society to do so. In the case of China, many of the important steps needed to reduce air pollution are not that expensive so that it is clearly in the interest of Chinese cities to do so.

China in recent years has been the most successful developing country so we have to say its transition so far is effective. However, it faces a number of major challenges: (1) natural resource scarcity and environmental degradation; (2) growing social disparity, especially between urban and rural populations; and (3) macroeconomic imbalance (large and unsustainable trade surplus). The three problems are inter-related: spending more on social programs and environmental protection will help rebalance the economy away from exports towards domestic needs.

As you observe, increases in prices of food and housing have been particularly high recently. Housing prices are not captured by the CPI. Food is. And, indeed, prices of manufacturing products have seen much less price inflation. That is in part because of good reasons: rapid productivity growth. It is also because of relentless competition. The factors determining the RMB exchange rate are many. One important set of factors is the demand and supply of foreign exchange. On this account, we would expect to see further strengthening of the RMB as China' s external surpluses remain large.

The authorities can also decide to use a stronger exchange rate to offset high prices of imported products. China has done that in recent months, when it increased the pace of appreciation against the dollar. The expectation is that the authorities will continue along these lines. Market consensus is for an appreciation against the dollar of around 7-9 percent or so. As China trades increasingly with nations other than the US, it becomes increasingly important to look at China's trade weighted exchange rate instead of just the US$ exchange rate.

For the moment, we mainly look at the impact of a slower world economy on China. At the moment, China's domestic economy is growing strongly. Thus, China may become a net driver of world growth in 2008. Given the increasing role of China, if sentiment were to turn and the domestic economy were to slow down, that would be a negative for world growth. (2) We think that price controls may be effective in the short run in containing inflation expectations. As time goes on, we feel that the negative incentive effects (no feedback from higher prices to increased supply) increase. That is why we think that price controls should be used sparingly and not for too long a time. To date, the administrative measures taken in reponse to food price pressure do not seem to have protection as a motivation. If the food price pressures last for long other measures, including direct subsidies, may be better.

China began its economic reform with 80% of the labor force rural and the other 20% mostly in industry. With little arable land per capita this left most of the population very poor. Quite a bit of China’s growth has been driven by gradually shifting labor force out of agriculture into industry and services. I would say that China is about half way through this transition. The process has increased prosperity for pretty much every household in China because urban jobs pay more than rural ones, migrants send remittances to relatives back in the countryside, and the out-migration improves the ratio of land to labor so that remaining farmers can earn more and live better. I have a paper you can access online with more details: "Poverty, inequality and social disparities during China’s economic reform"

Agree. We always have a figure in our China Quarterly Update on the contribution to growth of domestic demand and of net exports. Even in the years 2006 and 2007, when China's trade surplus increased rapidly, more than 3/4th of growth came from domestic demand. In 2008, this share is expected to increase considerably.

We think indeed that as a large economy with robust domestic demand, China will be able to see decent growth even with a weak economy (see our quarterly for more specifics and details). And, indeed, given China's increasing role in the world economy (it is likely to be the country with the largest contribution to world GDP growth this year), China's robust domestic economy may help dampen the negative pressures on world growth coming from other parts of the world.

If need be, yes. We think that, if need be, China can ease policies a bit to dampen the negative impact of slower world growth. We think that because China's macroeconomic position (including the fiscal one) is strong.

The projected slowdown of the U.S. economy is pretty significant so we feel that the mark down in our forecast is fairly modest: old earlier forecast for 2008 was 10.4%, so we have marked that down less than one percentage point to 9.6%. In recent year net exports have played a role in China's growth and we see that diminished. This will have some spillover effect on domestic investment as well. For the moment we do not anticipate countercyclical measures so that our forecast is based on the current policy stance. However, we note that there are downside risks in the global economy, and if the U.S. and global economy grows more slowly than expected, then some countercyclical measures in China would be called for. Current fiscal policy is conservative; if needed the government could easily stimulate the economy with temporary tax breaks or additional spending. That is another reason to be cautiously optimistic that China can still grow at 9+% despite a global slowdown.

I am afraid that the World Bank is not a good source for that kind of information. I would guess that the Indian government would be a better source of information on major Chinese companies investing in India.

We do not think that there is that strong a connection between the stock market and the real economy in China. Very few households are looking to stock market gains to fund their consumption. So, the recent correction in stock prices does not affect the vast majority of households. The stock market has also not been a major source of funding for new investment. Most of the dynamic private sector firms have had difficulty listing. That is beginning to change so that in the future the stock market could play more of a role funding investment. The correction that has occurred so far should not be a major deterrent to new firms listing.

China is on track to become a world economic power. Our answer to Dr. Urkude suggests some of the success factors that might be relevant to a large developing country such as Nigeria. Going forward, China faces some challenges to continue its successful development. First, it needs to continue to strengthen basic economic institutions such as the legal and financial systems; second, it is paying too high a cost for its growth in terms of environmental degradation and needs stronger measures to conserve natural resources and protect the environment; and third the large-scale rural-urban migration will continue for another 10-20 years, and managing that smoothly is both a social and environmental challenge.

Personally, I think that the Olympic games play an important role in increasing understanding among nations and peoples. I think that the Beijing games will help the rest of the world understand and appreciate China better. That kind of understanding helps underpin peace, stability, and economic relations. So, yes, I do think that the 2008 Olympic games will have long-term benefits for the global economy and for China.

We find it difficult to say on the basis of one month. But, yes, credit growth was very strong in January. Of course this was on the back of surpressed credit expansion in the last months of 2007. The coming months will tell more. However, as we note in the Quarterly, we think that the authorities will feel somewhat constraint in hiking interest rates and may use other instruments to keep money growth in check.

We do our growth forecast based on our assessment and assumptions of the factors driving the "demand side": exports, imports, investment, and consumption. We spell out this assessment and those assumptions in our China Quarterly Update. Actually, in recent years China’s official growth projections (or targets) have been set rather low compared to both outside analysts including us and the final outcome. For instance, the official forecast or target for 2007 was 8 percent. Our projection for 2007 was around 10 percent (if I remember correctly), and the final outcome was a whopping 11.4 percent.

So far inflation is concentrated in food, with little spill over to date and little obvious excess demand. That is why, while the authorities rightly work on having relatively tight monetary policy and manage expectations, including by some temporary price controls, the measures are not drastic. A stronger exchange rate (against the US$) is also used to dampen price pressures. In that sense, the RMB/US$ exchange rate is affected by China's inflation and the measures against it. However, how the RMB/US$ is affected by the other measures to fight inflation is difficult to say.

Both approaches are needed. For example, soil fertility is a major constraint on productivity in Africa. This urgently requires increasing fertilizer consumption which is less than 10% of other developing regions (in terms of nutrients per ha). However, this has to be combined with approaches such as legumes and agroforestry which increase both soil fertility and soil structure and which have been successfully adopted in Zambia. These different approaches and examples of their success are outlined in chapter 7 of the WDR.

OECD farm subsidies and protection cost developing countries about five times what they provide in aid to agriculture (chapter 4 of the WDR). The Doha round of trade negotiations must progress, and the top priority is to reduce trade distortions that hurt developing countries most—especially those in cotton and oilseeds. But this impact differs across products and countries. With full trade liberalization, international agricultural commodity prices are estimated to increase on average by 5.5 percent, while those of cotton are expected to increase by 21 percent and oilseeds by 15 percent.

However, the average distortion in world prices from trade policies is about 5 percent for food grains (lower than for traditional export crops), with imperfect transmission of world prices to domestic producers given infrastructure and transport costs. This long-term effect is small relative to recent price changes on food grain prices, as reflected by the increase in world maize prices by about 40 percent over the past three years. So the overall effect of trade distortions on food grain prices in the poorer developing countries is likely to be small.

In many countries, yield losses of cereals will be significant--as much as 20-40 percent with temperature rises of 3-4 C.

It is urgent that countries most affected by climate change invest in adaptation measures. Richer countries that have been the cause of climate change have to provide financial support to adaptation in poorer countries.

The most urgent investments are in crop varieties tolerant to drought and heat, and irrigation systems. Also countries need to strengthen responses to increase vulnerability through crop insurance schemes and safety nets.

The emphasis in each countries should be on improving household food security which depends on the supply of food and the means to access food. In many small island countries it may be more efficient to import food grains, and focus on programs aimed at reducing poverty and providing safety nets to the poor.

Most countries experience this problem of lagging regions due to several factors such as poor agroclimatic conditions, poor infrastructure and social and ethnic exclusion (see chapter 2 of the WDR). The solution to these problems is very specific to the region. In some cases, investments in infrastructure, irrigation and agricultural technology can tranform lagging regions, as in the Cerrados of Brazil. In other cases, these regions may produce important environmental services . Several countries of Latin America are now paying farmers to preserve biodiversity and watersheds. But there are also regions where the best investment may be in educations and skills so that people can successfully migrate to other regions and sectors.

Genetically modified organisms (GMOs) do offer promise to increase food production and quality for the poor—both smallholders and poor consumers—but greater international and national public support is needed to go beyond today’s commercially-driven technologies to develop pro-poor traits and to regulate their safe testing, release, and use. Vitamin A enhanced rice is an example of propoor technology under development which could save millions of lives. This will entail increasing support to public national and international research for crops grown and consumed largely by the poor, as well as strengthening capacity in biosafety evaluation and regulation.

The World Bank is not against subsidies per se. Instead, we argue these should be well targeted toward achieving the highest possible payoff. The World Development Report takes a pragmatic position, favoring "smart subsidies" in select circumstances. Smart input subsidies should be transparent, well targeted to the poor (for example through a voucher or coupon system), should help jumpstart agricultural input markets and should be part of a comprehensive strategy to improve agricultural productivity.

In the wake of extreme drought and low agricultural productivity in early 2005, the Government of Malawi reintroduced a broader agricultural input subsidy program during the 2005/06 cropping season. Approximately 130,000 t of fertilizer was distributed through a coupon based distribution program to more than 1.3 million farm households. The following year, approximately 1.5 million farmers received coupons for the purchase of 150,000 t of fertilizer and two million farmers received coupons for free maize seed. In 2007/08 more than 1.7 million farmers are expected to coupons for 170,000 t of fertilizer and almost 3 million farmers are expected to receive coupons redeemable for seed. Over 50% of the budget of the Ministry of Agriculture and Food Security is allocated to pay these costs. Donor funds are paying some administration costs and much of the costs of the seed subsidy.

In combination with favorable rains, this program has contributed to sharp increases in maize harvests in 2006 and 2007. During the most recent harvest, the country produced an estimated 3.4 million metric tons (a surplus of 1.2 million metric tons above national requirements).

The Bank’s position is that the program should be targeted to achieve as large a set of development gains as possible. In effect, these should be “smart subsidies”.

First, these should target farmers who cannot afford fertilizer purchases in order to avoid displacement of commercial fertilizer sales. Though since most Malawian farmers are extremely poor, this commitment would still encompass large numbers of households.

Second, the subsidy should be linked with the best possible research and extension advice in order to be sure farmers are getting the highest possible gain from this investment. The fertilizers being provided need to be targeted to variable soil and rainfall conditions around the country. These should be linked with advice on cropping practices that will improve both fertilizer and water use efficiency such as timely application, good weed control and conservation farming practices.

Third, the subsidy should be managed in ways that encourage the expansion of commercial investment in wholesale and retail trade in agricultural inputs. This is a gain partly made by shifting from free input handouts to the use of vouchers redeemable at retail shops. But retail trade still needs to be expanded in many outlying areas.

Over time, commercializing farmers should no longer need subsidies to encourage the continuing adoption of improved technologies and farm profitably. Though there may be a continuing justification for input subsidies to improve the welfare of the poorest of the poor who would otherwise continue to depend on food aid.

Smart subsidies are important but need to be weighted against other priorities in national budgets For example, Malawi only spends 3% of its agricultural budget on R&D--an important source of future productivity increases.

The payoffs to investments in the agricultural sector are very country specific. However, hundreds of studies have found high payoffs to agricultural R&D. Also many studies support good payoffs to investments in rural roads, irrigation, and education. See Chapter 1 and 7 of the report.

These are probably the easy wins, but even these need to ensure that resources are used effectively.

We agree that this is a major challenge that we discuss in chapter 5 and focus D. We put a lot of emphasis on stronger producer organizations as a way of including smallholders in new food markets, and increasing their bargaining power. Many of these organizations are now also operating internationally with direct sales to global food chains, often through public private partnerships. Smallholders also need special attention in access to assets and supporting services such as agricultural extension and market information.

We agree that this is a common problem. Microfinance is being provided in many situations without collateral, especially for livestock. New arrangements include lending to groups, without collateral. Community based savings and loans institutions can also help. More examples are given in chapter 6 of the report.

The World Development Report argues for more decentralized and participatory approaches, especially in the highly diverse systems of SubSaharan Africa. It also makes the case for conserving biodiversity both through genetic conservation and avoiding deforestation (chapter 11). The Report argues that carbon financing should be made available for avoided deforestation--and it seems that the recent Bali climate change conference has supported this approach. International support to the Global Crop Diversity Trust should be increased.

The World Bank now has many programs that aim to improve the asset base of the extreme poor in order that they do not depend on relief programs. Many of these programs are implemented through community-driven development approaches. An example is the Food Security program in Ethiopia where some 5 million people are dependent on food aid.

US farm policies have significant costs to developing country farmers increasing poverty and hunger. For example, subsidies to US cotton farmers decrease cotton prices by 20%. Removing cotton subsidies alone is estimate to increase the incomes of West African cotton producers by 8 to 20%. Since African cotton producers are poor, this would have direct impacts on reducing of poverty and hunger.

Translation by World Bank:
What role has foreign aid played in the development of East Asia? Has it, according to you, effectively helped economic growth and poverty reduction? What are, according to you, the checks on this effectiveness? How can this aid be improved?

The role of foreign aid (ODA) in East Asia has changed over time and varies greatly across countries. For the region as a whole ODA has fallen to less than $10 billion a year, which is only about 0.4% of GDP. This is down from around 1% of GDP in the 1970s and 1980s. It is now also much less than the average for developing countries as a whole, which is also around 1% of GDP.

Historically East Asia provides a number of examples of countries which have used ODA quite effectively to help spark rapid growth and which have become less dependent on it over time. Korea for example used to have ODA worth over 5% of GDP back in the 1960s. This fell to 0 in the 1980s and 1990s and Korea is now itself emerging as a provider of foreign aid. In most middle income economies of the region it also down to less than 0.5% of GDP now. For example in China, ODA is now only about 0.1% of GDP.

But there is also a wide range of experiences. As you would expect, ODA levels are rather higher in the low income economies of the region. In recent years ODA has been averaging around 4% of GDP in Vietnam and 10-15% of GDP in Cambodia and Lao PDR. In some of the smaller Pacific Island economies ODA reaches even higher levels, sometimes as much as 30-50% of GDP.

Those economies that have been successful consumers of ODA have generally used it to strengthen some of the basic conditions for development, for example education and health, infrastructure and strengthening institutions and governance, while at the same time carrying out reforms that have encouraged entrepreneurship and private sector investment. In other words they have used it as a springboard for reforms rather than as crutch to avoid or delay reform.

This comparison has attracted a lot of interest in recent years, especially why is growth in China higher than in India.

The reasons behind the economic performance of any country are always very complex involving history, geography, culture, institutions and policies. And it is even more difficult to give satisfactory answers in comparing the performance of different countries which may differ in all these respects.
A first point to note is that while India’s growth rate has been less than China’s, it has been accelerating, getting closer to China’s in recent years. Poverty is also falling. I have visited India almost every year for the last 30 years. There are obvious and visible improvements in the living standards of the people.

One part of the answer to growth differences maybe simply that China started reforms in 1979, more than a decade before India, which began in 1991.
Partly as a result, China is today more fully integrated into the world economy, with much higher levels of international trade and FDI, and the benefits that go with integration. China also has a head start in building up its physical infrastructure. However, India is also making progress in these directions, and the game is far from over. Observers also note areas where India has advantages over China, for example in long established and better developed systems of corporate governance, business law, and other so called “soft infrastructure”. Income inequality is also lower in India than in China.

The last point I want to focus on is the question about democracy and its role in development. The first point to make is that people generally view democracy as something that is good in itself, apart from its relation to economics. To be able to have a voice in choosing one’s government and in deciding the policies of one’s country is something that adds to the sense of dignity and self worth of the individual, and it is valued as such.

Of course people also value other things, such as economic prosperity and security. Here the cross-country evidence suggests that there is no clear or simple relationship between democracy and economic growth. i.e on average long run growth rates in democratic countries are neither higher nor lower than in non democratic ones. However there is some evidence that growth is less volatile in democracies than in non-democracies, and also that democracies are better able to handle economic shocks because they provide better institutions for addressing the social conflicts that may intensify during shocks or crises.

I see four points to be raised here. It is true that rural poverty is much greater than urban poverty in East Asia. It should also be noted that East Asian population is largely rural, which is likely to change in the next 20 years.

The second point is the cities in East Asia are acting as magnets to the rural poor. In some countries, industries that depend on not highly skilled labor are booming together with East Asian economies. In these countries, areas will continue to act as a magnet to the rural folk, who may want to manage this flow of migrants better by achieving a more balanced economic growth.

On other countries, overpopulation of magnet of cities' reliance on the economy in a single metropolitan area are also signaling the need for more balanced growth.

Finally, it should be noted that this doesn't fail to recognize that cities are a major force in the region's fight against poverty.

I think that these two questions are fundamental to the issue of urbanization, and I would like to start by answering the second question: How will housing needs be supplied without getting to urban ghettos?

Basing on the previous answer that I just gave, as I mentioned, managing or influencing the flow of migrants is important. Some countries in the region are attempting to do just that by implementing different policy instruments, an effect which in turn may have unintended consequences such as affecting the terms of trade between rural and urban areas.

The other side of the question is specific to the urban side. There are several aspects that affect housing supply in cities. Some, like the availability of long-term lending markets, are outside the realm of local authorities; yet, others such as urban planning, housing and infrastructure standards, economic instruments that impact housing and locations are generally within the local authorities' sphere of influence.

In order to avoid, then, the ghettoing in urban areas, having a menu of policy instruments at the local level that is adequate to the capacity to implement it would, in effect, better balance the cities' growth, maintaining public goods, such as flood control and things like that, improving the cities' livability.

In the first question for Mali, that is, what are the likely implications of supply of water and food for the growing urbanization?
In reference to food, it seems to me food is a tradable commodity, and the region is fairly open to trade. So just as it is already happening, it is likely that in the future food will come from trading with countries that have comparative advantage in producing food.

On the other hand, water is much harder to trade with other countries, and water in some areas of East Asia is a major problem. Some of the region's mega citieis are located in very arid areas where water scarcity is a problem. In addition, water pollution is decreasing the availability of clean water for general use of the urban population, and for difference sources of economic growth such as industry.

By and large, throughout the world, water generally has very unclear property rights. So, the solution to this problem, in my opinion, comes by at least by clarifying property rights over water--in other words, who owns what, than allowing for water trading and enforcing water property rights.

One should also have appropriate pricing both at urban and rural water uses in order to allocate the water more efficiently. It should be noted that very often, in the world, water is used for activities that do not have the highest value.

In addition, one should have instruments and regulations in place that actually attempt to correct water-related market failures such as water pollution.

First it’s worth noting that Indonesia was the economy hardest hit by financial crisis of 1997-98. This was followed by a genuine political revolution, with a transition from authoritarian rule to democracy with a high level of decentralization.

Naturally it has taken some time for the new institutions to start functioning and for domestic and foreign investors to regain confidence.

Nevertheless the government is now pushing ahead with reforms, for example to improve the investment climate, strengthen the financial sector, tackle corruption and improve the rule of law. Some of the reforms have been tough, for example the decision to reduce fuel subsidies in 2005. That was needed to ensure that the government’s fiscal deficit did not increase in an unsustainable way, which could have led to loss of confidence and much worse economic volatility. The government softened the impact by putting in place a temporary Unconditional Cash Transfer program for the poor and it is now also increasing social spending programs at the community level.

The benefits of reforms are now coming through. Investment spending and economic growth were accelerating in the latter part of 2006. Growth exceeded 6% in the last quarter of 2006. Sustained fast growth supported by wise, inclusive economic and social policies is the surest way to ensure widely shared improvements in living standards in the long run.

We should start by noting that there is great diversity in economic levels and conditions in East Asia, more than in most other regions. Here some economies like Korea, Singapore, Hong Kong and Taiwan (China) have already reached high income status, while others are still in the low income category.
But it is true that many of these economies have achieved much higher growth rates over sustained periods of time than is the case in most other developing regions. This has been heavily studied but there is still no complete agreement on the sources of the so-called East Asia Economic Miracle. But many would probably agree with the following characterization. Most East Asian economies have put into place and generally followed what are widely accepted as sound economic principles and policies. But - and this is the more difficult part – they have also been very creative and flexible in finding the institutional forms needed to successfully implement these principles in the particular social and political conditions of these countries.

First, these countries have tended to have a strong focus and consensus among policy makers and elites on achieving rapid and broadly shared growth. The focus on ensuring that all levels of society share in the benefits of growth is important because it means that high growth is more socially sustainable over the long run. One of the ways East Asian countries have ensured social inclusiveness is by a strong focus on universal basic education and now, increasingly, on secondary and tertiary education, so that wide sections of society are able to contribute to and benefit from growth.

Second, they have generally followed prudent macroeconomic policies – limited fiscal deficits, cautious monetary policies and modest inflation. This has limited uncertainty and volatility and has tended to allow growth to be sustained over long periods.

They have generally encouragement of private sector activity and ensured protection for property rights, meaning basically that business people who undertake risky investments feel reasonably confident they will be able to secure the returns to those investments, rather than being expropriated by politicians, bureaucrats or other influential insiders. They have also generally taken an outward or export orientation, which requires firms to face the discipline of global competition, and therefore always to be under pressure to become more efficient.

Lastly, government institutions in these countries have been reasonably competent and effective in implementing government policies. This is important because East Asian governments have often taken quite activist approaches in addressing market failures, for example through public investment, use of fiscal incentives or other instruments. These require competent government to implement successfully. They have also been quite pragmatic in making such interventions, evaluating them on the basis of their contribution to overall development, making adjustments as needed and generally not letting interventions turn into major sources of waste and corruption.

With respect to PNG, it should be noted the country faces much more difficult conditions than most other East Asian countries. For example it has a difficult geography – very mountainous with great difficulties for transport and communications. There is extreme social fragmentation – for example 800 distinct languages (not just dialects). Human capital development is low.

As the question notes, countries heavily reliant on natural resources also face special problems. The rents from such resources can be easily captured by narrow interest groups rather than being used by broader development purposes. Fluctuations in international commodity prices can contribute to high volatility in expenditures, including excessive and wasteful spending during boom times. This is not inevitable. E.g. countries like Malaysia and Australia have successfully used natural resource wealth to promote broad development. But they have needed to develop good quality government institutions capable of managing natural wealth in an appropriate way.

We took up this question of so-called middle-income trap in our East Asia Update as part of our assessment of where the region has come 10 years after the East Asian financial crisis, which began in 1997. It's useful to just have a little bit of background on that. It was--remembering at the time of the crisis how much gloom and doom that it was about the possible prospects for the East Asia region. Many analysts were saying, for example, that the region, that so-called East Asia miracle was over, that the region might lose a decade of growth in a way that occurred in Latin America after the debt crisis.

But, in fact, things have turned out very differently in many ways. There has been actually tremendous progress in the 10 years since the crisis; for example, the dollar value of the GDP of the region has actually doubled, real per capita incomes have gone up around 75 percent, and real per capita incomes have exceeded pre-crisis levels in all of the economies that were affected by the crisis.

Poverty has fallen dramatically. The number of people at below $2-a-day income levels before the crisis was 50 percent of the population of East Asia. That has now fallen to around 29 percent, which is a dramatic improvement.
And, on our estimates by the year 2010, which is just a few years' time, more than 9 out of 10 people in East Asia is going to be living in a middle-income country, and that then raises some interesting questions, because middle-income countries face very different kinds of problems as compared to low-income countries.

When we look across the experience of developing countries around the world, one thing that is noticeable is that while quite a few countries are able to make the transition from low income to middle income, far fewer countries have made the transition from middle income to high income, and this seems to be because middle-income countries face much more complex challenges, complex in technical logistical terms, complex in terms of how to maintain social cohesion, complex in terms of finding a competitive niche for your country in the world economy, complex in political terms, et cetera.

And so, for example, we see there are many countries that are in, say, Latin America that achieve middle-income status many decades ago but which failed to become high income or remained middle income for a long time. Similarly, in the Middle East, there are similar economies.

The question would East Asian countries be in danger of falling into that trap, and in this report we focused on three challenge that is facing the region. The first one we said is maintaining growth in a sustainable way. And here there are two different questions. On the one side, you have China, which is really growing at very rapid rate, so there the question is not really how to increase growth, but there the question is maintaining high growth sustainably. And what we see is that while China has experienced this tremendous growth, it has also been accumulating a number of stresses and imbalances, the most obvious one, for example, is environmental costs. It's now estimated that 20 of the 30 most polluted cities in the world are in China. Growth has also--imbalances have also arisen, for example, with a very high reliance on investment relative to consumption, on industry relative to services, et cetera.

So, the Chinese authorities themselves have become much more conscious of this, and are aiming at rebalancing growth. So, that is one set of challenges.

In other East Asian countries, the challenge is, we noticed since the crisis in many of the post-crisis economies, growth has been something like a couple of percentage points less than what it was before the crisis, and in part this seems to be due to investment being rather lower than what it was before the crisis. And this is not exactly totally well-understood as to why investment is less in much of the rest of East Asia, especially in the middle countries, but part of it could be due to the fact that there was a tremendous advancement boom before the crisis, so maybe there is still some excess capacity that's left over.

And also, there may be questions when we look at surveys of firms, we also find firms in East Asia talking about uncertainty, partly to do with macro instability, particularly to do with policy uncertainty.

So, there is an agenda, we think, in terms of improving the investment climate in East Asia, but this is simply due to creating a more certain policy environment at the same time addressing other