Global Energy Policies in the Geo-Economic Process

China-USA Business Review Volume 10, Number 9, September 2011 (Serial Number 99)

David Publishing

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Publication Information: China-USA Business Review (ISSN 1537-1514) is published monthly in hard copy and online by David Publishing Company located at 1840 Industrial Drive, Suite 160, Libertyville, Illinois 60048, USA. Aims and Scope: China-USA Business Review, a monthly professional academic journal, covers all sorts of researches on Economic Research, Management Theory and Practice, Experts Forum, Macro or Micro Analysis, Economical Studies of Theory and Practice, Finance and Finance Management, Strategic Management, and Human Resource Management, and other latest findings and achievements from experts and scholars all over the world. Editorial Board Members: Iltae Kim (Korea) Sorinel CĂPUŞNEANU (Romania) ZHU Lixing (Hong Kong) Moses N. Kiggundu (Canada) Jehovaness Aikaeli (Tanzania) Ajetomobi, Joshua Olusegun (Nigeria) LI Kui-Wai (Hong Kong) Shelly SHEN (China) Chris TIAN (China) Ruby LI (China) Manuscripts and correspondence are invited for publication. You can submit your papers via Web Submission, or E-mail to [email protected], [email protected]. Submission guidelines and Web Submission system are available at http://www.davidpublishing.com. Editorial Office: 1840 Industrial Drive, Suite 160 Libertyville, Illinois 60048 Tel: 1-847-281-9862 Fax: 1-847-281-9855 E-mail: [email protected] Copyright©2011 by David Publishing Company and individual contributors. All rights reserved. David Publishing Company holds the exclusive copyright of all the contents of this journal. In accordance with the international convention, no part of this journal may be reproduced or transmitted by any media or publishing organs (including various websites) without the written permission of the copyright holder. Otherwise, any conduct would be considered as the violation of the copyright. The contents of this journal are available for any citation, however, all the citations should be clearly indicated with the title of this journal, serial number and the name of the author. Abstracted / Indexed in: Database of EBSCO, Massachusetts, USA Cabell’s Directories Ulrich’s Periodicals Directory ProQuest/CSA Social Science Collection, Public Affairs Information Service (PAIS), USA Summon Serials Solutions Chinese Database of CEPS, Airiti Inc. & OCLC Chinese Scientific Journals Database, VIP Corporation, Chongqing, P. R. China Subscription Information: Print $450 Online $300 Print and Online $560 David Publishing Company 1840 Industrial Drive, Suite 160, Libertyville, Illinois 60048 Tel: 1-847-281-9862. Fax: 1-847-281-9855 E-mail: [email protected]

China-USA Business Review Volume 10, Number 9, September 2011 (Serial Number 99)

Contents Regional Economics Competitiveness of Turkey in Eurasia: A Comparison With CIS Countries

727

H. Simay Karaalp The Determinants of the Real Exchange Rate in Sierra Leone

745

Robert Dauda Korsu, Samuel Jamiru Braima The Value-at-Risk (VaR) of South East Asian Countries: Forecasting Long Memory in Extreme Value Estimators

763

Chaitip Prasert, Chaiboonsri Chukiat, Chaitip Arreyah The Impact of Global Financial Crisis on Growth Prospect in Albania Economy and Policy Implications

771

Elida Liko, Tonin Kola Tax Revenue and Government Spending Constraints: Empirical Evidence From Malaysia

779

Loganathan, Nanthakumar, Mori Kogid, Muhammad Najit Sukemi, Suriyani Muhamad

Industrial Economics The Management of the Agriculture of Russia While Maintaining Food Security in the Globalization

785

Soldatova Irina, Ovchinnikov Viktor, Chernishev Michail, Kuznesov Nicolay

Marketing Brand Loyalty Analysis Using Multinomial Logit Model Sadegh Bafandeh Imandoust, Mohammad Reza Pasandideh Honameh, Seyed Mohammad Fahimifard

793

Strengthening the Domestic Market or Searching Export Opportunities: A Dilemma Resulted From the Impact of ACFTA on Small and Medium Enterprises

802

Angelina Ika Rahutami, Westri Kekalih

Social Economics Exclusion From Wage Work and Regulation of Capitalism

816

Ari Nieminen Gender Equality Versus Tax System in Albania

833

Raimonda Duka, Areti Stringa

Geo-Economics Global Energy Policies in the Geo-economic Process

843

Abdullah Ozdemir, Halil Civi

Enterprise Management Corporate Governance Practices in Emerging Economies: Initial Findings From the UAE

856

Mostafa Kamal Hassan Multicriteria Decision Analysis and Geographic Information Systems (GIS)

865

Ceren Erdin Gündogdu

Business Administration The Relationship Between Business Environment and Business Incubation

880

Miemie Struwig, Abel Meru Public-Private Partnerships—For and Against

893

Ali Turhani, Gjergji Shqau

Special Research A Practice Framework for Child Protective Services Melville J. Miranda, Shruti Mahajan

899

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 727-744

Competitiveness of Turkey in Eurasia: A Comparison With CIS Countries∗ H. Simay Karaalp Pamukkale University, Denizli, Turkey

The main aim of this paper is to examine competitiveness of Turkey with respect to world and commonwealth of independent states (CIS) market in comparison with the nine CIS countries—Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyz Republic, Moldova, Russia and Ukraine and to determine the value of trade between Turkey and the CIS countries. The revealed comparative advantage index (RCA), Grubel-Lloyd index of intra-industry trade (IIT) and trade intensity index were calculated for 16 product groups over the period of 1996-2008 by using WTO data. The results suggest that Turkey has strong comparative advantage in agricultural products, food and manufactures sector such as textiles, clothing, iron and steel and automotive products. As it is expected, Turkey is more competitive in CIS market rather than world. In addition to these sectors, Turkey has comparative advantage in other manufacture products such as chemicals, pharmaceuticals, machinery and transport equipment, office and telecom equipment, telecommunications equipment in the CIS market. CIS countries have RCA particularly in fuels and mining products, agricultural products, food, fuels, iron and steel. The IIT results indicate that Turkey approaches intra-industry specialization not only in raw materials (agricultural products and food) and labor intensive goods (textiles), but also in some capital intensive goods such as iron and steel, telecommunications equipment, machinery and transport and automotive products. However, CIS countries show the characteristics of inter-industry trade with the world. The integration of CIS countries into the world market is limited except Belarus. Moreover, Turkey is an important trade partner of the CIS countries after the dissolution of the Soviet Union except Belarus. The trade intensity between Turkey and Azerbaijan, Kyrgyz Republic and Georgia is extremely high. Keywords: comparative advantage, intra-industry trade, trade intensity, CIS, Turkey

Introduction After 1980s, many important changes occurred in the world economy with the globalization. Many countries reduced their tariffs and quotas in exchange or eliminated them entirely and entered into global markets. As a result, the size of the world trade in goods and services has dramatically increased with the technological progress. More integrated into the world market and the higher degree of economic liberalization indicates ∗

An earlier version of this paper was presented at International Conference on Eurasian Economies, Beykent University in Istanbul/Turkey, November 2010. H. Simay Karaalp, Ph.D., Assistant Professor, Faculty of Economics and Administrative Sciences, Pamukkale University. Correspondence concerning this article should be addressed to H. Simay Karaalp. E-mail: [email protected].

728

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

increased growth rate, trade flows and competitiveness. Moreover, financial flows became globalized in the 1990s. World economy has opened to new geographies since the effect of globalization. Globalization has occurred at different speeds in different countries. In addition to old industrial countries, new countries attended to the global economy and integrated into the world market. Nevertheless, in most advanced economies, globalization was achieved by the first half of the 1980s and in many developing countries by the early to mid-1990s (Ajit, 2007). During this period, transition countries were not left out of the globalization process. On December 8, 1991, even before the Soviet Union was officially dissolved, the commonwealth of independent states (CIS) was established on December 8, 1991, in the Belovezh Accords, also known as the Minsk Agreement, brought an end to the Soviet Union and attempted to the creation of a new union. After a couple of days on December 26, 1991, the dissolution of Soviet Union was officially acknowledged by the Soviet parliament and the Russian State got an official name of the Russian Federation. The initial three founding members of the CIS were Belarus, Russia and Ukraine signed a declaration on December 8, 1991, outlining a comprehensive program of economic cooperation (Sakwa & Webber, 1999). On December 21, 1991, eight additional states (Moldova, Armenia, Azerbaijan, Kazakhstan, Turkmenistan, Uzbekistan, Tajikistan, and Kyrgyz Republic) signed these accords. Finally, Georgia joined the CIS in December 1993, which brought total membership to twelve states. However, Georgia withdrew from the CIS on 18th August 2009 because of the conflict with Russia over South Ossetia. Therefore, all former republics of the Union of Soviet Socialist Republics (USSR) except the Baltic States (Estonia, Latvia and Lithuania) had become members of the CIS. The participants adopted the Alma-Ata Declaration, which confirmed the devotion of the former USSR republics to cooperation in various fields of external and internal policies of the member states, announced the guarantees for implementation of international commitments of the former Soviet Union, developed a common economic space and provided for an orderly transition from the Soviet Union to the post-Soviet phase (Sakwa & Webber, 1999; UNDP, 2002). However, Ukraine participates in the CIS programs very selectively and the Ukrainian parliament never ratified the CIS Charter. Then it has become just a de facto participant in certain activities. The Ukrainian foreign minister argued in 2008 that his country could only be considered a “participating state”, not a member. On the other hand, Turkmenistan announced to participate in CIS selectively as associated members in 2005 (Shepotylo, 2009). After these circumstances, nowadays, the CIS comprises 11 former soviet republics. The main objective of this study is to analyze international competitiveness of Turkey both in the world market and the CIS market in comparison with the CIS countries and to determine whether the value and extent of trade between countries and trade overlap for the given products. The study covers the period of 1996-2008. This period was selected as being long enough to permit the examination of competitiveness of Turkey and CIS countries after the dissolution of the Soviet Union and the foundation of CIS. Sixteen product levels selected from WTO’s trade database (see Figure B1 in Appendix B). All product groups are defined according to Revision 3 of the Standard International Trade Classification (SITC) by WTO. Some countries discarded from the study due to the incomplete data (Tajikistan, Turkmenistan and Uzbekistan) and concentrated instead on Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyz Republic, Moldova, Russia, Ukraine and Turkey as well. In order to identify the products that hold the most promise of being the leading export sectors, Turkey’s comparative advantage vis-à-vis the CIS countries, Balassa’s Index of Revealed Comparative Advantage (RCA) is calculated. Moreover to analyze intraand inter-industry specialization of Turkey’s and CIS countries’ trade, Grubel-Lloyd Index (IIT) and to determine

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

729

the value of trade between Turkey and CIS countries trade intensity indices are calculated. The most important contribution of this study is that it examines Turkey’s competitiveness in a large extent of products vis-à-vis CIS market in a long period and allows comparing the comparative advantage, intra-industry trade of Turkey and other CIS countries with respect to world and focuses on the bilateral trade flow between Turkey and CIS countries, respectively. The paper is divided into six main sections. The following section briefly reviews the recent studies. The third part compares the basic economic indicators of the Turkey and nine CIS countries, and then an overview of the economic relations between countries will be given. The fourth part describes the methodology for assessing Turkey’s comparative advantage and competitiveness with the CIS countries. Revealed comparative advantage (RCA), Grubel-Lloyd index of intra-industry trade (IIT) and trade intensity index will be given. The results of the analysis will be evaluated in the fifth section. Conclusion of the study and inferences will be assessed and interpreted in the final section.

Recent Empirical Studies In the literature, there has been a significant amount of studies which RCA and Grubel-Lloyd indices have been used for whole Turkish industry or some selective sectors. However, most of the studies focus on the examination of Turkey’s trade relations with respect to the EU. Some recent studies which used RCA index found that Turkey has revealed comparative advantage in textiles and clothing products (Aynagöz, 2005; Çoban & Kök, 2005; Utkulu & İmer, 2008; Kösekahyaoğlu & Özdamar, 2009), in some sub-sectors of household appliance industry with respect to EU and world (Eroğlu & Özdamar, 2006), in tomato, olive oil, and fruit juice in the EU market (Serin & Civan, 2008), in furniture industry which has been increasing since 2001 (Gürpınar & Barca, 2007), in machinery and transport equipment sector with respect to world and EU-15 markets, especially in automotive sector (Kaya & Altın, 2008). Moreover, Altay (2008) found that Turkey has potential competitive power in labor-intensive and raw material-intensive goods and also some of easily and difficultly imitable-research oriented industries and capital intensive industries, against the rival countries such as Poland, Romania, Portugal, China, India, Indonesia, Italy, Thailand, Slovenia, Morocco and Israel in the EU-15 market. Haiti (2009) concluded that Turkey has comparative advantage in lemon/limes and grapefruit vis-à-vis Spain, Italy, Greece, and Portugal. By using RCA, Grubel-Lloyd index and various indices, Şimşek, Seymen and Utkulu, (2007) found that Turkey have comparative/competitive advantages in raw materials and labor intensive goods but disadvantage in the research intensive goods. On the other hand, Gönel (2001a), Erk and Tekgül (2001), G. Erlat and H. Erlat (2003), Deviren (2004), Kutlu and Yenilmez (2005), Şimşek (2005), Deviren and Karataş (2007), G. Erlat, H. Erlat and Şenoğlu (2007), Ertekin (2007), Kaya and Gacener Atış (2007), Altay and Şen (2009) used Grubel-Lloyd index in order to measure intra-industry trade of Turkey. Gönel (2001a) found an increasing tendency of intra-industry trade in sub-sectors of Turkish textile industry and especially found the significant intra-industry trade in synthetic textile over the period of 1990-1997. Erk and Tekgül (2001) concluded that the trade between EU and Turkey is based on intra-industry trade over the period of 1993-1998 and also found the product differential is vertical. Erlat and Erlat (2003) analyzed the IIT between Turkey and EU-15 member countries over the period of 1969-1999 and concluded that Turkish trade is dominated by its inter-industry component. They also determined that Turkey

730

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

exhibited a limited intra-industry after 1980. The intra-industry trade between Turkey and several European countries is examined by Kutlu and Yenilmez (2005). Deviren and Karataş (2007) concluded that primary products, manufactured products and all products between Turkey and China during the period of 1995-2005 is below 0.50 and exhibited an inter-industry trade structure. Deviren (2004) concluded that intra-industry trade related with manufactured products and all products between Turkey and EU, is below the value of 0.05, so exhibited an inter-industry trade structure. Erlat et al. (2007) found that the highest level of aggregation of IIT showed a steady increase from 1993 onwards, and the rates for capital-intensive and labor-intensive goods were above that for total IIT after 1998. The rates of IIT for raw-material intensive and easy-to-imitate research-intensive goods were below that of total IIT. However, the highest rate of IIT is found for the textile yarn, iron and steel and cleaning products by Ertekin (2007), but most of the products which will be important for the Turkey’s future export performance ITT rates are low. Sectors which have lower rate of IIT with respect to developed countries are pharmaceuticals, chemicals, plastics, air vehicles, optical goods and the sectors which have similar IIT rate are iron or steel goods, cooper and cooper goods, aluminum products, electrical machinery, apparatus and appliances and road vehicles. Şimşek (2005) analyzed the IIT of Turkey with respect to world and OECD countries and found that low quality vertical intra-industry trade dominates in Turkey’s intra-industry trade. Kaya and Gacener Atış (2007) found that Turkey has low rate of IIT for the chemical industry in general but IIT rate and specialization level between Russia-Ukraine-China and Turkey has increased since 2000. Altay and Şen (2009) found that the performance of Turkey’s intra-industry trade is higher than its rival countries in EU-15 market between 1995 and 2007. However, there are a limited number of studies which analyze CIS countries’ comparative advantage and competitiveness in the literature. Gönel (2001b) analyzed the trade structure between Turkey and EU and Central Asian Turkic Republics over the period of 1992-1997, and concluded that Turkey has inter-industry trade between the countries. She also found the tendency of intra-industry trade in chemistry and iron-steel products. Freinkman, Polyakov and Revenco (2004) found that CIS countries have so far been unsuccessful in integrating into global production value chains. They continue to engage mostly in inter-industry trade. At the same time, European CIS countries maintain a high level of intra-industry exchange within the CIS. Hajiyev, Rasulova, Bakshaliyev and Rzayev (2004) found that Azerbaijan has revealed comparative advantage in processed and semi-processed agricultural products, oil and oil products, chemical and petrochemical industry (ethylene, polyethylene, plastics), mining industry, non-oil sector (construction/mining machinery, earth moving machinery parts, special-use vehicles). Luka and Levkovych (2004) concluded that the major part of agro-food trade is of the inter-industry type, and thus a product of underlying comparative advantages in Ukraine. Kilduff and Chi (2007) found that Russia, Ukraine, Georgia, Azerbaijan, Moldova, Kazakhstan has revealed comparative disadvantage in aggregate textile complex but Kyrgyz Republic and Belarus has RCA in the sector for the period of 1995-2004. Khatibi (2008) examined Kazakhstan’s comparative advantage vis-à-vis the EU-27 and found that Kazakhstan has comparative advantage mainly in energy and mineral sectors, fuels and manufactured goods, but in a falling trend in almost all sectors. Kurmanalieva (2008) concluded that Kyrgyzstan has RCA in leather products, fresh food, clothing and minerals. Garanina (2008) concluded that Russia is globally disadvantaged in the manufactures trade vis-à-vis the EU and China, and advantaged in the trade with the within the CIS. Russia’s RCA in manufactures decreased throughout the period 2000-2006. IIT index between Russia and EU-15 trade is

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

731

over 90% only for cork and wood manufactures and the IIT index between Russia and Chinese surpasses 90% for other transport equipment and metalworking machinery. Kandoğan (2008) concluded that specialization is particularly strong in fuels, crude materials, and animal and vegetable oils sectors, where most of the trade is of inter-industry type in transitional countries which includes the CIS.

Structure of CIS Foreign Trade and Economic Relations with Turkey As a result of the trade development strategy with neighboring and region countries, Turkey started to look for new ways to improve its trade and create a fair trading environment in the Middle East, South East Europe, Black Sea, Caucasus and Central Asia (WTO, 2003). Since 1990s, after the break-up of USSR Russia and the Turkic countries have been playing an increasing role in Turkey’s external economic relations. Before the break, up of USSR, due to the closed economy of the Soviet Union with a state monopoly on international trade, non-convertible currency and state control over foreign direct investment, old republics of the USSR have a much weaker regulation of foreign trade, exchange and foreign capital flows (Yudaeva, 2002, p. 3). After the Bolshevik revolution USSR had implemented the central planed economy in order to integrate eastern bloc countries, autonomous regions and other republics of the union. However, these implementations and regulations did not disperse equally within the union, while Turkic republics in the central Asia focused on the production of raw materials (agricultural products and energy), industry was developed in Russia and Slav republics. Therefore, socio-economic inequalities appeared among the regions. As today, although they have been a part of the integrated world economy, inequality and poverty has been a major problem in these countries (Gürbüz & Karabulut, 2009; Mogilevsky, Baramia, & Tumasyan, 2005; Yudaeva, 2002). While in all CIS countries, regulation of international trade and capital flows is more liberal than the case in the USSR, regulations still vary significantly across countries (Yudaeva, 2002). One hundred and forty-one million eight hundred thousand population of Russia is the most developed country within the independent states with 1,607,816 million US dollars (USD) GDP and 4,939 USD trade per capita and it is also ranked 9th and 17th in the world merchandise exports and imports in 2008, respectively (WTO, 2010). Other countries which have better economic indicators are Ukraine, Kazakhstan and Belarus. Major export product of CIS is the fuel and it is exported 416.9 billion USD in 2008. While world fuel export is 2,861.9 billion USD in 2008, CIS is the 3rd biggest exporter after Middle East (740.6 billion USD) and Europe (552.0 billion USD). CIS countries export 14.57% of the world fuel export. The share of fuel and total fuels and mining products in total exports of CIS is 59.3% and 66.9% respectively. While total fuels and mining products of world export is 3,530.2 billion USD, CIS countries export value is 470.0 billion USD in 2008. CIS countries’ total manufacture export is 174.8 billion USD, herein iron and steel is the major manufacture product whose export value is 66.8 billion USD and constitute 11.38% of world export. Total manufacture export of CIS constitutes 9.5% of its whole export. Moreover, the share of CIS in world agricultural product export is 3.56%. Forty-seven point seven billion USD agricultural product is exported from CIS countries and its share in total export is 6.8% (see Table 1). Economic relations between Turkey and CIS have increased over the period, especially after 2003. Turkey’s total export to the CIS was 2,663,908,726 USD (11.47% of Turkey’s total export) and total import from CIS was 3,074,152,966 USD (7.05% of Turkey’s total import) in 1996. However, Turkey’s export has increased 423%

732

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

from 1996 to 2008 and reached to 13,938,225,914 USD, its import has also increased sharply to 42,613,878,879 USD in 2008. Particularly, Turkey’s export to the CIS countries started to increase in 2006 and constituted 10.56% of Turkey’s export in 2008. At the same time, Turkey’s import from CIS increased significantly and constituted 21.10% and 18.48% in 2008 and 2009 respectively. However, after the economic crisis, in 2008, Turkey’s export and import value decreased to 8,742,852,665 USD and 26,042,432,090 USD in 2009 (TurkStat, 2010). Russia is the main trade partner of Turkey among the CIS countries which Turkey had 6,483,003,596 USD export and 31,364,476,862 USD import in 2008. Other biggest export and import partners of Turkey are Ukraine, Azerbaijan, Georgia and Kazakhstan. The only CIS country which Turkey has no trade relation is Armenia. The border has been closed since 1993 due to the politic reasons (see Table 2). Table 1 Share of CIS Merchandise Export in the World Trade and by Product Group (%), 2008 Type

Export in the world trade (%)

Automotive products Chemicals Iron and steel Office and telecom equipment

0.66

Export by product group (%) 1.2

2.42

5.9

11.38

9.5

0.12

0.3

14.57

59.3

Clothing

0.55

0.3

Agricultural products

3.56

6.8

Total manufactures

1.67

24.9

Textiles

0.95

0.3

13.31

66.9

Fuels

Total fuels and mining products

Note. Source: Author’s own calculations based on WTO trade statistics.

Table 2 Turkey’s Export and Import Share by CIS Countries, 2008 Type Moldova Russia Georgia Azerbaijan Kazakhstan Turkmenistan Uzbekistan Tajikistan Kyrgyz Republic Ukraine Belarus

Export (%) 1.42 46.51 7.16 11.96 6.39 4.76 2.42 1.27 1.37 15.70 1.04

Import (%) 0.16 73.60 1.23 2.18 5.47 0.91 1.36 0.35 0.11 14.33 0.28

Note. Source: Author’s own calculations based on TurkStat statistics.

Turkey’s foreign trade with CIS countries mainly focuses on a few sectors. Turkish exports to the CIS countries concentrated heavily on the manufactured goods classified chiefly by material (SITC 6). In addition to this, export of machinery and transport equipment has been increasing since 2000, especially to Ukraine, Russia,

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

733

Uzbekistan, and Kazakhstan, chemicals and related products and miscellaneous manufactured articles. Turkish import from the CIS countries concentrated heavily on manufactured goods classified chiefly by material (SITC 6), herein crude materials, inedible, except fuels, mineral fuels, lubricants and related materials and food and live animals (TurkStat, 2010).

Methodology and Data The analysis of Turkey’s competitiveness with respect to CIS countries, across various sectors follows computation of some indices. The tool used to measure comparative advantage is Balassa’s index of revealed comparative advantage (RCA), to measure intra- or inter-industry trade Grubel-Lloyd intra-industry trade index (IIT) and to determine the trade intensity between countries trade intensity index. The Revealed Comparative Advantage Index RCA index, as developed by Balassa (1965) compares the share of the export of a given good in a given country’s total exports to the share of that export good in world or a set of countries exports. It is based on comparing the export performance of a country in a certain product with the world or a set of countries. RCA have been used to help assess a country’s export potential by indicating revealed comparative advantage of a country in a given product. It can also determine the products which have a trade potential and provide useful information about potential trade prospects with new partners (Hoekman et al., 2003). The RCA index can be written as: (1) RCAij = (Xij / Xit) / (Xwj / Xwt) where, Xij and Xwj represent the values of country i’s exports of product j and world exports of product j and Xit and Xwt refer to the country’s total exports and world or set of countries (CIS) total exports. A value of index greater than unity indicates that the country in question has comparative advantage in the product. If the value less than unity implies that the country has a revealed comparative disadvantage in the product (Fertö & Hubbard, 2003; Havrila & Gunavardana, 2003; Utkulu & Seymen, 2004). Intra-industry Trade Index IIT index proposed by Grubel and Lloyd (1971) is based on measuring the trade overlap for a given industry (Erlat et al., 2007). The index is one of the methods which analyze whether trade between countries is intra-industry or inter-industry. Intra-industry exchange produces extra gains from international trade over. It suggests how and to what extent the economy in question is already integrated into the world market and the degree of liberalization that the economy has already realized throughout the economic development process (Yılmaz, 2003, p. 13). Index is often computed using the following formula: IIT i = 1 −

Xi − Mi (X i + M i)

(2)

where, Xi is export of the ith industry and Mi is import of the ith industry. IIT index has a value range between 0 and 1 or 0 and 100 in percentage form. A large value implies greater trade between firms in the same industry. Moreover, values close to unity indicate a high rate of IIT for good i and imply the export and import of the given products between countries similar and show intra-industry trade. Values of index close to zero indicate the inter-industry trade. Trade Intensity Index The trade intensity index (T) is used to determine whether the value of trade between two countries is greater

734

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

or smaller than would be expected on the basis of their importance in world trade (Hoekman et al., 2003). Briefly, it is defined as the share of a country’s export going to a given partner which is divided by the share of partner’s export in the world export. Tij = (Xij / Xit) / (Xwj / Xwt)

(3)

where, Xij and Xwj represent the values of country i’s exports to country j and of world exports to country j and Xit and Xwt refer to country i’s total exports and total world exports respectively. A value of index more than unity indicates a bilateral trade flow that is larger than expected given the partner country’s importance in world trade. An index of more than one implies an “intense” trade relationship. If the value less than unity indicates bilateral trade flow is smaller than expected.

Empirical Results Having presented the theoretical background, in this section, an empirical examination of Turkey’s and CIS countries’ revealed comparative advantage, trade intensity index and intra-industry trade index in various trade products is provided. Revealed Comparative Advantage According to the results, Turkey has revealed comparative advantage in six of 16 products with respect to world market. These sectors are manufactures, iron and steel, textiles, clothing, food and agricultural products. Moreover, Turkey has an increasing comparative advantage in automotive productions since 2003. Figure 1 summarizes the revealed comparative advantages and disadvantages of Turkey with respect to the world. The comparative advantage of Turkish manufacturing sector is higher since the beginning of the time period. Particular whole manufacture sector has an increasing trend after 1999. RCA of Turkish manufacture products was 1.03 in 1996 and increased to 1.21 in 2008. The most significant products of Turkish manufacture industry in the world trade are textiles, clothing, iron and steel which have high revealed comparative advantage during the time period. The value of RCA was 4.15 in 1996 and leaped to 5.43 in 2000 which is the highest point in all over the period. Although the high value of RCA in the world market, Turkey’s advantages in textiles decreased since 2001. Even some pick-up observed in 2005 Turkey’s comparative advantage in textile products continue to decrease and reached to 4.57 in 2008. The RCA of Turkey in clothing sector was 8.50 in 1996 which is the most competitive sector of the Turkish economy as well as textiles, has decreased dramatically since 1996 and declined to 4.57 in 2008. A regular trend do not observe in the RCA of iron and steel products nevertheless Turkey’s comparative advantage in the product was 3.15 in 1996 and increased to 3.49 in 2008. However in the recent years, the sparkling sector of Turkish manufacture industry is the automotive products. Turkey has a significant and rising comparative advantage in automotive products since 2003 and accelerated since 1999 in the world market. Automotive products’ RCA value was 0.37 in 1996 and increased to 1.76 in 2008. Turkey has comparative advantage in agricultural products and food in the world trade, but in a descending trend during the period, the RCA of products was 1.90 and 2.21 in 1996 but decreased to 1.02 and 1.17 respectively. On the other hand, Turkey has comparative disadvantage in fuels and mining products, fuels, chemicals (with an increasing trend), pharmaceuticals, machinery and transport equipment (which has an increasing trend, Turkey will have comparative advantage in the near future), office and telecom equipment, electronic data processing and office equipment, telecommunications equipment and integrated circuits and electronic

COMPETITIVENESS OF TURKEY IN EURASIA: A COMPARISON WITH CIS COUNTRIES

735

components in the world market. However, Turkey is more cometitive in the CIS market. As can be seen from Figure 2, Turkey has high comparative advantage in 11 of 16 products with respect to CIS. Turkey has comparative advantage in agricultural products, food, manufactures, automotive products, textiles and clothing with respect to CIS countries as the world market. In addition to these products, Turkey has comparative advantage in chemicals, pharmaceuticals, machinery and transport equipment, office and telecom equipment, telecommunications equipment. However, comparative advantages of agricultural products, food, pharmaceuticals, office and telecom equipment, telecommunications equipment and clothing products have decreasing trend during the period. Products which have increasing comparative advantage vis-à-vis CIS countries are manufactures, chemicals, machinery and transport equipment, automotive products and textiles. RCA>1

9.00 8.00

Fuels

1.80

7.00 Food Manufactures

5.00

2.00

Elect.equip.

1.20

Integrated circuits

0.80

Chemicals

Textile

0.60

Clothing

0.40

Machinery and transport equip.

Agri.Prod.

3.00

1.40

1.00

Iron and steel

4.00

1.60

Pharmaceuticals

RCA

6.00 RCA

Fuels and mining

RCA 0 or < 0, υ 3 , υ 4 , υ 5 < 0 Substituting equation (2) in equation (1) and simplifying the resulting expression gives the following equation:

LnRERt = ϖ 0 + ϖ 1Ln(TOT )t + ϖ 2 Ln(GCN )t + ϖ 3 Ln(CAPCON )t + ϖ 4 Ln( EXCHCON )t + ϖ 5 Ln(TECPRO)t + ϖ 6 Ln( I / GDP)t + (1 − Ψ ) Ln( RER)t − 1 − Ω ( Z t − Z t * ) t + Φ ( Lne t − Lne t − 1 ) + U 1t

(3)

ϖ 1 >/< 0, ϖ 2 >/< 0, ϖ 3 /< 0, Ω < 0 and Φ >0. where the ϖ ’s are combinations of the υ ’s and Ψ, and U1 is an error term assumed to be identically and independently normally distributed. A problem faced in the estimation of equation (3) is the determination of the components of inconsistent macro policy (Z-Z*). Excess supply of domestic credit (EXCRE) measured as the rate of growth of domestic credit minus lagged rate of growth of real GDP is used by Edwards to represent inconsistent monetary policy1 while he used the ratio of fiscal deficit (FD) to high powered money (H) as a proxy for inconsistent fiscal policy. Many studies on developing countries have used only excess domestic credit in their real exchange rate models to account for inconsistent macroeconomic policies, for example, Elbadawi (1994), Parikh (1997) and Mungule (2004). The basis of this is that fiscal deficits are mostly financed by seigniorage (printing money) in most developing countries. This serves to control for possible multicolliearity between inconsistent fiscal policy and monetary policy variables, given that fiscal deficits are often financed by seigniorage. However, the inclusion of inconsistent monetary policy variables to capture inconsistent macroeconomic policies in the real exchange rate model is justified in the literature (pioneered by Edwards, 1989) on the grounds that such policies lead to higher inflation, and hence, appreciating real exchange rate. Therefore, their effects on the real exchange rate are only indirect. It is therefore important to determine the effects of inflation on the real exchange rate. This is done in this study by introducing the price level, rather than measures of these inconsistent 1

This measure of excess domestic credit assumes that the demand for domestic credit is unitary elastic with respect to income (Edwards, 1989).

752

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

macroeconomic policies, in the real exchange rate model. Proxies are used for most of the variables in equation (3) because data is not available for them. In the case of technological progress, real gross domestic product (RGDP) is the traditional variable used as proxy (Edwards, 1989). This is done in order to test the Ricardo-Balassa effect2. This proxy is adopted here in an effort to test the Ricardo-Balassa effect. To the extent that it is difficult to find a proxy for government expenditure on non-tradable goods, total government expenditure as a ratio of GDP is used. Control on capital flow (CAPCON) is represented by capital flow (CAPFLO) which is net change in reserve minus trade balance scaled by GDP, as there is no data on capital control. EXCHCON is represented by the closeness of the economy to international trade (CLOSE) as there is no data on exchange and trade control. The index of closeness is GDP divided by the sum of exports and imports. The empirical model explaining the dynamics of the short-run real exchange rate is therefore given as follows:

LnRERt = ϖ 0 + ϖ 1 Ln (TOT ) t + ϖ 2 Ln (G / GDP ) t + ϖ 3 Ln (CAPFLO / GDP ) t +

ϖ 4 Ln(CLOSE )t + ϖ 5 Ln(Yg )t + ϖ 6 Ln( I / GDP)t + (1 − Ψ) Ln( RER)t − 1 −

ϖ1

ΩLnPt + Φ ( Lnet − Lnet − 1) + U 1t > / < 0, ϖ 2 > / < 0, ϖ 3 < 0, ϖ 4 < 0, ϖ 5 < 0,ϖ 6 > / < 0, Ω < 0 and Φ > 0.

where P is the price level, Y is real gross domestic product, the

(4)

ϖ ’s are combinations of the υ ’s and Ψ, and U1

is an error term assumed to be identically and independently normally distributed. The real effective exchange rate (REER) is used to estimate the real exchange rate because it is weighted by the trade shares of exporting partners (thus controlling for third country effect). Moreover, most studies that have estimated real exchange rate models have used the notion of real effective (multilateral) rather than real bilateral exchange rate. The real effective exchange rate is computed as follows: i=4 eiCPI * i REER = ∑ S i ( ) CPI i =1

(5)

where: REER = real effective exchange rate; i = major export partner of Sierra Leone. Four major export partners are considered (Belgium, Germany, UK and U.S., with trade weighed calculated from World Fact Book as 0.7, 0.15, 0.1 and 0.05 respectively; Si = the weight of country i in the total export of Sierra Leone; CPI*i = the consumer price index of country i. Empirical Results Tests for stationarity. The importance of tests for stationarity of variables is rooted on the fact that regression involving non-stationary variables leads to misleading inferences since the estimated coefficients would be biased and inconsistent. When all or some of the variables are not stationary, it is important therefore to carry out appropriate transformation (differencing) to make them stationary. The Dickey Fuller class of tests and the Phillips-perron Unit root tests for stationarity were used to test for variable stationarity. Table 2 and Table 3 show the result of the unit root tests. The unit root tests show that all the variables are not stationary. While the 2

The Ricardo-Balassa thesis states that improvement in technology appreciates the real exchange rate.

753

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

price level and the nominal exchange rate are stationary after second differencing, all other variables are stationary after first differencing. In order to determine how to model the short-run dynamics of the real exchange rate, it is therefore important to carry out test for cointegration. Table 2 Results of the Unit Root Tests: Using Dickey and Augmented Dickey Fuller Tests Augmented Dickey Fuller (ADF) test

Dickey fuller (DF) test

Variable

One-lag model

With drift Drift and trend With drift Level 0.1996 -1.5600 Nominal Δ Level -2.9085 -2.8240 exchange rate 2 ** Δ Level -6.2721 -6.2192**

-0.5673

Real exchange Level rate Δ Level

-2.4536

Price level

-2.3050

-5.7941

Level

-0.1767

-0.9117

Δ Level

-2.5222

-2.4731

Δ Level -7.4967

Closeness Terms of trade Investment —GDP ratio Government expenditure —GDP ratio Real income

**

-5.8330

2

Capital flow—GDP ratio

-2.5172

**

Level

**

-1.8441

-7.5036

Δ Level

-8.3873

-8.2802

Level

-2.1314

-2.2855

Δ Level Level

**

-6.7002

-6.6750

1.6517

0.1005

**

Δ Level

-7.3815

Level

-2.9388

ΔLevel -10.6514 Level

-2.7974 **

Level

-1.2909

-0.5432

Δ Level

**

-4.4831

-4.5982

-3.9946 -3.7591 -2.4331 -4.3002

**

-4.4019

-0.5610

-1.7293

-2.7617 -6.3721 -5.7101

**

-5.6780 -3.9328 -3.7821

**

-4.3258

-1.5708 -4.4155 -3.7142

*

-3.8790

-4.6408** -3.7130

I(1) **

I(1)

-2.6160 **

-3.9775 1.3518

-1.4380

-2.9358

-4.3401

I(2)

-1.1747 **

*

I(1) I(1)

-1.6360 *

-2.1247 **

-3.6978

1.8788

-3.6240

I(1) *

-1.5570 **

-1.6912 **

-4.6708

-1.8135

-2.1782 *

-2.1152 **

-3.5917

I(2)

-1.7870 *

-1.5111 **

1.7778

-4.3902

-4.6108

Conclusion

-1.7604 **

-1.1703

-0.9211 **

-1.8921 -1.5429

**

-1.9094

-3.9649

-2.1345 **

-1.9847

-1.9382 **

-1.5911 **

Drift and trend

-1.4452 **

3.4783 **

-2.7655 -7.1810

**

-1.8640 **

-10.8305

-7.2984

-5.5491

With drift

-1.5136

-1.1548 **

-10.2537

Δ Level

-5.6923

Drift and trend

-2.6846 **

-1.9397

**

-3.1928 **

-6.3790

**

-0.9496

-2.2079

**

-2.8658

Two-lag model

-3.7144

**

I(1)

-2.0873 **

-4.2688

-1.5267

-1.1549

-1.8345

-2.1468

-2.6379

-2.7441

-2.7787

-2.9601

*

I(1)

Critical values 1%

5%

Auxiliary regression with drift

-3.6394

-2.9511

Auxiliary regression with drift and trend

-4.2436

-3.5443

Note. ** and * indicate that the variable is stationary at the 1% and 5% level of significance respectively.

Cointegration test. When two or more time-series are not stationary, it is important to test whether there is a linear combination of them that is stationary. This phenomenon is referred to as test for cointegration. The existence of cointegration implies that there is a long-run relationship among the variables. Hence, the short-run dynamics can be represented by an error correction mechanism (Engle & Granger, 1987). We applied both the Engle-Granger two-step procedure and the Johansen Maximum Likelihood Methodology for the cointegrtion test. Table 4 shows the results of the cointegration test using the Engle-Granger two-step procedure. The result shows that there is cointegration among the variables of the model.

754

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

Table 3 Results of the Tests for Stationarity: Using Phillips-perron Test Variable Level Δ Level Δ2 Level Level Real exchange rate ΔLevel Level ΔLevel Price level Δ2 Level Level Capital flow—GDP ratio Δ Level Level Closeness Δ Level Level Terms of trade Δ Level Level Investment—GDP ratio Δ Level Level Government expenditure—GDP ratio Δ Level Level Real income Δ Level Critical values 1% Auxiliary regression with drift -3.6394 Auxiliary regression with drift and trend -4.2436 Nominal exchange rate

Phillips-perron test statistic With drift Drift and trend -0.147125 -1.915323 -2.829664 -2.736458 -10.39575** -13.53827** -2.304985 -2.517244 -6.129873** -6.508672** -0.349862 -1.647701 -2.427801 -2.473054 -8.030880** -11.93448** -1.599487 -2.207894 -8.335548** -8.319022** -2.174088 -2.454470 ** -6.813759 -6.899971** 2.696447 0.868821 -7.238805** -9.558644** -2.674635 -3.192774* -10.55310** -10.95700** -2.764257 -2.729361 -8.216906** -7.801281** -1.488208 -1.089614 ** -4.451951 -4.598229**

Conclusion I(2)

I(1) I(2)

I(1) I(1) I(1) I(1) I(1) I(1)

5% -2.9511 -3.5443

Note. ** and * indicate that the variable is stationary at the 1% and 5% level of significance respectively.

Table 4 Result of the Cointegration Test Using the Engle-Granger Methodology Dickey fuller Residual from the static long-run model -4.923030** Note.

**

Augmented-dickey fuller One-lag -5.166248**

Two-lags -4.073569**

Phillips-perron Conclusion -4.799765**

There is cointegration

implies that the residual is stationary at the 1% level of significance.

Table 5 presents the results of the cointegration test, using the Johansen methodology. The results show that based on the traced statistic and the maximum eigen-value statistic, the null hypothesis that “there is no cointegration among the variables” is rejected at both the 5% and 1% levels of significance. The Trace Statistic indicates 7 and 9 cointegrating equations at the 1% and 5% levels of significance respectively, while the maxim eigen-value test indicates 4 cointegrating equations at both the 5% and 1% levels. The cointegration test results are therefore uninformative about the number of cointegrating relations among the variables. However, Pesaran and Pesaran (1997) have pointed out that both the trace statistic and the maximum eigenvalue statistic give conflicting conclusions and decision about the number of cointegrating vectors should be based on economic theory or other

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

755

available information. We therefore proceeded on the basis that at least, there is cointegration and then focused on the cointegrating relation that explains the real exchange rate. This led to our normalization with respect to the real exchange rate variable. This approach has been used by Mtonga (2006) and Pesaran, Shin and Smith (2000). Table 5 The Result of the Cointegration Test by the Johansen Methods Hypothesized No. of CE(s) None** At most 1** At most 2** At most 3** At most 4** At most 5** At most 6** At most 7* At most 8* Hypothesized No. of CE(s) None ** At most 1 ** At most 2 ** At most 3 ** At most 4 At most 5 At most 6 At most 7 At most 8

Eigenvalue 0.958 0.865 0.854 0.769 0.562 0.476 0.450 0.313 0.286 Eigenvalue 0.958 0.865 0.854 0.770 0.562 0.476 0.450 0.313 0.286

Trace statistic 386.227 278.134 209.940 144.531 94.632 66.553 44.572 24.216 11.456 Max-eigen statistic 108.093 68.194 65.408 49.900 28.079 21.981 20.355 12.761 11.456

5 Percent critical value 202.92 165.58 131.70 102.14 76.07 53.12 34.91 19.96 9.24 5 Percent critical value 57.42 52.00 46.45 40.30 34.40 28.14 22.00 15.67 9.24

1 Percent critical value 215.74 177.20 143.09 111.01 84.45 60.16 41.07 24.60 12.97 1 Percent critical value 63.71 57.95 51.91 46.82 39.79 33.24 26.81 20.20 12.97

Note. * (**) denote rejection of the hypothesis at the 5% (1%) level.

The short run dynamics of the real exchange rate. To the extent that the real exchange rate and the regressors of the model are not stationary and cointegration is established, the appropriate mechanism for modeling the short run real exchange rate for Sierra Leone is an error correction mechanism (ECM). We therefore estimated an error correction model of the real exchange rate. In the error correction model, the second differences of the nominal exchange rate and the price level used while the first differences of all the other variables were used. This is because the former variables are integrated of order two while the latter are integrated of order one. Table 6 shows the result of the parsimonious error correction model. In this model, while most of the variables are significant at the 1% or 5% level of significance, two of them (the previous value of the price level and the error correction term) are significant at the 10% level. We deleted the least statistically significant variable (the previous price level) from this model to obtain a model in which all the variables are significant at the 1% or 5% level. However, investment, real GDP and capital flow became insignificant. Moreover, the log-likelihood and the Akaike Information Criterion suggest that the deletion of these variables is not useful though the Schwarz Criterion suggests that the deletion is useful. We therefore maintained the model in which the previous price level and the error correction term are significant at the 10% level. Table 7 shows the result of the model obtained by considering critical values of the t-statistics at only the 1% and 5% levels of significance.

756

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

Table 6 The Parsimonious Error Correction Model of Real Exchange Rate Constant ∆2LnP ∆2Lne ∆2LnP(-1) ∆2Lne(-1)

Coefficient 0.030934 -1.150627 0.842099 -0.473327 0.678120

Standard error 0.025798 0.237587 0.131167 0.259940 0.210024

t-statistics 1.199108 -4.842966 6.420033 -1.820909 3.228776

Prob. 0.2427 0.0001 0.0000 0.0817 0.0037

∆ ⎛⎜ C a p f l o ⎞⎟ ( − 1)

-1.680184

0.777228

-2.161764

0.0413

-0.328350

0.146334

-2.243835

0.0348

-0.219519

0.082190

-2.670886

0.0136

0.721902 -0.435559 0.744356 0.644322

0.297296 0.237001

2.428225 -1.837800

0.0234 0.0790

⎝ GDP ⎠

∆ LnCLOSE ∆ ⎛⎜ I ⎞⎟ ( − 1) ⎝ GDP ⎠

∆LnRGDP ecm R-squared Adjusted R-squared Akaike info criterion Schwarz criterion Log likelihood F-statistic Prob. (F-statistic)

-0.778083 -0.324596 22.83837 9.263309 0.00005

Table 7 Result of the Error Correction Model Based on 5% Level of Significance Constant ∆2LnP ∆2Lne ∆ LnCLOSE (-1) ECM R-squared Adjusted R-squared Akaike info criterion Schwarz criterion Log likelihood F-statistic

Coefficient 0.017668 -0.634216 0.749220 -0.283995 -0.801399 0.560960 0.500403 -0.576196 -0.351731 14.79532 9.263309

Standard Error 0.029116 0.208360 0.145574 0.117119 0.232617

t-statistics 0.606805 -3.043846 5.146675 -2.424835 -3.445141

Prob. 0.5487 0.0049 0.0000 0.0218 0.0018

The result of the error correction model shows that nominal exchange rate depreciation leads to a depreciation of the real exchange rate of Sierra Leone, and this effect holds both in the contemporaneous sense and after a year and the contemporaneous, effect is higher than the effect after a year. The price level has negative effect on the real exchange rate of Sierra Leone. This implies that as the price level increases, the real exchange rate of Sierra Leone appreciates. This effect also holds after a year, though it decreases in magnitude. The one period lag of capital flow has negative effect on the real exchange rate though the contemporaneous value is insignificant in the model, implying that increase in capital flow to Sierra Leone in a particular year, appreciates the real exchange rate in the following year. This means that the Dutch Disease syndrome holds in Sierra Leone with a lag effect. The one period lag of closeness of Sierra Leone to international trade has a negative effect on the

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

757

real exchange rate. Hence, commercial policies that encourage trade liberalisation in Sierra Leone depreciate the real exchange rate. The lag value of investment-GDP ratio has a negative effect on the real exchange rate. Investment is expected to have a positive effect on the real exchange rate when investment takes place more in the tradable goods sector than the non-tradable goods sector, otherwise, it is expected to have a negative effect on the real exchange rate. This sign implies that in Sierra Leone, investment takes place more in the non-tradable goods sector. Real GDP has a positive effect on the real exchange rate. This is in contrast to the prediction of the Ricardo-Balassa thesis. This result implies that in the short run, real GDP growth comes from the non-tradable goods sector of Sierra Leone. The ratio of government expenditure to GDP is insignificant in the model. This insignificance could be as a result of the fact that the investment variable has both private sector and government sector components. Government expenditure is made up of consumption and investment, and investment is significant in the model. This reflects the fact that over the period of 1970 to 2005, government investment was higher than private investment in Sierra Leone. The terms of trade is also found to be insignificant in the real exchange rate model. The insignificance of the terms of trade implies that terms of trade as an external factors have not been a player in the determination of the competitiveness of Sierra Leone to international trade. Various diagnostic tests were carried out in order to determine the robustness of the real exchange rate model. Table 8 and Figure 2 show the results of the residual diagnostic tests, while Figure 3 shows the results of the model stability test. The results show that the residuals of the model are normal, there is no autocorrelation and heteroscedasticity problem, and there is no auto-regressive conditional heteroscedasticity. Table 8 Results of Model-Residual Diagnostic Tests Breusch-godfrey serial correlation LM test F-statistic 2.026353 Obs* R-squared 5.338317 White heteroskedasticity test F-statistic 0.910428 Obs* R-squared 17.79649 ARCH test F-statistic 0.133007 Obs* R-squared 0.141248 Normality test

Probability Probability

0.156794 0.069311

Probability Probability

0.581139 0.469133

Probability Probability

0.717893 0.707043

The equilibrium real exchange rate model. The equilibrium real exchange rate model is estimated based on Elbadawi (1994), Rodriquez (1989) and Dornbusch (1973). The central idea here is that the equilibrium (long run) real exchange rate is a function of only real variables. Hence, the price level and nominal exchange rate were eliminated from the model. The Johansen Maximum Likelihood was applied in order to get the determinants of the long run real exchange rate. The choice draws from the fact that the static long run model, which is obtained by the ordinary least squares, leads to biased and inconsistent estimates of the long run parameters. Table 9 shows the normalized cointegrating coefficients for the equilibrium real exchange rate model and equation (6) shows the result of the equilibrium real exchange rate model. LnREER = 9.0385 – 0.9711Ln (I/GDP) – 0.3920LnRGDP – 0.5053Ln(G/GDP) – 1.7915LnCLOSE + 0.3365LnTOT + 3.6919(CAPFLO/GDP)

(6)

758

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE 7 Series: Residuals Sample 1973 2005 Observations 33

6 5

Mean Median Maximum Minimum Std. Dev. Skewness Kurtosis

4 3 2 1

1.43E-17 0.008968 0.322836 -0.254744 0.122993 0.049009 3.236678

Jarque-Bera Probability

0 -0.2

0.0

0.090233 0.955886

0.2

Figure 2. Results of model-residual diagnostic tests for normality. 15 10 5 0 -5 -10 -15

84

86

88

90

92

94

96

98

00

02

04

00

02

04

5% Significance

CUSUM

(a) The cumulative sum stability (cusum). 1.6 1.2 0.8 0.4 0.0 -0.4

84

86

88

90

92

CUSUM of squares

94

96

98

5% Significance

(b) The cumulative sum of squares stability (cusum squares). Figure 3. Results of the model stability test.

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

759

Table 9 Normalised Cointegrating Coefficients for the Equilibrium RER Model Normalized cointegrating coefficients (std. err. in parentheses) LnREER 1.0000

Ln(I/GDP)

Ln(G/GDP)

LnCLOSE

LnTOT

(CAPFLO/GDP) C

0.971088

LnRGDP 0.391988

0.505255

1.791473

-0.336516

-3.691915

-9.038544

(0.11758)

(0.15667)

(0.13727)

(0.15977)

(0.06945)

(0.77170)

(1.86767)

The equilibrium real exchange rate model shows that the equilibrium real exchange rate of Sierra Leone appreciates with increase in investment, implying that in Sierra Leone, investment takes place more in the non-tradable goods sector than the tradable goods sector. The equilibrium real exchange rate appreciates with increase in real GDP. This implies that in the long-run, the Ricardo-Balassa effect holds in Sierra Leone. Hence, in the long run, productivity growth takes place in the tradable goods sector of Sierra Leone. The equilibrium real exchange rate appreciates also with increase in government expenditure and commercial policies that reduce trade liberalisation. However, the equilibrium real exchange rate depreciates with increase in the terms of trade and capital inflow. The sign of the coefficient of terms of trade implies that the substitution effect of an improvement in the terms of trade of Sierra Leone outweighs the income effect. The sign of the coefficient of capital flow shows that in the long run, increase in capital inflow to Sierra Leone depreciates the real exchange rate, which implies that the Dutch Disease syndrome does not hold in the long run in Sierra Leone. This makes sense because in the long run, the increase in government expenditure on non-tradable goods increases output despite its short-run inflationary effect. This increase in output has a disinflationary effect, with depreciation of the real exchange rate as a consequence. The real exchange rate misalignment. The equilibrium real exchange rate was obtained by first decomposing the fundamentals of the equilibrium real exchange rate into their permanent and cyclical components. This is because the equilibrium real exchange rate requires the fundamentals to be at their sustainable values. To do this, we used the Hodrick-Prescott Filter. The permanent components were then substituted into the equilibrium real exchange rate model, in equation (6), to obtain the equilibrium real exchange rate. Figure 4 shows the graphs of the equilibrium and actual real exchange rates. 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000

1970

1975

1980

1985

1990

1995

2000

Equilibrium real exchange rate Actual real exchange rate Figure 4. The equilibrium and actual real exchange rates.

2005

760

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE Figure 4 shows that the real exchange rate of Sierra Leone was overvalued3 for most of the period between

1972 and 1998. It was undervalued over the periods of 1970-1972 and 1999-2005. The period of consistent undervaluation of the real exchange rate is the post-war period (2000-2005). This was a period of increased trade liberation and capital inflow.

Conclusion and Lessons for Policy Conclusion The real exchange rate is a measure of the competitiveness of an economy to international trade and an overvalued real exchange rate increases the price of domestic goods abroad, leading to lower demand for exports. This deteriorates the trade balance. In Sierra Leone, the nominal exchange rate increased in the 1970s, 1980s, 1990s and the 2000s by either government action (in the fixed exchange rate regime) or a combination of government intervention and market forces (in the managed floating exchange rate regime which took off in 1990). However, the real exchange rate, which is very important in bolstering the external sector, did not follow the trend of the nominal exchange rate. We therefore investigated the determinants of the real exchange rate of Sierra Leone and constructed a model based on real exchange rate misalignment index for Sierra Leone using aggregate annual data from 1970 to 2005. The approach involved testing the variables for unit root and cointegration, and then estimating a short run real exchange rate model in the error correction context using the Hendry’s general to specific modeling. The long-run (equilibrium) real exchange rate model was estimated using the Johansen Maximum Likelihood procedure. The results of the error correction model shows that increase in the price level, capital inflow, capital accumulation and trade restrictions appreciate the actual real exchange rate of Sierra Leone while increase in the nominal exchange rate and output depreciate it. The equilibrium real exchange rate model shows that improvement in the terms-of-trade and an increase in capital-inflow depreciates the equilibrium real exchange rate. Capital accumulation, increase in output, increase in government expenditure and trade restrictions appreciate the equilibrium real exchange rate. The real exchange rate misalignment index shows that while the real exchange rate was undervalued over the period of 1999 to 2005 it was overvalued most of the time between 1972 and 1998. Lessons for Policy These empirical findings have implications for measures to bolster the competitiveness of Sierra Leone to international trade. First, increase domestic policies that ameliorate inflation are imperative since increase in domestic price level appreciates the real exchange rate. Second, to the extent that capital accumulation appreciates the real exchange rate, there is a need for the creation of an enabling environment that encourages investment in the tradable goods sector, rather than the non-tradable goods sector. This can be done by reforming the agricultural and industrial sectors of Sierra Leone, so that they will attract investment for export purpose and reforming the mining sector for increased investment. Third, given the fact that trade restrictions appreciate the real exchange rate, there is need to encourage Sierra Leone’s integration with other economies in the West African sub-region as well as out of the sub-region. Fourth, since real output has positive impact on the real 3

Real exchange rate misalignment is calculated as the percentage deviation of equilibrium real exchange rate from the actual real exchange rate.

THE DETERMINANTS OF THE REAL EXCHANGE RATE IN SIERRA LEONE

761

exchange rate, to obtain a sustained real exchange rate depreciation, supply side policies that increase productivity are useful in Sierra Leone. These include improvement in the educational system, infrastructure and health facility.

References Afridi, U. (1995). Determining real exchange rates. Pakistan Development Review, 34, 263-276. Amin, A., & Awung, W. J. (1997). Determinants of real exchange rate in Cameroon, Congo and Gabon. African Journal of Economic Policy, 4(1), 29-59. Aron, J., Elbadawi, I. A., & Kahn, B. (1997). Determinants of the real exchange rate in South Africa. Centre for the Study of African Economies,WPS/97-16, CSAE Publishing, Oxford. Baffes, J. A., Elbadawi, I., & O’Connell, A. (1999). Single equation estimation of the equilibrium real exchange rate. In L. Hinkle, & P. Montiel (Eds.), Exchange rate misalignment, concepts and measurements for developing countries. Oxford: Oxford University Press. Baye, F. M., & Khan, S. A. (2002). Modelling the equilibrium real exchange rate in Cameroon: 1970-1996. The Nigerian Journal of Economic and Social Studies, 44(1), 129-147. Cottani, J., Cavallo, D., & Khan, M. S. (1990). real exchange rate behaviour and economic performance in LDCs. Economic Development and Cultural Change, 39, 61-76. Dornbusch, R. (1973). Devaluation, money and non-traded goods. American Economic Review, 5, 871-880 Edwards, S. (1988). Real and monetary determinants of real exchange rate behaviour. Journal of Development Economics, 29, 311-341. Edwards, S. (1989). Real exchange rates, devaluation and adjustment. Cambridge, Massachusetts: The MIT Press. Eita, J. H., & Sichei, M. M. (2006). Estimating the equilibrium real exchange rate for Namibia. University of Pretoria, Department of Economics Working Paper Series, Working paper 2006-8. Elbadawi, I. A. (1994). Estimating long-run equilibrium real exchnage rates. In J. Williamson (Ed.), Estimating equilibrium exchange rates. Washington D.C.: Institute for International Economics. Elbadawi, I. A., & Soto, R. (1997). Real exchange rates and macroeconomic adjustment in sub-Saharan Africa and other developing countries. AERC Plenary Session. Journal of African Economies (Supplement), 6(3), 74-120. Engle, R. F., & Granger, C. W. F. (1987). Cointegration and error correction: Representation and testing. Econometrica, 55, 251-76. Faruqee, H. (1995). Long-run determinants of the real exchange rate: A stock-flow perspective. IMF Staff Papers, 42(1), 80-107. Feyzioglu, T. (1997). Estimating the equilibrium real exchange rate: An application to Finland, IMF Working paper, No. WP/97/109. Washinton D.C., International Monetary Fund. Gelband, E., & Nagayasu, J. (1999). Determinants of Angola’s parallel market real exchange rate. IMF Working paper, No. WP/99/90. Ghura, D., & Grennes, T. J. (1993). The real exchange rate and macroeconomic performance in sub-Saharan Africa. Journal of Development Economics, 43(1), 155-174. Grobar Snape, L. M. (1993). The effects of real exchange rate uncertainty on LDC manufactured exports. Journal of Development Economics, 41(2), 367-376. Hyder, Z., & Mahboob, A. (2006). Equilibrium real effective exchange rate and exchange rate misalignment in Pakistan. SBP-Research Bulletin 2.1. Kadenge, P. (1998). Essays on macroeconomic adjustment in Zimbabwe: inflation, money demand and real exchange rate (Ph.D. Thesis, Gothenburg University). Kemme, D. M., & Roy, S. (2005, October). Real exchange rate misalignment: Orelude to crisis? William Davidson Institute Working paper. No. 797. Montiel, P. (1997). Exchange rate policy and macroeconomic management in ASEAN countries. In J. Hinklin et al. (Eds.), Macroeconomic issues facing ASEAN countries. Washington, D.C.: IMF. Montiel, P. (1999). The determinants of the long-run equilibrium real exchange rate: An analytical model. Exchange rate misalignment: Concepts and measurement for developing countries. In L. E. Hinkle, & P. J. Montiel (Eds.), New York: Oxford University Press. Mtonga, E. (2006). The real exchange rate of the rand and competitiveness of South Africa’s trade. Munich Personal RePEc Archive, MPRA paper No. 1192.

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Mungule, K. O. (2004). The determinants of the real exchange rate in Zambia. AERC Research paper No. 146. Mwega, F. (1993). Real exchange rate misalignment and macroeconomic performance in Kenya. An interim report presented at AERC Workshop, Cape Town, May 29 to June 1. Obadan M. I. (1994). Real exchange rate in Nigeria: A preliminary study. Monograph Series No. 6. National Center for Economic Management and Administration, Ibadan, Nigeria. Ogun, O. (1998). Real exchange rate movements and export growth: Nigeria, 1961-1990. AERC Research paper No. 82. Olopoena, R. (1992). Determinants of real exchange rate in Nigeria. AERC Interim Report, Nairobi Dec. 5-1. Parikh, A .(1997). Determinants of real exchange rates in South Africa: A short-run and long-run analysis. African Journal of Economic Policy, 4(1), 1-27. Pesaran, H. M., & Pesaran, B. (1997). Working with Microfit 4.0. Oxford: Oxford University Press. Pesaran, H. M., Shin, Y., & Smith, R. J. (2000). Structural analysis of vector error correction models with exogenous I(1) variables. Journal of Econometrics, 97, 293-343. Rodriguez, C. A. (1989). Macroeconomic policies for structural adjustment. World Bank Working paper series No. 247. Sekkat, K., & Varoudakis, A. (1998). Exchange-rate management and manufactures exports in sub-Saharan Africa, Development Centre Technical Papers, 134. Paris: OECD. Xiaopu, Z. (2002). Equilibrium and misalignment: An assessment of the RMB exchange rate from 1978 to 1999. Center for Research on Economic Development and Policy Reform. Working paper No. 127.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 763-770

The Value-at-Risk (VaR) of South East Asian Countries: Forecasting Long Memory in Extreme Value Estimators* Chaitip Prasert, Chaiboonsri Chukiat

Chaitip Arreyah

Chiang Mai University, Chiang Mai, Thailand

The Far Eastern University, Chiang Mai, Thailand

Accurate modeling of Value-at-Risk (VaR) is important in finance econometrics, particularly as it relates to the modeling and forecasting of Value-at-Risk (VaR). Particularly, the new standpoint of forecasting using the combined testing of long memories in VaR and extreme value estimators were employed to estimate the loss at a predefined confidence level. It proposes a construction to put together the analysis of long-memory (non-stationary) time series fitted by an extreme-value distribution. This study examines the Value-at-Risk (VaR) based on sample data of selected South East Asian stock markets consisting of SET index (Thailand), KLSE index (Malaysia), FTSI index (Singapore), and JKSE index (Indonesia)). The results indicated that selected South East Asian stock markets have a higher VaR overtime. Stock market risk supervision is one of the most indispensable skills for any investor to master. The distribution appears to be marching to the right with the same displacement for each factor of 10 increase in n; the peak of each curve occurs at ln(n). The study proved that this is correct. The cumulative distribution function-cdf for the exponential distribution of Singapore Straits Industrial (Singapore) was the best for investment in Asian stock markets. Keywords: financial risk management, extreme value estimators, long memory, South East Asian stock markers

Introduction The methods for detecting long memory are regularly used in the financial econometrics. The study of Harold Edwin Hurst in 1960 and Mandelbrot and Wallis (1969) indicated the common long-memory components. A description of the empirical models explains how the model was developed to test the daily stock market returns. How does the combined analysis for the effects of risk stock market trading—Daily in Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia). Finally, incorporation of long memories and extreme value estimators into the models is detailed with tables showing the coefficient changes as a result of the empirical study of established stock-market returns.

*

Special thank to Miss Fawikorn Inluang for revising the research format of this paper to publish in this journal. Chaitip Prasert, Ph.D., Associate Professor, Faculty of Economics, Chiang Mai University. Chaiboonsri Chukiat, Research Assistant, Faculty of Economics, Chiang Mai University. Chaitip Arreyah, Ph.D., Instructor, Marketing Department, The Faculty of Business Administration, The Far Eastern University. Correspondence concerning this article should be addressed to Chaiboonsri Chukiat, Faculty of Economics, Chiang Mai University, Chiang Mai, Thailand. E-mail: [email protected]; cc. [email protected].

764

THE VALUE-AT-RISK (VAR) OF SOUTH EAST ASIAN COUNTRIES

Research Objective The research objective aims to forecast the Value-at-Risk (VaR) based on ARFIMA (p, d, q)-GARCH (p, q) in extreme value estimators of stock-market returns. This study evaluates the finding of long memory in forecasting index volatility over horizons of daily closing of four Asian stock-index returns. Examination period is 2009-2010.

Scope of This Research The scope of this paper focuses on the empirical study of established equity markets covers forecasting daily index observations during the period of 1997-2010. To better understand recent capital market movements, daily closing of stock-index returns from 1997-2009 of four countries covering Thailand, Malaysia, Singapore and Indonesia secondary data were obtained in the context of forecasting index volatility over horizons. Examination period is 2009-2010. The purposes of this paper were to describe the ARIMA-model-based approach to seasonal adjustment, to detail the empirical basis for the daily stock market returns and to test extreme value estimators of the effects of risk stock market trading—Daily on the empirical model. The first part of the paper will discuss previous literature on the general model of ARIMA (p, d, q)-GARCH (p, q) as mathematical programming approach.

The Research Framework and Methodology Research Framework Extreme Value Theory and Value-at-Risk (VaR) Extreme value theory (EVT) has been first proposed by Fisher, Tippet and Gnedenko since 1920, and after that in 1958, Gumbel had produced his fundamental book on the statistics of extremes. The theorem of extreme value theory has three type distributions. The first one is the Gamble’s extreme value distributions, the second one is the Freshet’s extreme value distributions, and the third one is the Weibull’s extreme value distributions. The generalized extreme value distribution has cumulative distribution function (see equation (1)): , μ, σ , ξ

exp

1

ξ

μ σ

⁄ξ

(1)

where: 1 + ξ(x − μ) / σ > 0; μ

R = the location parameter;

σ > 0 = the scale parameter; ξ

R = shape parameter;

x

[ μ − σ / ξ, + ∞) when ξ > 0;

x

(− ∞, +∞) when ξ = 0;

x

(− ∞, μ − σ / ξ ] when ξ < 0.

Again, for 1 + ξ(x − μ) / σ > 0, the density function is, consequently: 1 μ ⁄ξ 1 ξ , μ, σ , ξ

σ

exp

σ μ

ξ

1

σ

⁄ξ

The Value-at-Risk (VaR) in extreme observations follow to real the GEV distribution based on parametric methods (see equation (2), and see Embrechts, Kluppelberg, & Mikosch (1997)): ^

VaR extreme = μ +

^

σ ^

ξ

[( − ln( p )) − ξ − 1]

(2)

765

THE VALUE-AT-RISK (VAR) OF SOUTH EAST ASIAN COUNTRIES The General Model of ARIMA (p, d, q)-GARCH (p, q)

An autoregressive fractionally integrated moving-average (ARFIMA) process is ARFIMA (p, d, q) model as well as it can be written give by (see equation (3)): Ø(β)∆dyt = δ + θ(β)εt

(3)

with Ø(β) = 1 - Ø1β - Ø2β2 - … - Øpβp and θ(β) = 1- θ1(β) - θ2(β)2 - … - θq(β)q The simplest GARCH model is the GARCH(1,1) model (see equation (4)):

σt2 = α0 + α1μ2t–1 + λ1σ2t–1

(4)

The ARFIMA (p, d, q)-FIGARCH (p, q) has developed to calculate by Doornik (1994-2008). The Methods of Unit Root Test ADF Test (1979) corrects for higher order serial correlation by adding lagged differenced terms on the right-hand side. The ADF Test has developed to calculate by Dickey and Fuller (1979). The asymptotic distribution of the PP-Test (tpp) is the same as the ADF-Test. The PP-Test has developed to calculate by Phillips-Perron (1987, 1988). The Method of Long Memory Test Test for long memory: R/S test as well as the R/S test is developed from the classical R/S test which was proposed by Hurst (1951) while studying hydrological time series of the River Nile. For a return series {x1, x2, …, xT}, Lo (1991) refined the classical test again, and this test is called that modified R/S test. And test for long memory: GPH test as well as the GPH test for long memory process was developed by Geweke and Porter-Hudak (1983) and they proposed to estimate of the OLS estimator of d from the regression.

Data Description As shown in Table 1, the series of returns 1997-2009 were collected from the DataStream database: Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia). Moreover, the daily closing of stock-index returns 1997-2009 of Bangkok SET Index was presented by graphically in Figure 1, Figure 2, Figure 3 and Figure 4. Table 1 Data Description 1997-2009 of the Series of Returns: Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia) Thailand Number of observations 3,340 Mean

0.28897

Malaysia

Singapore

Indonesia

3,368

2,595

3,163

0.38195

0.00830302

0.01008912

0.007199

0.008227

0.00000157

0.0000182

Median

-0.00017

0.00023

Minimum

-0.16063

-0.24153

Maximum

0.11350

0.20817

0.060026

0.083274

Standard deviation

0.01788

0.01554

0.00593605

0.00823816

766

THE VALUE-AT-RISK (VAR) OF SOUTH EAST ASIAN COUNTRIES 0.15 0.1 Thai_s_set_inde

0.05 0 -0.05 -0.1 -0.15 -0.2

1998 2000 2002 2004 2006 2008 2010 Figure 1. Graphical present the daily closing of stock-index returns 1997-2009 of Bangkok SET Index (Thailand). Source: Bangkok SET Index (Thailand).

The Results of Research The Results of Various Tests for Unit Root Process Table 2 presents the result of both the ADF-unit root test (ADF-test) and Phillip-Perron unit root test (PP-test). Based on both ADF-test and PP-test have already confirmed that Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia) are stationary (see more details in Table 2). Table 2 Results of the Unit Root Tests Variables Bangkok SET Index Thailand

ADF-test constant with trend -28.45008** I(0) Kuala Lumpur Composite Index Malaysia -15.04010** I(0)    Singapore Straits Industrial Singapore -7.852110** I(0)    Jakarta Composite Index Indonesia -19.78100** I(0)   

PP-test constant with trend -43.09941** I(0) -43.11171** I(0)  -45.46230** I(0)  -49.81575** I(0) 

Notes. ** significant at 1% level; Source: From computed.

Mala_set_index

0.25 0.2 0.15 0.1 0.05 0 -0.05 -0.1 -0.15 -0.2 -0.25

1998 2000 2002 2004 2006 2008 2010 Figure 2. Graphical present the daily closing of stock-index returns 1997-2009 of Kuala Lumpur Composite Index (Malaysia). Source: Kuala Lumpur Composite Index (Malaysia).

THE VALUE-AT-RISK (VAR) OF SOUTH EAST ASIAN COUNTRIES

767

0.08 0.06 0.04 0.02 v1

0 -0.02 -0.04 -0.06 -0.08 -0.1

2000 2002 2004 2006 2008 Figure 3. Graphical present the daily closing of stock-index returns 1997-2009 of Singapore Straits Industrial (Singapore). Source: Singapore Straits Industrial (Singapore). 0.15 0.1 0.05 v1

0 -0.05 -0.1 -0.15

1998 2000 2002 2004 2006 2008 Figure 4. Graphical present the daily closing of stock-index returns 1997-2009 of Jakarta Composite Index (Indonesia). Source: Jakarta Composite Index (Indonesia).

Various Tests for Long Memory Results Table 3 shows the results of various tests for long memory process based on R/S Test, Modified R/S Test and GPH Test of Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia). Examination period is 1997-2009. Table 3 Results of Various Long Memory Tests Using R/S Test, Modified R/S Test and GPH Test The name of variables

R/S test

Modified R/S test 4.3349

**

Kuala Lumpur Composite Index Malaysia

**

8.4268

4.1435

**

Singapore Straits Industrial Singapore

6.8491**

3.629**

Bangkok SET Index Thailand

Jakarta Composite Index Indonesia

7.2077

**

**

6.2144

3.6469

**

GPH test 2.7855** 3.2137** 4.1209** 4.569**

Notes. Form: computed; Null Hypothesis: no long-term dependence or no long memory process; For GPH test, Null Hypothesis: d = 0; significant at 1% level.

**

768

THE VALUE-AT-RISK (VAR) OF SOUTH EAST ASIAN COUNTRIES The established model explains volatility more accurately shown long-memory results as summarized in

Table 3. The statistic tests and its corresponding statistics significant are given. If the statistics value of R/S Test, Modified R/S Test and GPH test are significance at 1% level or at 5% level then rejected Null Hypothesis of no long-term dependence or no long memory process in time series data. Otherwise, if the statistics value of R/S test, Modified R/S Test and GPH Test are not significance at 1% level or at 5% level then accepted Null Hypothesis of no long-term dependence or no long memory process in time series data. The results of this empirical analysis are promising based on the R/S test, Modified R/S Test and GPH test. The statistics as a whole are not statistically significant found in the Table 1. Results have to be considered carefully. The combined analysis for the effects of risk stock market trading—Daily confirmed that Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia) have long-term dependence or a long memory process. The Forecasting Result of VaR (99%) Table 4 shows the prediction result during period of January 2010-December 2010 based on ARFIMA (p, d, q)-GARCH (p, q) method in extreme value estimators of Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia). Table 4 Comparison of the ARFIMA (p, d, q)-GARCH (p, q) Method in Extreme Value Covered Period of January-December 2010 Month/Year 2010 January February March April May June July August September October November December Average

ARFIMA (1, 0.32, 1) -GARCH(1, 1) In extreme value of Thailand (absolute value) 0.0084 0.0123 0.0152 0.0176 0.0197 0.0216 0.0233 0.0248 0.0263 0.0276 0.0289 0.0301 0.021316667

ARFIMA (1, 0.36, 1) -GARCH (1, 1) In extreme value of Malaysia (absolute value) 0.0062 0.0117 0.0151 0.0176 0.0197 0.0212 0.0226 0.0238 0.0249 0.0258 0.0267 0.0282 0.020291667

ARFIMA (1, 0.33, 1) -GARCH (1, 1) In extreme value of Singapore (absolute value) 0.007 0.0093 0.0109 0.012 0.013 0.0138 0.0145 0.0151 0.0157 0.0162 0.0167 0.0171 0.013441667

ARFIMA (1, 0.31, 1) -GARCH (1, 1) In extreme value of Indonesia (absolute value) 0.0081 0.011 0.0129 0.0145 0.0157 0.0168 0.0178 0.0187 0.0195 0.0202 0.0209 0.0215 0.016466667

Note. Source: The forecasting of VaR (99%) computed.

The objective of this paper is to introduce Table 4 and Figure 5 which show the prediction result of VaR (99%) in Bangkok SET Index (Thailand), Kuala Lumpur Composite Index (Malaysia), Singapore Straits Industrial (Singapore), and Jakarta Composite Index (Indonesia). Examination period is January-December 2010. Extreme value theory is important for assessing risk for highly unusual events, such as Stock Market Trading—Daily based on the combined method of the ARFIMA (1, 0.29, 1)-GARCH (1, 1) method in extreme value estimators. The discriminating power of this test has been investigated by in four Asian stock markets

TH HE VALUE-A AT-RISK (VA AR) OF SOU UTH EAST ASIAN A COUN NTRIES

769

including Bangkok B SE ET Index (Thhailand), Kuala Lumpur Composite Index I (Malaaysia), Singap pore Straits Industrial (Singapore), ( a Jakarta Composite and C Index (Indonessia). These sttatistical technniques confirrmed that in 2010 the capital markket risk of Singapore S Strraits Industriial (Singaporre) dominatees Bangkok SET Index (Thailand),, Kuala Lumppur Composiite Index (Maalaysia), and Jakarta Com mposite Indexx (Indonesia) in terms of VaR forecaasting. The diistribution apppears to be marching m to th he right with the t same dispplacement forr each factor of 10 increease in n; the peak of each curve occurss at ln(n). Thee study proveed that this is correct. The cumulative distributionn function (C CDF) for the exponential distribution d of o Singapore Straits S Industtrial (Singapo ore) was the best for invvestment in Asian A stock markets. m

Figuree 5. Comparison of the ARFIM MA (p, d, q)-GA ARCH (p, q) meethod in extrem me value estimattors covered peeriod of Januarry-December, 2010. 2 Source: The T forecasting of VaR (99%) computed.

The existence of a graphic pressentation of the t bar chart compared thee ARFIMA (p (p, d, q)-GAR RCH (p, q) method in extreme value estimatorrs. Examinattion period is i January-December 20110. The acceessibility of r the intraday pricce movementss of financiall indexes has led to new traansformation ns in applied databases recording econometriics as far as the combined methods off the ARFIM MA (1, 0.29, 1)-GARCH (1, 1) in exttreme value estimators of daily volaatility is concerned. Test statistics s utilizzes the combbined volatilitty estimation methods of m of probability p d distributions approximattions of thee distributionn from the median in an arbitrrarily small neighborhoood of a poinnt in the functtion’s domainn. Results ind dicated extrem me value estiimators to geenerate VaR estimates. The findingss provide the tail forecastss of daily retturns at 99 peercent confiddence intervalls for stress RFIMA (p, d, d q)-GARCH H (p, q) meethod in extreeme value esstimators of testing purrposes. Princiipally the AR Singapore Straits Industtrial (Singapoore) dominatees others in terms of VaR R forecasting. Pdf of Singaapore Straits ( h strong discriminating has d g power agaiinst an extrem me value alteernative baseed on stock Industrial (Singapore) market retuurns. Increaseed stock markket volatilities also make extreme e returnns.

Conclusion n The exxtreme value theory is an essential meaasurement of risk managem ment in finance. This papeer presents a combined model for tim me-series of discrete highh-frequency stock s index changes c and the VaR calcculations in S East Asian A stock markets. m The ARFIMA (p p, d, q)-GAR RCH (p, q) m method in exttreme value particular South estimators offers a prosppect to study this finance econometric e issue i in high frequency daatasets. Stock market risk

770

THE VALUE-AT-RISK (VAR) OF SOUTH EAST ASIAN COUNTRIES

supervision is one of the most indispensable skills for any investor to master because of the high risk nature of the portfolio. South East Asian economies are basically different in terms of changes in self-motivated structure of the agricultural economy. Therefore, it is to a certain extent possible that the fundamental probability distributions of certain variables or the parameters of the existing distributions change where investors are unwilling or unable to discriminate between an initially affected or crisis. The pdfs of South East Asian stock markets are skewed, because a high maximum needs only Bangkok SET Index (Thailand) of the outcomes on December to be very high.

References Amato, J. D. (2005, December). Risk aversion and risk premia in the CDS market. BIS Quarterly Review, 55-67. Armstrong, J. S., & Collopy, F. (2002). Speculations about seasonal factors. Retrieved November 22, 2002, from http://hops.wharton.upenn.edu/forecast/ Bell, W. (2004). On RegComponent time series models and their applications. In A. Harvey et al. (Eds.), State space and unobserved components models: Theory and applications. Cambridge: Cambridge University Press. Bell, W. R., & Hiller, S. C. (1983). Modelling time series with calendar variations. Journal of the American Statistical Association, 78, 526-34. Box, G. E. P., & Jenkins, G. M. (1976). Time series analysis: Forecasting and control (rev. ed.). San Francisco: Holden-Day. Chang, S., & Andrew, T. (2005). Adjusting for the Chinese new year: An operational approach. External Department Hong Kong Monetary Authority. Degiannakis, S. (2008). ARFIMAX and ARFIMAX-TARCH realized volatility modeling. Journal of Applied Statistics, 35(10), 1169-1180. Dickey, D. A., & Fuller, W. A. (1979). Distribution of the estimators for autoregressive time series with a unit root. Journal of the American Statistical Association, 74, 427-431. Doornik, J. A., & Ooms, M. (1999). A package for estimating, forecasting and simulating ARFIMA models: ARFIMA package 1.0 for Ox (Nuffield College, Oxford OX1 1NF, UK, Erasmus University, Rotterdam, The Netherlands). Doornik, J. A., & Ooms, M. (2006). A package for estimating, forecasting and simulating ARFIMA models: ARFIMA Package 1.04 for Ox. Nuffield College, Oxford, Working paper. Embrechts, P., Kluppelberg, C., & Mikosch, T. (1997). Modelling extremal events for insurance and finance. Berlin: Springer. Findley, D. F., Monsell, B. C., Bell, W. R., Otto, M. C., & Chen, B. C. (1998). New capabilities and methods of the X-12-ARIMA seasonal adjustment program. Journal of Business and Economic Statistics, 16, 127-176 (with discussion). Findley, D. F., Wills, K. C., & Monsell, B. C. (2004). Seasonal adjustment perspectives on “Damping seasonal factors: Shrinkage estimators for the X-12-ARIMA program”. International Journal of Forecasting, 20, 551-556. Fornari, F. (2005). The rise and fall of US dollar interest rate volatility: Evidence from swaptions. BIS Quarterly Review, September, 87-97. Gai, P., & Vause, N. (2005). Measuring investors’ risk appetite. Bank of England Working paper series, No. 283. Granger, C. W. J. (1980). Long memory relationships and the aggregation of dynamic models. Journal of Economet, 14, 227-238. Granger, C. W. J., & Joyeux, R. (1980). An introduction to long-memory time series models and fractional differencing. Journal of Time Series Analysis, 1, 15-39. Hood, C. C. (2000a). X-12-Graph: A SAS/GRAPH® Program for X-12-ARIMA Output, User’s Guide for X-12-Graph Batch,Version 1.2. U.S. Census Bureau: Washington, D.C.. Hood, C. C. (2000b). The SAS Interface for X-12-ARIMA, User’s Guide, Version 1.0, U.S. Census Bureau: Washington, D.C.. Hosking, J. R. M. (1981). Fractional differencing, Biometrika, 68, 165-176. Hurvich, C. M., & Tsay, C. L. (1989). Regression and time series modelling in small samples. Biometrika, 76, 297-307. Lewis, C. D. (1982). Industrial and business forecasting methods. London: Butterworths. Macauley, F. R. (1930). The smoothing of time series. National Bureau of Economic Research. Makridakis, S., Wheelwright, S. C., & Hyndman, R. J. (1998). Forecasting methods and applications (3rd ed.). John Wiley and Sons. Miller, Don M., & Dan Willams. (2003). Shrinkage estimators for damping X-12-ARIMA seasonal (Discussion paper, Virginia Commonwealth University USA). Phillips, P. C. B., & Perron, P. (1988). Testing for a unit root in time series regression. Biometrika, 75(2), 335-346. Proietti, T. (2004). Seasonal specific structural time series. Studies in Nonlinear Dynamics & Econometrics, 8(2), Article 16. Thorp, J. (2003). Change of seasonal adjustment method to X-12-ARIMA. Monetary & Financial Statistics. Torre, D., & Lemoine. (2007). Detection of long-range dependence and estimation of fractal exponents through ARFIMA modeling. British Journal of Mathematical and Statistical Psychology, 60, 85-106. Trimbur, T. M. (2006). Seasonal heteroskedasticity in census bureau construction series. Statistical Research Division U.S. Census Bureau Washington D.C. 20233-9100.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 771-778

The Impact of Global Financial Crisis on Growth Prospect in Albania Economy and Policy Implications Elida Liko, Tonin Kola University of Tirana, Tirana, Albania

The paper examines the impact of global economic crisis in terms of output losses in Albania relative to South East European countries. By using the panel regression, we found that the pre-crisis level of development, current account deficit, trade openness, credit to private sector, and investment to GDP ratio are important factors for understanding the intensity of the crisis. The impact of crisis was not severe for Albanian economy because of a weak financial integration and relatively small trade openness. The foreign reserve holding and exchange rate flexibility during the crisis helped in mitigating the output losses. Since fiscal position deteriorated significantly during the crisis and the banking system is recovering slowly, the Albanian economy needs to broaden its sources of growth and strengthen the competitiveness. Keywords: output losses, global financial crisis, vulnerabilities, linkages

Introduction The global financial crisis, which started in developed countries, hit the rest of the world. This paper analyzes the impact of the global crisis on terms of output loss in Albania relative to South East European countries. This paper explores the factors that shaped the initial impact of the crisis, by focusing among other on external sector vulnerabilities, current account deficits, reserve holdings, external debt and trade linkages. Based on cross-country regression, we have first analyzed the growth for the time period before the crises of 2005-2007 and make a comparison with growth during the crises of 2008-2009. In the end, some conclusion based on empirical results for the recovery crises of 2010-2011 are drawn. Since not all the countries under survey have the same exchange rate regime, the model considered the differences in exchange rate regime on growth performance during the crisis and for recovery period. In countries with flexible exchange rate, during the crisis is noticed a better performance in terms of output loss, therefore, the flexibility of exchange rate helped the countries to buffer the impact of the shock, and countries with fixed exchange rate performed worse. Our main findings suggest the following. The pre-crisis level of development, current account deficit, trade openness, credit to private sector, and investment to GDP ratio are important factors for understanding the intensity of the crisis. The impact of crisis was not severe for Albanian economy because a weak financial Elida Liko, Ph.D. in Economics, Faculty of Economics, University of Tirana. Tonin Kola, Professor Associated, Faculty of Economics, University of Tirana. Correspondence concerning this article should be addressed to Elida Liko, Blloku Vasil Shanto, Pll 12, Shk 1, Ap 9, Tirana, Albania. E-mail: [email protected].

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integration and relatively small trade openness. The foreign reserve holding and exchange rate flexibility during the crisis helped in mitigating the output losses. Since fiscal position deteriorated significantly during the crisis and the banking system is recovering slowly, the Albanian economy needs to broaden its sources of growth and strengthen the competitiveness.

Economic Performance Before the Crisis Albania has recorded a strong economic growth of about 5.5 percent for time period of 2002-2007. The growth was supported by stable macroeconomic environment, low inflation rate, a simplification of tax system and structural reforms. Table1 The Main Macroeconomic Indicators 2002 4.2 1,437 15.8 1.7 -6.6 65.3 23.5 -10 140.1 132.4

Growth of real GDP GDP per capita (USD) Unemployment rate Inflation Budget deficit/GDP Public debt/GDP Foreign debt/GDP Current account/GDP Lek/UDS average exchange rate Lek/EURO average exchange rate

2003 5.8 1,831 15 3.3 -4.5 61.7 20.6 -7.9 121.9 137.5

2004 5.7 2,336 14.6 2.2 -5.1 56.6 18 -5.6 102.8 127.7

2005 5.7 2,597 14.2 2.0 -3.6 56.7 17.5 -7.7 99.8 124.2

2006 5.5 2,882 13.8 2.5 -3.1 55.9 17.2 -7.2 98.1 123.1

2007 6 3,387 13.4 2.9 -3.5 52.2 14.4 -11.2 90.4 123.6

2008 7.7 4,174 12.5 3.4 -5.7 53.6 27.6 -15.2 83.3 122.8

2009 3.3 3,750 13.1 2.2 -7.8 59.0 34.1 -14.0 95.5 131.0

Note. Source: Bank of Albania, Institute statistic.

Theoretically a relatively small impact of the crisis in counties with sound macroeconomic environment, low inflation, small current account deficits, and low dependence on bank’s related capital inflows is expected (Kitamura, 2008; Shelburne, 2009).

When Started Downturn 2008-2009 Despite the limited integration into global financial markets, the crisis was transmitted into Albania economy through a number of channels: y Panic deposit withdrawals in fall 2008. Bank deposits began to withdraw in the wake of the October 2008 global financial turmoil. Between September and December 2008, 8 percent of banking system deposits was withdrawn. Bank of Albania started to inject liquidity in interbank market through open market operations. Before the last quarter of 2008, the loan from Central Bank to commercial banks was secured by using treasury bill. In order to increase the possibility of commercial banks to have a larger quantity of liquidity in accordance with their need, Bank of Albania made a regulatory change, in order to allow the use of treasury bond with 12 months maturity, that before were used only as a guaranty for other instruments like “one day loans”. The Bank of Albania approved a temporary passing to asymmetric passage of ceiling interest rate, by decreasing the difference between the interest rate of one day loan with the interest rate of repurchasing agreement from 1.75 percent to 0.75 percent. This made possible to reduce the volatility of interest rate in interbank market; y Pressures on exchange rate of Albania currency Lek. The deterioration of current account, decrease of

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exports volume and remittances from abroad, lead to a change in the equilibrium of foreign currency flows which created pressures for increasing the domestic exchange rate in the last quarter of 2008 and the first quarter of 2009. Depreciation of domestic currency increased the sources of danger to domestic price level; y The recession on Albanian trading partners lead to a fall in exports. The economic activity of European Union was deteriorated by the last quarter of 2008. The economic growth declined from 0.7-0.8 percent in the third quarter to 1.2 percent in the fourth quarter of 2008; y Remittances have been fallen dramatically. During the year of 2008, remittances have decrease with about 16 percent relative to the previous year, by accounting for 9.2 percent of GDP relative to 12 percent of GDP in 2007. Albania was not severely hit by global economic and financial crisis. The slowdown of economic activity started in the third quarter of 2009, when the output decreased with about 4.39 percent relative to previously quarter, the slow down lasted until the first quarter of 2010 after that output is expected to recover slowly but not reach the pre-crisis level. Despite the rest of the world that recorded negative growth rates, Albania managed to maintain positive output growth. Overall macroeconomic policy has been stimulated, with monetary policy playing an important role in supporting the economic activity. The Bank of Albania pursuit easier monetary policy and the policy rate has decreased considerably from 6.25 percent in December 2008, to 5.75 percent in January 2009, from 5.25 percent in October 2009 and 5 percent to July 2010. The Bank of Albania increased the bank supervision related to credit risk, these measures helped in more balanced increase in the credit. Fiscal policy has been expansionist with considerable fiscal deficit to GDP at level of 6 percent, and an increase in public debt of about 58 percent of GDP. Albania has been less exposed to shocks to exports, prices and remittances. The export slowdown started in the third quarter of 2008, and lasted until the first quarter of 2009. During 2008, current account deficit was 14.9 percent of GDP relative to 10.4 percent of GDP in 2007. The main responsible for this deterioration was increase in trade deficit from 26.3 percent of GDP in 2007 to 27.9 percent of GDP in 2008. Current transfers influenced negatively the performance of Albanian current account. There was a decrease from 12 percent of GDP in 2007 to 9.2 percent of GDP in 2008. During 2008-2009, the current account deficit in Albania reached the higher value ever of about 15.5 percent of GDP. Trade deficit during the same period was 27 percent of GDP, accompanied with the decrease in current transfers of about 10 percent of GDP relative to their path before the crises 14-15 percent of GDP. Total external debt was sizeable, about euro 3.3 milliard at the end of 2009, by accounting for 38.2 percentage of GDP. Foreign reserves account for 4-5 months’ imports, above the low recommended limit of 3 months.

The Crisis Response Fiscal policy followed during the year of 2008 was explanatory and aimed increasing of average time duration of public debt. Compared to 2007, Ministry of Finance during the first half of the year decreased the amount of treasury bill debt with a maturity of about one year with about lek 30 milliard and increased the long term maturity debt with about lek 46 milliard with maturity 2 to 5 years. Increase of budget deficit and its ways of financing has influenced the direction of financial flows in economy. The increased needs of government to borrow suppress the credit to private sector. During 2008, this phenomenon is relaxed due to increase of foreign resources of financing. Weak growth in 2009 and large borrowing to finance public investment pushed the debt ratio close to 60 percent in 2009. Social contributions were cut prior to the mid-2009 elections.

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Growth Determinants in the Crisis Period The potential determinant variables are grouped as proxies for “trade” and “financial” channels (Tsangarides, 2010). For trade channel, we use openness to foreign trade measure as percentage of export plus import to GDP. For the financial channel, we consider short term external debt to GDP, the current account to GDP, and foreign reserves in months of imports. The reserve accumulation is a variable which is used in model in order to determine if output losses were refraining by using foreign reserve accumulation. Table 2 Estimated Effect on Output Growth 2005-2007 Relative to 2008-2009 Variables Current account/GDP External debt/GDP Openness to foreign trade (Export + import)/GDP Credit to private sector/GDP Fiscal balance/GDP Foreign exchange rate reserves Investment/GDP Inflation Fixed effect Albania Croatia Macedonia Bosnia and Herzegovina Serbia Bulgaria Hungary Poland Romania Slovak Republic Slovenia R-squared SE of regression Durbin-Watson Mean dependent variable S. D dependent variable Sum of squared residuals

Coefficient 0.034** -0.001 0.004* **

0.023 0.020 0.041* 0.008 -0.024**

2000-2007 Probability 0.00 0.64

Coefficient -0.771** -0.155

2008-2009 Probability 0.00 0.13

0.02

0.862**

0.00

0.00 0.22 0.01 0.19 0.00

7.344 7.375 7.991 6.304 8.539 6.696 7.663 7.600 7.564 8.429 7.770 0.972 0.118 2.483 8.907 0.714 0.195

-0.462 -8.27* 0.224

*

0.02 0.04 0.124

6.726 31.301 15.423 17.349 11.282 30.420 35.226 26.587 11.366 22.839 45.555 0.936 1.3119 3.666 0.677 5.207 8.606

Notes. * and ** denote significance at 10% and 5% level respectively.

In the model, variables that measure macroeconomic stability of the country are incorporated, such as inflation rate. Related to inflation, the empirical literature has supported the negative relationship between inflation and growth (Bruno, 1996; Amber & Cardia, 2002; Bose, Haque, & Osborn, 2003). The negative relationship is supported even by theoretical perspective, because inflation undermines the confidence of domestic and foreign investors, and worsens long run macroeconomic performance of the country. In the model, a variable that measure the level of financial development, credit to private sector relative to GDP is also included.

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The level of financial development is found to be positively related to growth (Papaioannou, Portes, & Siourounis, 2006). In countries with underdeveloped financial system, remittances are found to be beneficial to economic growth (Quillin, Segni, & Sirtaine, 2007)

Result and Discussion On the basis of regression analyzes for ten transition economies, the main results can be summarized as follows. The empirical estimation, for time period of 2005-2007, before global financial crisis. (1) The impact of inflation, which is used to measure the impact of stable macroeconomic environment on growth performance, is negative and statistically significant. Low inflation environment has helped the countries under survey to gain positive economic growth. (2) Financial development measured by the ratio credit to private sector GDP has a positive and significant impact on growth performance in accordance with economic theory, which determines positive uncontestable relationship between these variables for countries with intermediate and high level of financial development, and for developing countries with borrowing difficulties uncertain positive relationship (Guiliano & Ruiz-Arranz, 2005) which have found private remittances to be substitute for financial development in these countries. (3) Investment GDP ratio has a positive but not statistically significant impact on growth. Investment depends primarily on the availability of domestic credit. Agrawal (2000) has found for South Asian countries that investment proportion of GDP has been low based on lesser availability of domestic credit and small inflows of investments. (4) The negative impact of debt on growth is confirmed in countries under survey. The relationship is not statistically significant. In developing countries, the level of domestic saving is not sufficient to fund the needed investment to ensure economic development, thus it is logical to use the external funds in order to increase capacity of country to grow. Ayadi (2008) has found a non-linear impact of debt stock on growth. External debt stock positively contributed to growth in early periods of loan acquisition. (5) Fiscal balance relative to GDP ratio has a positive but not significant impact on growth. Fiscal expansion boosts aggregate demand and leads to an economic expansion. Changes in spending and taxation can be used “counter-cyclically” to help smooth out some of volatility of real national output particularly when the economy is experiencing an external shock. Gray and Line (2007) have found that fiscal deficits matter for economic growth, especially fiscal adjustment that lower fiscal deficit are followed by stronger economic growth. (6) Openness to foreign trade has positive and significant impact on growth, even though the coefficient is relatively small. (7) In the last years, foreign reserves have increased rapidly, principally as a means of combating financial market turbulence. In this paper, we have found empirical evidence of positive and significant impact on growth of foreign exchange rate reserves. Positive impact of foreign reserves on investment and economic growth is found by Fukuda and Kon (2010) and Turner and Mohanty (2006) in a cross country panel data analyze. Growth During 2008-2009 There is a significant fiscal deterioration during 2008-2009, which was accompanied by substantial worsening of growth performance. This suggests that the growth slowdown affected revenues adversely, thereby

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worsening the fiscal positions of the countries. The fall in real GDP during these years is mostly explained by trade connectivity, decrease in the credit to GDP ratio, deterioration of current account position, high external debt and deterioration of fiscal balance. Foreign reserves have a positive impact on refrain output losses. The results are consistent with Claessen, Ariccia, Igan and Laeven (2010) and Lane and Milesi-Ferreti (2010).

Recover Profile for Albania Economy The growth recover is considered to have a V shape, as represented in the following Figure 1. 13 12.5 12 11.5 11 10.5 10

Figure 1. Growth recovery.

The domestic demand continued to be weighted down by weakened confidence on the bank sector, which brought to more selective credit expansion, considerable deterioration of fiscal conditions and substantial reduction of private remittances. A considerable decrease in output is felt in the first quarter of 2009, which is estimated about 13.3 percent relative to previous quarter. The growth is resumed only in the third quarter of 2009. Improved on export performance is observed in the first months of 2010. For 2010, some projections of GDP growth, which are expected to be about 3 percent, in accordance with IMF estimation are done. Fiscal policy influenced by domestic and foreign macroeconomic conditions, has helped the country during the currency crisis to maintain positive economic growth. After the crisis, fiscal deficit increased in high levels of about 7.4 percent in 2009, and public debt was close to 60 percent of GDP, with about 40 percent of debt with short term maturity, and high rollover risk. Based on these figures, there is no more room for countercyclical fiscal policy and budget deficit need to be adjusted. If we compare output gap in Albania relative to South East European counties (see Figure 2). For all the countries, future potential growth is increasingly pulled down by higher fiscal requirements. Despite Bosnia and Herzegovina and Macedonia that recorded a negative economic growth during 2009, other countries managed to maintain positive growth rate. Both these countries had a fixed exchange rate regime before the global crisis. Bosnia and Herzegovina applied currency board arrangements, and Macedonia fixed de facto peg with euro. Exchange rate regime didn’t change in the crisis period. Therefore, we can conclude that peg exchange rate regime performed worse than flexible exchange rate regime during the crisis in relation to growth performance. Tsangarises (2010), in analyzing the role of exchange rate regime in Emerging Market Economies during the crisis, has found that the growth performance for pegs was not different from that of floats during the crisis, but the recovery period of 2010-2011 for pegs appear to be worse. Furceri and Zdzienicka (2010) have found evidence

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that flexible exchange rates are an efficient tool to attenuate the effect of the crisis, because under a flexible exchange rate regime, monetary authorities dispose one additional policy instrument to deal with the crisis. 14 12 10 8 6 4 2 0 -2

2007

2008

2009

Albania Croacia Montenegro

2010

2011

Bosnia and Herzegovina Macedonia Serbia

Figure 2. Real GDP growth for regional countries.

Conclusions This paper analyzed the main forces that have driven economic growth in Albania relative to South East European countries before and during the global financial crises. The study has found that the pre-crisis level of development, current account deficit, trade openness, credit to private sector, and investment to GDP ratio are important factors for understanding the intensity of the crises. The impact of crises was not severe for Albanian economy because of a weak financial integration and relatively small trade openness. The foreign reserve holding and exchange rate flexibility during the crisis helped in mitigating the output losses. Since fiscal position deteriorated significantly during the crisis and the banking system is recovering slowly, the Albanian economy needs to broaden its sources of growth and strengthen the competitiveness. Public debt remains too high and needs to be reduced. Large public borrowing to finance investment project in infrastructure has increased debt-to-GDP ratio closed to 60 percent of GDP, this high debt ratio is making Albania vulnerable to adverse shocks. A tighter fiscal policy could serve to enhance rather damage the growth. Monetary policy should remain cautious, given heightened regional uncertainty.

References Agrawal, P. (2000). Saving, investment and growth in South Asia. Indira Gandhi Institute of Development Research. Amber, S., & Cardia, E. (2002). International transmission of the business cycle in a multi—Sector model. European Economic Review, 46. Ayadi, F. S., & Ayadi, F. O. (2008). The impact of external debt on economic growth: A comparative study of Nigeria and South Africa. Journal of Sustainable Development in Africa, 10(3). Bose, N., Haque, M. E., & Osborn, D. R. (2003). Public expenditure and economic growth. A disaggregated analyses for developing countries. Money, Macro and Finance Conference. University of Cambridge. Bruno, M. (1996). Crises and reform. What have we learned? World Bank Publication, Business and Economics.

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Claessens, S., Ariccia, G. D., Igan, D., & Laeven, L. (2010). Lessons and policy implications from the global financial crises. IMF Working paper serial No. 44. Fakuda, S., & Kon, Y. (2010). Macroeconomic impacts of foreign exchange reserve accumulation: Theory and international evidence. ADBI Institute Working paper serial No. 197. Furceri, D., & Zdzienicka, A. (2010). Banking crises and short and medium term output losses in developing countries: The role of structural and policy variables. MPRA paper No. 22077. Gray, C., & Lane, T. (2007). Fiscal policy and economic growth: Lessons for Eastern Europe and Central Asia. The International Bank for Reconstruction and Development and the World Bank. Guiliano, P., & Ruiz-Arraz, M. (2006). Remittances, financial development and growth. Discussion paper serial No. 2160. Kitamura, T. (2008). Impacts of the 2008 financial crises on transition economies. Journal of Asia-Pacific Studies, 13. Lane, P. R., & Milesi-Ferreti, G. M. (2010). The cross-country incidence of the global crisis. IMF Working paper serial No. 171. Mohanty, M. S., & Turner, P. (2006, September). Foreign exchange reserve accumulation in emerging markets: What is the domestic implication? BIS Quarterly Review. Papaioannou, E., Portes, R., & Siourounis, G. (2006). Optimal currency shares in international reserves: The impact of euro and the prospect of dollar. Journal of the Japanese and International Economics, 20(4). Quillin, B., Segni, C., Sirtaine, S., & Skamnlos, I. (2007). Remittances in the CIS countries. World Bank Publication. Shelburne, R. C. (2009). The global crises and the transition economies. United Nations Economic Commission for Europe. Tsangarides, C. (2010). Crises and recovery: Role of the exchange rate regime in emerging market countries. IMF Working paper serial No. 242.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 779-784

Tax Revenue and Government Spending Constraints: Empirical Evidence From Malaysia Loganathan, Nanthakumar University Malaysia Terengganu, Malaysia

Mori Kogid University Malaysia Sabah, Malaysia

Muhammad Najit Sukemi, Suriyani Muhamad University Malaysia Terengganu, Malaysia This study attempts to investigate response between government spending and tax revenue in Malaysia for entire period of 1970-2009. In order to identify the response between both variables, this study emphasizes auto-regressive distributed lag model (ADLM) and Toda-Yamamoto MWALD Granger causality analysis in order to identify the long-run response with causality effects. The finding of this study shows that, the government spending is directly cause by direct and indirect tax revenue; while the MWALD causality analysis indicates a unidirectional causality running from tax revenues to government spending in Malaysia. This supported with the speed of adjustment estimated through the ECM estimation, which indicates 28 percent of speed of adjustment in the short run to restore equilibrium level in the long run between government spending and total tax revenue. This empirical result clearly shows that, tax revenue is response directly to government spending constraints in Malaysia. In future, Malaysian government should reform taxation policies to ensure continuous tax revenue as a dominant factor cause on sustainable economic growth. Keywords: causality, government spending, tax revenue

Introduction Globalization and economic down term in past three decades has cause many changes in Malaysia budgetary system. In addition to that, a critical challenge facing by Malaysian government is to have stable macroeconomic atmosphere and sustainable budgetary system. It is believed that, excessive budget deficits have led the poor economic performance of developing and less developed countries (Taha & Loganathan, 2008; Woldde-Rufael, 2008; Wahid, 2008). In the case of Malaysia, knowledge of the relationship between revenue and expenditure is crucial because of their recorded budget deficit since 1997 Asian financial crisis. Thus, the relationship between tax revenue and government spending is essential in assessing the government’s role in the

Loganathan, Nanthakumar, Ph.D., Department of Economics, Universiti Malaysia Terengganu. Mori Kogid, M.Econ, School of Business and Economics, Universiti Malaysia Sabah. Muhammad Najit Sukemi, M.Econ, Department of Economics, Universiti Malaysia Terengganu. Suriyani Muhamad, Ph.D., Department of Economics, Universiti Malaysia Terengganu. Correspondence concerning this article should be addressed to Loganathan, Nanthakumar, Department of Economics, Faculty of Management and Economics, Universiti Malaysia Terengganu, 21030 Kuala Terengganu, Malaysia. E-mail: [email protected].

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allocation of resources. Recently, the relationship between tax revenue and government spending has been an important topic in public economies and has attracted several theoretical and empirical studies. Although on the theoretical front, there is no consensus regarding the causal relation between tax revenue and government spending between economists, this relationship can be summarized into four testable hypotheses. In this relationship, changes in spending are controlled by the adjusting tax revenue up and down. The second hypothesis is that, spend-tax or a unidirectional relation from government spending to tax revenue and in order to meet additional expenditure obligations decisions on expenditures are made, followed by the adjustment in tax revenue. While, in the third hypothesis, the fiscal synchronization or feedback relationship efforts to boost revenue or feedback relationship collections should be accompanied by reduction in spending in order to reduce deficits budget (Musgrave, 1966; Meltzer & Richard, 1981). Until today, there is an intense ongoing debate in the macro-economic literature as to whether or not this budget deficit is bad, and if so, it is also controversial as to how bad it is. Baghestani and McNown (1994) in contradicting fiscal synchronization have also argued that the relationship between tax revenue and government spending is a neutral analogy. Their hypothesis known as institutional separation suggests that tax revenue and spending are independent of each other. These theoretical hypotheses demonstrate on the variables used the models deliver different results and this has reflected the results from empirical studies. A tour of empirical survey has suggested that there are mixed results between tax revenue and government spending. For instance, Mithani and Khoon (1999) support the spend-tax hypothesis in the short run for Malaysia where higher spending led to an increase in tax collection. This study has incorporated the effect of seasonality in examining the causal relationship. Mithani and Khoon’s result was later supported by Karim, Mohd Asri, Antoni, and Mohd. Yusoff (2006) while examine the relationship for ASEAN-5. There is also evidence of fiscal synchronization between tax revenue and government spending in Malaysia (Aziz, Habibullah, Azman-Saini and Azali, 2000; Taha & Loganathan, 2008). For example, Taha and Loganathan’s (2008) findings provide evidence of long run relationship between tax revenues and government spending with unidirectional causality between both variables by using VAR modeling approach for Malaysia. This is consistent with Narayan (2005) while analyzing the relationship of Asian countries by employing bound testing approach. Narayan’s finding indicates neutrality between tax revenue and spending for Malaysia and six countries showing that there is no co-integration exists. Compare to Narayan’s findings, Abu Al-Foul and Baghestani (2004) have found out a unidirectional relationship between revenue and spending for Egypt and Jordan respectively. Furthermore, P. K. Narayan and S. Narayan (2006) once again studied a group of 12 developing countries by employing the Toda Yamamoto test for Granger causality and the results reveal that, tax-spend hypothesis for Mauritius, El Salvador, Haiti Chile and Venezuela. However, results also suggest that there is also evidence for spend-tax hypothesis for Haiti and also provides the evidence of neutrality for Peru, South Africa, Guatemala, Uruguay and Ecuador. Wahid (2008) also has investigates the nexus between tax revenue and government spending in Turkey to meet several social, political and military objectives, government spending often exceeds its tax revenue giving rise to budgetary deficit. To test this hypothesis, Wahid has used Turkish time series data by utilizing Granger causality procedure. The findings of this study reveal the hypothesis that increased in government spending caused tax revenue to rise the hypothesis that government expenditure caused by tax revenues increases. Saunoris and Payne (2010) have studied using asymmetries approach for United Kingdom’s revenue and expenditure nexus. Unlike previous studies, this study estimates an asymmetric error correction model approach within a momentum threshold of autoregressive framework, and the results indicate that

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government revenues respond to short run changes in government expenditures as well as asymmetrically to budgetary disequilibrium level. Kuismanen and Kamppi (2010) revealed that a fiscal policy do have an effect on the economic activity during the time period of 1990-2007 for Finland using vector stochastic process with dummy variables and structural vector auto-regression approach for comparison purposes. The results indicated that the government spending crowds out all the three private sector variables and it takes place sooner than with the revenue variable. Westerlund, Mahdavi and Firoozi (2010) have examined taxes-spending nexus for United States by applying panel of 50 state local government units between the entire period 1963-1997. Major findings of the study indicated that taxes are relatively exogenously set and expenditures will adjust to revert back to a long term equilibrium relationship. It is also true for the short term dynamics, and this is also consistent with the tax-spend hypothesis Due the problem to data quality and stability of estimated government budgetary system, many of early empirical studies revised symmetrical lagged approach, such as Engle-Granger estimation, Johansen Jusellius co-integration technique and vector error correction modeling. Given the mixed findings from various past studies around the globe, we encouraged to study the relationship between tax revenue and government spending in Malaysia using ADLM and MWALD causality approach. The outline of this study is as follows: In section 2 describes the data and the econometric methodology used. In section 3 we discussed the empirical results. In the final section, we provide some concluding remarks with some policy implications.

Data and Model Specification This study utilizes annual data for entire period of 1970-2009 and the data was driven from Malaysia’s Department of Statistics (DOS) and Economic Planning Unit (EPU). Prior to further empirical analysis, all variables used in study have been transformed into natural logarithm form. The time series data used in this study are government spending (GS) and dependent variable; and direct tax revenue (DT) and indirect tax revenue (IDT) as independent variables. The basic form of these variables can be illustrated as follows: GSt = f (DTt, IDTt) (1) It is important to determine the characteristics of the individual series before conducting the further econometric analysis. Many previous studies have shown that majority of macroeconomics variable time series are not stationary, rather stationary with a deterministic trend. This creates a problem for econometricians since in the conditions of non-stationary data. Therefore, to test the order of integrations, we used Augmented Dickey-Fuller test (ADF) and Phillip-Peron (PP) tests. It is widely acknowledged that ADF and PP tests are command stationary tests applied in macroeconomics studies recently. The regression equation for the ADF test can be written as follows: ∑ ∆ ∆ (2) The γ symbol denotes time trend and Y is the variable in estimation procedure, ε represents the distributed random error tem with zero value of mean and constant variance. In this study Aikaike Information Criteria (AIC) has been used to select the optimal lag length. PP statistic may be computed for the same function forms as been discussed earlier to overcome the weakness of the ADF stationary test: ∆ ∆ (3) Secondly, to identify the long run relationship between governments spending (GS) tax revenue (DT and IDT) an ADLM estimation technique has been employed through this study. As we know, the main advantage of ADLM approach is because of it flexibility, which can be applied when the variables are in different order on integration.

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ADLM estimation technique was developed by Pesaran and Shin and extended by Pesaran, Shin and Smith (2001) using bound testing. This bound testing approach has two main stages. In the first stage, we have to compute F-statistics to investigate long run relationship. The ADLM-ECM equations develop for this study are as follows: ∑ ∑ ∆ ∆ ∆ (4) ∑ ∑ ∆ ∆ ∆ (5) where GS is the measure of government spending; DT and IDT is direct and indirect tax revenue respectively; and α0 and δ0 is the drift component and ε is random error. ADLM-ECM approach will estimate the (p + 1)k numbers of regression in order to obtain optimal lag length for each variable of this study. The second step is to examine the existence of long run co-integration relationship among all variables. The null hypothesis for no co-integration between the variables in equations (4) and (5) is H0: π1 = π2 = 0 and H1: π1 ≠ π2 ≠ 0; and H0: φ1 = φ2 = 0 and H1: φ1 ≠ φ2 ≠ 0. The F-test is used for testing the existence of long run relationships. If the computed F-statistic is higher than the upper bound of Narayan’s critical value, the null hypothesis of no co-integration rejected and concluded that there is a long run relationship between GS, DT and IDT. In this study we employ Toda-Yamamoto causality procedure as the long run causality tests and this was conducted using VAR estimation and declare the lag order of MWALD as d + kmax.

Empirical Findings Table 1 summarizes the outcome of the ADF and PP tests for variables used in this study with and without trend. In the first half of Table 1, the null hypothesis that each variable has a unit root cannot be rejected either using ADF or PP tests. However, after applying first difference unit root test, both ADF and PP tests reject H0. Table 1 Result of Unit Root Tests Using ADF and PP Tests ADF test (τ )

GS DTR IDTR

I(0) -1.40(1) -1.84(0) -2.33(0)

p-value 0.57 0.35 0.17

GS DTR IDTR

-2.60(1) -1.81(6) -2.05(0)

0.28 0.23 0.56

With trend I(1) -4.54(0)* -4.96(0)* -5.75(0)* Without trend -4.62(0)* -5.23(0)* -6.26(0)*

I(d)

p-value 0.00 0.00 0.00

I(1) I(1) I(1)

0.00 0.00 0.00

I(1) I(1) I(1)

PP test (Zτ) With trend I(d) I(0) p-value I(1) p-value GS -1.92[0] 0.32 -4.50[2]* 0.00 I(1) DTR -1.80[2] 0.37 -4.97[1]* 0.00 I(1) IDTR -2.54[3] 0.11 -5.74[2]* 0.00 I(1) Without trend GS -2.45[0] 0.35 -4.58[2]* 0.00 I(1) DTR -2.01[2] 0.58 -5.23[1]* 0.00 I(1) IDTR -2.03[1] 0.57 -6.26[0]* 0.00 I(1) Notes. Figures in ( ) and [ ] indicate the lag length based on the AIC and Newey-West using Kernel Bandwidth value. Asterisks * denote significant level at 1 percent.

783

TAX REVENUE AND GOVERNMENT SPENDING CONSTRAINTS

Since the data appear to be stationary by applying the ADF and PP tests in first differences, no further tests are performed in this study. Therefore, we maintain the null hypothesis that each variable is integrated of order in the same order, which is in I(1). To identify long run co-integration between dependent and independent variable of this study we used ADLM bound test estimation techniques based on Narayan’s (2005) critical bound table. It seems that, DT and IDT have rejected H0 and this implies clear evidence of long run co-integration between GS, DT and IDT with significant level at 5 percent. Table 2 illustrates the bound test results for the existence of long run relationship. Table 2 Bound Tests for the Existence of Long-Run Relationship 1 percent

Computed F-statistic FGS(GS│DT)

4.69**

FGS(GS│IDT)

5.12**

I(0) 5.15

5 percent

I(1) 6.26

I(0) 3.53

I(1) 4.42

Note. Asterisks ** denote significant level at 5 percent.

While, Table 3 indicates the Toda-Yamamoto MWALD causality results using a simple matrix form. The optimal lag estimated through VAR estimation technique is equal to 1 and this value is according to minimum value base AIC. When conduct MWALD causality analysis, the lag order used is based on lag order (d + kmax). Through this study lag order is equal to 2 because all variable are stationary at I(1) and the kmax equal to 1. MWALD causality test shows a unidirectional result between GS, DT and IDT with short run relationship. The ECTt-1 coefficient value also indicates the right sign with significant level of 5 percent. This ECT coefficient is equal to 28 percent and this indicates 28 percent of adjustment to restore equilibrium condition in the long run. Table 3 Summary of Long-Run Causality Results Based on Toda-Yamamoto Approach Lag order (d + kmax) Δ GS

Δ DT

Δ IDT **

ΔGS

2

5.35 [0.03]

ΔDT

2

0.13 [0.72]

ΔIDT

2

0.01 [0.94]

ECTt-1 *

11.01 [0.00] 2.14 [0.25]

0.05 [0.82] *

Notes. Figures in ( ) and [ ] indicate t-statistics and p-values. Asterisks and

-0.28 (-2.09)** 0.38 (2.29) 0.19 (0.80)

**

denote significant level at 1 percent and 5 percent.

Conclusions The main objective of this study is to determine the response between government spending and tax revenue for Malaysia using ADLM bound testing approach. The empirical analysis reveals interesting results, where both DT and IDT have unidirectional causal relationship with GS. If this result and trend continued for sub-consequent period, then it may be concluded that Malaysia’s economic performance and growth are based on tax revenues. Therefore, the Malaysian government should pay more attention on tax revenue and emphasis new rules and regulation to increase tax revenue or reform taxation policies in future.

References Abu Al-Foul, B., & Baghestani, H. (2004). The causal relation between government revenue and spending: Evidence from Egypt and Jordan. Journal of Economics and Finance, 28, 260-269.

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TAX REVENUE AND GOVERNMENT SPENDING CONSTRAINTS

Aziz, M. A., Habibullah, M. S., Azman-Saini, W. N. W., & Azali, M. (2000). Testing for causality between taxation and government spending: An application of Toda-Yamamoto approach. Pertanika Journal of Social Science and Humanities, 8, 45-50. Baghestani, H., & McNown, R. (1994). Do revenues respond to budgetary disequilibria? Southern Economic Journal, 61, 311-322. Karim, Z. A., Mohd Asri, N., Antoni, A., & Mohd. Yusoff, Z. (2006). The relationship between federal government revenue and spending: Empirical evidence from Asean-5 countries. Journal Ekonomi Pembangunan, 11, 91-113. Kuismanen, M., & Kamppi, V. (2010). The effects of fiscal policy on economic activity in Finland. Economic Modeling, 27, 1315-1323. Meltzer, A. H., & Richard, S. F. (1981). A rational theory of the size of government. Journal of Political Economy, 89, 914-927. Mithani, D. M., & Khoon, G. S. (1999). Causality between government expenditures and revenue in Malaysia. ASEAN Economic Bulletin, 16, 68-79. Musgrave, R. (1996). Principles of Budget Determination. In H. Cameran, & W. Henderson (Eds.), Public finance: Selected readings (pp. 15-27). New York: Random House. Narayan, P. K. (2005). The government revenue and government expenditure nexus: Empirical evidence from nine Asian countries. Journal of Asian Economic, 15, 1203-1216. Narayan, P. K., & Narayan, S. (2006). Government revenue and government expenditure nexus: Evidence from developing countries. Applied Economics, 38, 285-291. Pesaran, M. H., Shin, Y., & Smith, R. J. (2001). Bound testing approaches to the analysis of level relationship. Journal of Applied Econometrics, 16(3), 289-326. Saunoris J. W., & Payne, J. E. (2010). Tax more or spend less? Asymmetries in the UK revenue-expenditure nexus. Journal of Policy Modeling, 32, 478-487. Taha, R., & Loganathan, N. (2008). Causality between tax revenue and government spending in Malaysia. International Journal of Business and Finance Research, 2, 63-73. Wahid, A. N. M. (2008). An empirical investigation on the nexus between tax revenue and government spending: The case of Turkey. International Research Journal of Finance and Economics, 16, 46-51. Westerlund, J., Mahdavi, S., & Firoozi, F. (2010). The tax-spending nexus: Evidence from a panel of US state-local governments. Economic Modeling, 28(3), 885-890. Wolde-Rufael, Y. (2008). The revenue-expenditure nexus: The experience of 13 African countries. African Development Review, 20, 273-283.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 785-792

The Management of the Agriculture of Russia While Maintaining Food Security in the Globalization Soldatova Irina, Ovchinnikov Viktor, Chernishev Michail South Federal University, Rostov on Don, Russia

Kuznesov Nicolay Rostov State University of Economics, Rostov on Don, Russia

The main theme of this report is the food safety of Russia. This condition of the state economy, when food independence of the country is provided, provision, economic utility of food products are guaranteed by the state and corresponds to requirements of the legislation of the Russian Federation in safety and quality. Food safety of Russia is considered if, in case of the receipt termination in the country of foodstuff from abroad, there is no food crisis. In Russia, it should be made: Potato—95%; Grain, milk and milk food—90%; Salt food—85%; Meat and meat products—85%; Fish and fish products, sugar, vegetable oil—80%. Keywords: agriculture and food, food safety, food independence, regional aspect of food safety, guarantee of food safety with risk

Food Safety in the Russia The food security of Russia was formalized in January 2010 when president Medvedev signed the “Food Security Doctrine”, which aims to see the country reach 85% self-sufficiency in meat and poultry by 2020. Business Monitor International (London, Great Britain) forecast self-sufficiency in poultry to be reached in 2013. Russia is using the tools to achieve such goals include slashes in import quotas. This year, US pork quotas were cut 43% from 100,000 to 57,000 tonnes. We expect demand will suffer as prices rise and forecast a decline in pork consumption for 2010. And Putin (2010) says: We have taken a major decision in the interests of domestic producers—in 2011 we’ll cut poultry imports to Russia practically in half. This was not an easy decision but we’ve taken it with a view to reducing imports in general and strengthening domestic agriculture.

Less favourable weather means grain harvests for 2009/2010 expected to fall across the board following bumper 2008/2009 season. Wheat to fall 4.0% year-on-year to 61.1 mn tonnes, corn to plummet 33% to 4.44 mn

Soldatova Irina, Ph.D., Professor, Economic Faculty, South Federal University. Ovchinnikov Viktor, Ph.D., Professor, Economic Faculty, South Federal University. Chernishev Michail, Ph.D., Professor, Economic Faculty, South Federal University. Kuznesov Nicolay, Ph.D., Professor, Economic Faculty, Rostov State University of Economics. Correspondence concerning this article should be addressed to Soldatova Irina, Economic Faculty, South Federal University, Russia, 344006, Rostov-on-Don, Kirovsky 44, fl. 90. E-mail: [email protected].

786

THE MANAGEMENT OF THE AGRICULTURE OF RUSSIA

tonnes, barley to drop 26% to 17.1 mn tonnes. Milk consumption forecast for 2010 revised upwards with improving Russian economy, which we now expect to grow 4.0% over the year. A slight year-on-year gain in milk consumption is expected, with the figure remaining around 12.1 mn tonnes. Balance of trade in goods expected to rise from US $ 303.3 bn in 2009 to a forecast US $ 364.0 bn in 2010. Russia is aiming at the expansion of wheat exports to Asia. With quality perception a challenge, Business Monitor International believes that it is likely to focus initially on more price sensitive South East Asian markets such as Indonesia, Vietnam and Malaysia. Russia plans to ship 1 mn tonnes of wheat to the region in 2010. Labelling laws requiring milk made with milk powder to be called “milk drink” are causing trouble for milk processors. Market leader Wimm Bill Dann saw its profits drop to one-third of 2008 levels in 2009. The US-Russian trade dispute over poultry exports may soon be at an end. US producers are expected to stop using the chlorine washes which caused the ban, with exports expected to resume thereafter. Yet, while US producers remain outlawed, their Russian counterparts should continue to benefit. The length of time it takes for exports to resume poses a risk to our production forecasts.

Russia Agriculture SWOT Analysis According to Russia Agribusiness Report (2010), Russia Agriculture SWOT analysis is as follows. Strengths y With 10% of the world’s arable land, about 35 mn hectares of which reportedly lie fallow, Russia has enormous potential for expanding agricultural production; y Russia’s population of around 140 mn people provides a vast market for agricultural products. Weaknesses y Decades of collective and state farming with little incentive to maximize production have left Russian agriculture with poor yields by international standards; y Creaking Soviet-era infrastructure increases costs and makes expansion into new areas difficult; y Many farmers lack the skills to run a profitable business without government aid. Opportunities y Poor yields leave much room for increasing production through better farming practices; y Large and efficient corporate farms are beginning to emerge with much opportunity for further expansion; y Rising disposable incomes in the long term will allow Russians to spend more on food; y Agricultural expansion could substantially benefit from Putin’s latest land reform legislation which means that for the first time since 1917 Russia will permit the trading of national farmlands. This could go a long way towards attracting the types of investment that can help Russia fulfill its vision of being a major agricultural player; y Foreign investment is playing an increasingly important role in the development of the agri-food industry. Threats y The rural population is declining rapidly with many young people heading for the cities; y Much of the country suffered from environmental degradation in Soviet times, which, if not dealt with, could threaten agricultural production in the future;

THE MANAGEMENT OF THE AGRICULTURE OF RUSSIA

787

y The government has been threatening to reassert its former role of directing agriculture and has signed into being the United Grain Company, although the full implications of this development are as yet unclear; y The global recession has taken its toll. The economy is estimated to have shrunk by 8.1% in 2009, the outlook for household consumption is weak and unemployment spiralled to an eight-year high in March 2009. The economy will be improved in 2010 but consumer spending is likely to remain subdued for the short term; investment slow down and the government’s plans to expand the sector could also be affected. In 2010, there was the strongest drought and fires in agriculture. In this connection, D. Medvedev has forbidden export. Food safety became threat of food independence in Russia. And Putin (2010) says: We know that grain prices are up both in Russia and the rest of the world. We see that the market is on pins and needles. Whoever is waiting for December 21 or 31 is wrong because whether we lift the export ban depends solely on this year’s harvest. The problem is compounded by the fact that Russia’s leading farming regions cannot sow winter cereal crops because of the weather, so a major part of the country will begin the new year without winter crops. So it appears that the export ban will not be lifted soon, even though it is, of course, a temporary measure. We are in an emergency and it is our duty to think, first of all, about our own citizens, including farmers.

Food independence is the ability of agrarian sector of the country to provide manufacturing, storage, processing and delivery to the population foodstuffs principal views, in quantity and the assortment necessary for an active healthy life. Food safety is not provided if manufacture of a foodstuff makes less than 75%-80%, according to physiological norms.

Russia Political SWOT According to BMI (2010) and Russia Agribusiness Report (2011), Russia political SWOT analysis is as follows. Strengths y The Russian government maintains a strong parliamentary majority and overwhelming public support. Weaknesses y A lack of transparency in decision-making, including high levels of behind the scenes activity by various power groups, makes for a large element of unpredictability in domestic politics over the long run; y The high degree of political authority in the executive poses a risk to further institutional development in the legislative and judicial sectors. Opportunities y President Dmitry Medvedev has expressed a more compromising tone on foreign policy matters and has suggested a new emphasis on the development of civil society; y Tight energy markets increase Russia’s foreign policy options, especially as regards consumer states. Threats y Russia’s moves to increase its regional dominance in the energy sector risk a further deterioration in relations with the western-leaning countries of the “Near Abroad”; y Persistent frozen conflicts with separatist regions in Georgia and Moldova threaten to undermine Russia’s foreign relations with key trading partners.

788

THE MAN NAGEMENT T OF THE AG GRICULTUR RE OF RUSS SIA Underr the forecast of the international organnisations the world w situatioon on food safety the next decade will

become aggravated. In the t developedd states existss two basic ap pproaches in food safety: (1) Thhe first—a priiority in suppport of the nattional agriculltural manufaacturer (counttry EC); (2) Thhe second—equal support of agricultural manufactu urers and conssumers of foood (USA). It is offered to use support of manufacturers m and foodstufffs consumerss in Russia. All sliides, schemess, tables are taken from offficial sourcess of the Minisstry of Agricuulture and thee foodstuffs. The budget b of agriicultural mannufacturers inn Russia (see Figure 1) is less than thaat in the USA A—with 2.7 times, and in countriess EC—with 5.4 5 times. Naatural environ nmental condditions in Ruussia for man nufacture of agriculturaal production are much moore difficult. 70 60 50 40

68

30 32

20

16

10

6

5

0 Norway

EC

USA

Russia

Australia

F Figure 1. Level of support of agricultural a mannufacturers (In recalculation onn 1 rouble of m made production n).

Problems of foodd safety becoome more im mportant in world w trade reegulation. Thhe Russian economists, e name “food safety”, “ffood independence”, becaause of essen ntial economic dependence of Russia in i import of food and raaw materialss. Growtth of manufaacture of agriccultural prodduction in Russsia was accoompanied by growth of im mport of the foodstuffs. The import volume v has reached r 35.2 bln. b dollars, and a the negattive balance oof export and d import has made 25.8 bln. dollars (see ( Figure 2)). Import grow wth goes mucch faster thann export grow wth. 40

35.2

35

277.6

30 17.4

20 15 10

1.3

100.4

9.2

7.4

5 0

25.8

21.6

25

5.8

2000 г.

7.3

1.9

2001 г.

12.0

2.8 20 002 г. Exp port

12.9

10.6

8.6

7.6

13.9

3.4 20033 г. Im mport

3.3 2004 г.

16.1

4.5

5.5

2005 г.

2006 г.

1 18.5

9.4

9.1

2 2007 г.

20088 г.

E Excess of import over export

Figure 2.. Export and im mport of agriculttural production n and the foodsstuffs, bln. dollaars of the USA.

789

THE MANAGEMENT OF THE AGRICULTURE OF RUSSIA

Volumes of import of meat fresh and frozen, dairy products (see Table 1) have considerably increased. The basic increase in value of import has occurred at the expense of increase of average contract prices practically on all articles of food. In 13 times contract prices of meat fresh and frozen, and also fowl have increased. Table 1 Import of Principal Views of Articles of Food and Agricultural Raw Materials to the Russian Federation, Thousand Ton Kinds of the agricultural production and the foodstuffs

2006

2007

2008

2008 year in percent of 2007 (%) 127.3

Articles of food and agricultural raw materials (except textile). bln. dollars of the USA Meat fresh and frozen (meatless birds)

21.6

27.6

35.2

1,411.4

1,489.4

1,710.8

Fowl fresh and frozen

1,282.5

1,294.9

1,223.8

94.5

Fish fresh and frozen

686.1

870.2

881.1

101.2

Milk and cream condensed

145.3

130.6

160.2

122.6

Oil creamy and other dairy fats

165.0

123.5

140.0

113.5

Oil sunflower Sugar-raw

114.9

100.0

131.9

111.9

84.8

2,629.4

3,410.4

2,417.6

70.9

Sugar-white

349.7

296.1

165.1

55.8

Citron fruits

1,187.4

1,260.2

1,288.4

102.2

That is, high import dependence of the country by separate kinds of agricultural production and the foodstuffs remains. At the expense of import 36% of commodity resources today are formed. Sharply, there is a problem of dependence on import in the market of cattle-breeding production. The share of import in commodity resources of meat is estimated in 41%, milk in 27%. Import of pork from the beginning of 2009 has grown on 29%, and dried milk almost in 2 times. Growth of internal manufacture of meat not to the full covered increase of consumer demand of the population was reflected in increase in volumes of its import (see Figure 3). 2.9

2.8

2.7 1.3

1.2

1.3

1.2

0.7

2000 г.

2006 г. Meat of all kinds

2007 г.

2008 г.

Meat of fowl

Figure 3. Meat import of everything, including fowl (million ton).

Relative density of import in formation of the general resources of meat and meat products (in recalculation on meat) has made in 2007, 33.2%, in 2008, 32% at a target indicator of 34%. Import of meat fresh and frozen has developed at 1,711 thousand level tons that on 14.9% more than in 2007, including: beef, 871.6 thousand tons (10.2%), pork, 822.1 thousand tons (19.6%). Fowl import has decreased on 5.5% to 1,223.8 thousand tons.

790

THE MANAGEMENT OF THE AGRICULTURE OF RUSSIA In 2008, dried milk import has increased 21.3%, oils creamy 8.1%, cheeses and cottage cheese, on 5.8%. In

recalculation on milk it has been delivered dairy production of 7,315.3 thousand tons. The share of import dairy production in its general resources has made 17.6% against 17.3% in 2007. All increase dependence of the food market and seriously infringes upon interests of the Russian agriculture. The governmental policy in sphere of a guarantee of products of food should include necessarily risks and agricultural production threats. It includes, for example, such factors as deficiency of competent staff, price disproportion, modern systems of supervision on the state of the market of manufacture etc.. To come nearer to level of the developed countries, it is necessary to solve simultaneously some the interconnected and capital-intensive problems: (1) Technological modernization of agriculture and the food-processing industry, sphere of industrial service of agrarian and industrial complex; (2) Formations of personnel potential of the branch, capable to master an innovation; (3) Work on manufacture restoration on the thrown agricultural grounds; (4) Creation a modern social infrastructure of rural territories (habitation, roads, etc.). The guarantee of safety of foodstuff is connected with overcoming of following negative factors: (1) Substantial growth of threshold value of criteria of a saturation of home market by import production, for example, meat; (2) Low level of payment ability of the population for a foodstuff; (3) Not stability of system of the financial credit; (4) Insufficient level of development of an infrastructure of home market; (5) Moral and physical ageing of a material condition agroindustrial and a fishery complex; (6) Insufficient level of an innovation and investment actions; (7) Reduction of national genetic resources; (8) Probable expansion of production of biological fuel from agricultural production and raw materials; (9) Shortage of competent staff.

Conclusion The problem of food safety dares in the world, in the country and regional aspect. In Rome, on November 16, 2009, in the Declaration of the World summit on food safety, five principles of the Akvilsky initiative on food safety are confirmed: y Investment in realization of national plans on food safety; y Strategic coordination of actions at global level, country level, regional aspect; y The universal approach to maintenance of food safety, that is a combination of urgent measures of the help to long-term efforts on agricultural production development; y Increase of a role and efficiency of institutes; y Maintenance of steady investment in agriculture and food safety. The Ministry of Agriculture and the foodstuffs of Russia have developed the doctrine of food safety. In the doctrine, the conventional recommendations of FAO about a share of import and stocks of food resources

791

THE MANAGEMENT OF THE AGRICULTURE OF RUSSIA are considered.

Doctrine’s main objective is self-maintenance of the country with qualitative agricultural production, raw materials and the foodstuffs at level not less than 80%-90% from requirement. At the summit, the concrete contribution of Russia to strengthening of global food safety at the expense of stable growth of manufacture of grain and the accruing volume of its export has been noted. For today Russia is included into a three of the largest world suppliers of wheat. The next 10-15 years in Russia, it is planned to finish manufacture of grain to 120-125 million tons a year that will allow providing stable export at level of 30-40 million tons. Within the limits of the doctrine of food safety reduction of import of meat to 18% by 2012, which is almost twice in comparison with 2008 is predicted. Internal manufacture of meat should grow on 25% or on one and a half million tons, milk, to 33 million tons, import on milk will be reduced by 2012 to 16.6%. As a result of realization of a series of measures on agriculture development, by 2012 in separate directions the stage import replacement (fowl, pork, grain, a potato, vegetable oil) and saturation of home market by domestic production is finished. Export of agricultural production, raw materials and the foodstuffs has made 9.39 bln. dollars of the USA and has grown in comparison with 2007 on 0.32 bln. dollars of the USA, or on 3.3% (see Figure 4).

1.6

1.9

2000г.

2001г.

3.4

3.3

2003г.

2004г.

2.8

2002г.

4.5

2005г.

9.07

9.39

2007г.

2008г.

5.5

2006г.

Figure 4. Export of agricultural production and the foodstuffs (bln. dollars of the USA).

Regional, dominating features of support in agrarian sector become one of the important forms of management of a state policy of agriculture. Efficiency of a regional policy proves to be: y In flexibility; y High possibilities in management; y In use of budgetary funds. The leading part at the decision of a problem of food safety should be taken away to a regional government. The project of the Rostov region should be spent in following directions: y Safety of area in the foodstuffs, in quantitative and qualitative aspect; y Quality check of foodstuff of the population; y Economic suitability of the foodstuffs. In the world, the country and in region management of agriculture with a view of advancement to food safety, should be co-ordinated necessarily with food independence.

792

THE MANAGEMENT OF THE AGRICULTURE OF RUSSIA

References Dankvert, C. (2010, June 1). Federal service for veterinary and phytosanitary surveillance. Retrieved from http://www.fsvps.ru/fsvps/news/2268.html Krftherina Sierra, Vice President, Sustainable Development the World Bank. (2010, June 18). Russian agriculture post crisis. St. Petersburg International Economic Forum. Putin, V. (2010, August 9). Meeting of the Government Presidium. Putin, V. (2010, November 29). Conference on the Financial Support For The Agricultural Sector. Russia Agribusiness Report. (2010, Q1). Including 5-year industry forecasts by BMI part of BMI’s industry report & forecasts series. London: Business Monitor International. Russia Agribusiness Report. (2010, Q3). Including 5-year industry forecasts by BMI part of BMI’s industry report & forecasts series. London: Business Monitor International. Russia Agribusiness Report. (2010, Q4). Including 5-year industry forecasts by BMI part of BMI’s industry report & forecasts series. London: Business Monitor International. Skrynnik, E. (2009). The National report on a course and results of realization in 2008 of a government program of development of agriculture and regulation of the markets of agricultural production, raw materials and the foodstuffs on 2008-2012. Moscow. Skrynnik, E. (2010). Performance at panel session on agrarian questions at the Petersburg international economic forum, 6/18St. Petersburg. Skrynnik, E. (2010, November 16). About the total declaration of the world summit on food safety, Rome. The Decree of the President of the Russian Federation. (2010, January 30). About the statement of the Doctrine of food safety of the Russian Federation. The Order of the Government of the Russian Federation. (2010, March 17). The plan of measures on realization of positions of the Doctrine of food safety of the Russian Federation. Appendix: Performance of the Basic Indicators Characterizing Realization Government Program in 2008 Basic indicators 1. An index of production of agriculture in economy of all categories (in the comparable prices) (%). 2. An index of production of animal industries in economy of all categories (in the comparable prices) (%). 3. An index of production of plant growing in economy of all categories (in the comparable prices) (%). 4. An index of physical volume of investments into a fixed capital of agriculture (%). 5. Had resources of house economy in a countryside (on a member of an economy in a month). rbl. 6. A share of the Russian manufacture in formation of resources (%).

Plan 103.8

Fact 110.8

104.8

103.4

-1.4

102.9

117.6

14.7

115.0

97.5

-17.5

7,085.0

7,752.1

109.4

Meat and meat products (in recalculation on meat)

61.1

60.8

-0.3

Milk and milk food (in recalculation on milk)

78.3

77.8

-0.5

5.2

5.4

7.4

8.9

7. Factor of updating of principal views of agricultural machinery in the agricultural organizations (%). Tractors Combines grain-harvesting Combines 8. Power security of the agricultural organizations on 100 hectares of an area under crops. h.p. A labour productivity index in economy of all categories (%). Note. * According to the Ministry of Agriculture of Russia.

11.8

11.9

134.0

145.3*

104.8

113.0

Feasibility (%) 7.0

108.5 8.2

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 793-801

Brand Loyalty Analysis Using Multinomial Logit Model Sadegh Bafandeh Imandoust Payame Noor University of Mashhad, Mashhad, Iran

Mohammad Reza Pasandideh Honameh Islamic Azad University, Neyshabour Branch, Neyshabour, Iran

Seyed Mohammad Fahimifard Islamic Azad University, Shirvan Branch, Shirvan, Iran

Considering the fierce competition, brand loyalty as core dimension of brand equity, is essential for any company that plans to maintain long term competitive advantages. The importance of brand loyalty has been widely adopted in many countries but yet insufficiently understood by Iranian companies. Therefore, we tried to analyze the factors which affect the brand loyalty in Iran using Multinomial Logit Model. As an empirical investigation, we selected 642 costumers of Pegah brand of dairy products by clustered, random-sampling technique. Results showed that 16.64% of respondents are switcher (with on brand loyalty), 10.90% are habitual (with no reason to change), 36.44% are satisfied (with switching costs), 24.68% likes the brand, and 11.33% are committed to the brand. Also the results of estimation of Multinomial Logit Model indicated that among the Kapferer’s brand identity factors, the physique variable has the most effect on Pegah brand loyalty. Keywords: brand loyalty, Kapferer’s brand identity prism, Multinomial Logit Model

Introduction Globalization, new technologies, intense competition, consumer demand shifts and economic and political system changes challenge enterprises in new ways. Companies, striving to achieve better results in the market, in comparison with their competitors’ need to acquire and retain particular uniqueness that can not be imitated and would provide a competitive advantage. Available brands of the enterprise are one of resources that can hardly be imitated (Janonis, Dovalienė, & Virvilaitė, 2007). According to Kapferer (2003), in legal terms, brand is purely an attribute, the purpose of which is to determine a company’s product, certify its origin and differentiate it from the competition (Kapferer, 2003). A brand itself does not ensure any competitive advantage of the enterprise in the market. Good results are achieved just by those companies which are capable of managing their brand, reflecting its identity, and determining its elements, uniqueness and equity (Janonis et al., 2007). Sadegh Bafandeh Imandoust, Ph.D., Department of Economics, Payame Noor University of Mashhad. Mohammad Reza Pasandideh Honameh, M.Sc., Student of Marketing Mangement, Islamic Azad University, Neyshabur Branch. Seyed Mohammad Fahimifard, Department of Agriculture, Islamic Azad University, Shirvan Branch. Correspondence concerning this article should be addressed to Seyed Mohammad Fahimifard, Department of Agriculture, Shirvan Branch, Islamic Azad University, Shirvan, Iran. E-mail: [email protected].

794

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL The concept of brand loyalty has had a long and inconsequent history. The very first mention of the idea was

attributed to Copeland (1923) and, since then, over 200 definitions have appeared in the literature (Jacoby & Chestnut, 1978). This plethora of definitions provides a clue as to how important this concept is in marketing theory. On the other hand, representing one of the most important factors believed to explain consumer brand choices, it is not surprise that the concept of brand loyalty has aroused an enormous interest among academics as well as practitioners within the field of marketing and consumer behavior (Jensen & Hansen, 2006). Brand loyalty leads to brand equity, which leads to business profitability. Brand loyalty makes a critically valuable contribution to competitive advantage. High brand loyalty is an asset that lends itself to extension, high market share, high return on investment and ultimately high brand equity (Gounaris & Stathakopulos, 2004). Obviously such findings encourage marketers to build and maintain brand loyalty among customers. When striving for such goals, information on factors determining the creation of brand loyalty among customers becomes an important matter (Jensen & Hansen, 2006). According to the role and importance of brand loyalty as fundamental parameter for establishing marketing strategies several studies have been carried out such as: Bloemer and Kasper (1995), proved that brand loyalty implies a deep-seated commitment to brands, and there is a sharp distinction between repeat purchases and actual brand loyalty. In their published research, they assert that a repeat purchase behavior is the actual re-buying of a brand whereas loyalty includes antecedents or a reason or fact occurring before the behavior. Davis (2002) asserts that brand loyalty can only be achieved through a strong brand positioning which means creating and managing a unique, credible, sustainable, and valued place in the customer’s minds, revolving around a benefit that helps the brand stand apart from its competition. Lau, Chang, Moon, and Liu (2006) studied the brand loyalty of sportswear in Hong Kong using a sample including 280 university students, aged from 18 to 24 years old. Their study concludes that brand name, style, and promotion are the key brand factors which can distinguish hard-core loyal consumers and brand switchers. Also, brand name and style have had more influence on the brand loyalty of hard-core loyal consumers, while promotion influences more on that of brand switchers. In addition, product quality has perceived by both groups as the most important factor affecting their brand loyalty. Turner (2009) studied the artist brands and music branding. He states that, it is obvious for artists to be considered as brands, because an artist is essentially a creator of experiences. Branding is, therefore, a way to profit from the experience associated to an artist, and a way for a fan to create a connection with the artist. Further, Turner suggests that coordinated branding helps the fans understand and engage with an artist. Gilbreath (2010) has come up with a model called “Marketing with Meaning”. Although the model offers a new approach to the whole scope of marketing instead of branding only, it feels very relevant. In his theory, Gilbreath states that most consumers now can fulfill their basic needs and therefore seek higher meaning; content, value, connection, causes and the feeling of being connected to the brand. Moisescu and Allen (2010), aimed at empirically investigating, among urban Romanian consumers, the relationship between some of the major dimensions of brand loyalty. Measurement was conducted through five indicators: brand satisfaction, brand repurchase intention in similar buying contexts, brand recommend intention, brand repurchase intention in case of price increase (price elasticity of loyalty), and respectively, repurchase intention in case of distribution decrease (distribution elasticity of loyalty). The results proved positive correlations among loyalty dimensions and allowed us to propose a general model for the relationship between these dimensions.

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL

795

The lack of brand loyalty studying in Iran and its insufficient understood by Iranian companies, has motivated us to drive this research. Therefore in this study, we tried to analyze the brand loyalty in Iran using an empirical investigation on costumers of Pegah brand of dairy products.

Methodology Kapferer’s Brand Identity Theory According to Aaker (1996), brand equity is a set of brand assets and liabilities linked to a brand, its name and symbol that add to or subtract from the value provided by a product or service to a firm/or to that firm’s customers. The assets and liabilities on which brand equity is based on can be grouped into brand loyalty, brand awareness, perceived quality, brand associations, and other proprietary brand assets. Among all, brand loyalty is the most important dimension and the core of a brand’s equity (Aaker, 1996). Kapferer (2003) relate brand equity to the concept of brand identity as a set of complex dimensions. As his tool for defining brand identity, Kapferer (2003) introduces the brand identity prism. The idea of the six-faceted prism is to demonstrate six sides of brand identity, which according to Kapferer are physique, personality, culture, relationship, reflection and self-image. The composition of band identity is characterized by the prism of identity (see Figure 1) (Kapferer, 2003).

Figure 1. The brand identity prism (Kapferer, 2003).

The six sides are organized along a hexagon. The hexagon’s top part refers to those aspects of the brand which constitute the picture of the sender: physique and personality. The bottom part refers to those brand aspects representing the picture of the recipient: reflection and physique. The left half of the hexagon deals with externalization of the brand’s identity (reflection, relationship and physique), while the right half deals with internalization of the brand (self-image, culture and personality). Each of six sides of brand identity prism has been described as below (Kapferer, 2003): y Physique: Brand contains an external specificity that is physical appearance. Physical appearance is closely connected with a brand prototype, revealing the quality of a brand; y Personality: The trait of personality within the prism of identity is inner source. Brand personality is described and measured using those features of consumer personality that are directly related to brands; y Culture: Brand is culture. Brands possess that culture in which they originated. Brand is a representative of its culture, including communication;

796

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL

y Relationship: Brand includes relationship as brands frequently take the most important place in the process of human transactions and exchange. Brand is a voice that consumers should hear because brands survive in the market because of communication; y Reflection: Brand is a customer reflection. Consumers can easily define what goods of a particular brand are produced for a particular type of consumers. A consumer has to be reflected in a way, which would show how he or she could image themselves consuming a particular good; y Self-image: Brand is closely related to the understanding of consumer self-image that is the features with which consumers identify themselves and the very same features they would like to be reflected by the chosen good and its brand. This is the understanding of an individual about his ability, semblance and characteristics on personality. Summing on the prism of brand identity it can be noted that it is the unit of brand identity as a live system of elements, possessing internal and external sides and determining possible limits for brand development and variation (Janonis et al., 2007) Brand Loyalty Levels Jacoby (1971) defines brand loyalty as repeat purchase, but clearly points out that this behavior is a function of psychological processes. In other words, repeat purchase is not just an arbitrary response but the result of some proceeding factors, for example, psychological, emotional or situational factors. Aaker (1996) sees five levels of brand loyalty and split customers accordingly into a “loyalty pyramid”, comprising five types of buyers, each type being positioned on a corresponding level of the pyramid as in Figure 2 (Aaker, 1996):

Committed to the brand Likes the brand Satisfied—with switching costs Habitual—with no reason to change Switcher—price sensitive-indifferent-with no brand loyalty Figure 2. The loyalty pyramid (Aaker, 1996).

The first level of the loyalty pyramid represents non-loyal buyers who are completely indifferent to brands, each brand being perceived to be adequate if the price is accepted. The second level includes satisfied or at least not dissatisfied buyers with no dimension of dissatisfaction sufficient enough to stimulate a change, but vulnerable to competitors that can create a perceived benefit in the case of switching. The third level consists of satisfied customers with switching costs (loss of time, money, or acquired loyalty advantages, performance risks associated with switching incentives from competitors must compensate the switching costs). The fourth level contains customers who truly like the brand and have an emotional attachment to the brand, based upon

797

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL

associations such as a symbol, a set of use experience, or a high perceived quality. The emotional attachment’s reason is sometimes just the fact that there has already been a long term relationship. The fifth level represents committed customers, proud to have discovered and used the brand, and to whom the brand is very important both functionally and as an expression of their personality. The value of this category of customers stays in the impact they have upon others through their recommendations. Multinomial Logit Model There are many settings in which the outcome we seek to model is a discrete choice among a set of alternatives, rather than a continuous measure of some activity. In this paper, we will examine a case of what have come to be known as qualitative response (QR) model. There are numerous different types that apply in different situations. What they have in common is that they are models in which the dependent variable is an indicator of a discrete choice. In general, conventional regression methods are inappropriate in these cases (Greene, 2002). To set up the model that applies when data are individual specific, it will help to consider an example (Greene, 2002). Schmidt and Strauss (1975) estimated a model of occupational choice based on a sample of 1,000 observations drawn from the Public Use Sample for three years, 1960, 1967, and 1970. For each sample, the data for each individual in the sample consist of the following: (1) Occupation: 0 = menial, 1 = blue collar, 2 = craft, 3 = white collar, 4 = professional; (2) Regressors: constant, education, experience, race, gender. The model for occupational choice is:

Pr( Y i = j ) =

e 4

∑

β /j x i

j = 0 ,1 ,..., 4

, e

(1)

β k/ x i

k =0

The above model is a Multinomial Logit Model (Nerlove & Press, 1973). The estimated equations provide a set of probabilities for the J + 1 choices for a decision maker with characteristics xi. If we define β *j = β j + q for any vector q, then recomputing the probabilities defined below using β *j instead of β, j produces the identical set of probabilities because all the terms involving q drop out. A convenient normalization that solves the problem is β0 = 0. This arises because the probabilities sum to one, so only J parameter vectors are needed to determine the J + 1 probabilities. Therefore, the probabilities are as equation (2) (Greene, 2002): ln( L i ) = ln

p ( L ≤i ) = α i + β 1 phisique 1 p ( L ≤i )

β 4 personalit

+ β 2 relationsh

y + β 5 culture + β 6 selfimage

,

ip + β 3 reflection

+

(2)

i = 1, 2 , 3 , 4 .

Similarly, because in our research the dependent variable—Pegah brand loyalty—is discrete choice variable, in order to study the effective factors on Pegah brand loyalty, we will use the Multinomial Logit Model. Therefore, the logarithmic form of empirical model is as follow: Pr( Y i =

e

j xi ) =

β

/ j

xi

, j = 0 , 2 ,... β

J

1 +

∑e

β

/ k

0

= 0

xi

(3)

k =1

and L1 =

p ( switcher) p ( habitual or satisfied or likes the brand or committed

to the brand )

(4)

798

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL p ( switcher or habitual) p ( satisfied or likes the brand or committed

L2 =

L3 =

to the brand )

(5)

p ( switcher or habitual or satisfied) p ( likes the brand or committed to the brand )

(6)

p (switcher or habitual or satisfied or likes the brand) p ( committed to the brand )

(7)

L4 =

Results and Discussion Studied Sample Analysis The data used in this paper were obtained as part of a large survey of brand loyalty to Pegah dairy products. Data were collected in Mashhad, the second largest city in Iran. Also, because the simple random sampling is one form of the general set of sampling procedures referred to as probability sampling (Cochran, 1977), in order to study the effective factors on brand of Pegah dairy products a sample included 642 citizens of Mashhad-Iran was selected randomly using Cochran clustered, random-sampling technique and required data was gathered by questionnaire filling. The respondents were asked 23 questions about the effect of Kapferer’s brand identity factors (physique, personality, culture, relationship, reflection and self-image) on customers’ loyalty to brand of Pegah dairy products. Also, five point Likert scale questions were developed to indicate respondents’ degree of agreement on each of statement (1 = Strongly disagree; 5 = Strongly agree). The analysis of studied sample has been summarized in Table 1. Table 1 Sample Analysis Characteristic

Percent (%)

Gender Male

41.75

Female

58.25

Education Primary

15.01

Secondary school

26.39

Under graduate

21.95

Bachelor

34.93

Master of science

1.72

Income level < 300,000 Rial

38.59

301,000-500,000 Rial

34.58

> 501,000 Rial

26.83

Brand loyalty level Switcher

16.64

Habitual

10.90

Satisfied

36.44

Likes the brand

24.68

Committed to brand

11.33

Note. Source: Research findings.

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL

799

According to Table 1, the majority of respondents are female (374/642), have bachelor degree of education (224/642), have the monthly income less than 300,000 Rial (248/642) and are classified in satisfied level (with switching costs) of brand loyalty (234/642). Studying the Effective Factors on Pegah Brand Loyalty In this section, we study the Kapferer’s identity factors (physique, personality, culture, relationship, reflection and self-image) on the different levels of Pegah brand loyalty (switcher, habitual, satisfied, likes the brand and committed to brand) using Multinomial Logit Model. Table 2 indicates the results of estimation Multinomial Logit Model based on maximum likelihood for studying the effective factors on Pegah brand loyalty. Table 2 Analysis of Maximum Likelihood Estimates Parameter (Kapferer’s brand identity factors) Estimate

Standard error

Wald Chi-square

Pr > Chi-square

Intercept

-88.5388

6.2151

202.9428

< 0.0001

Physique

0.3469

0.0258

180.5165

< 0.0001

Personality

0.3461

0.0252

188.1022

< 0.0001

Culture

0.2557

0.0186

189.4090

< 0.0001

Relationship

0.2431

0.0183

176.2642

< 0.0001

Reflection

0.3084

0.0226

186.0747

< 0.0001

Self-image

0.2099

0.0164

163.9828

< 0.0001

Testing global null hypothesis: BETA = 0 Test

Pr > Chi-square

DF

Chi-square

Likelihood ratio

< 0.0001

6

1,663.4429

Wald

< 0.0001

6

207.1388

DF

Value/DF

Pr > Chi-square

2,778

0.1539

1.0000

Deviance goodness-of-fit statistics Criterion

Value

Deviance

427.5949

R-square = 0.9081

Max-rescaled R-square = 0.9556

Note. Source: Research findings.

The results of Table 2 show that: (1) According to Likelihood ration and Wald tests related to testing global null hypothesis, the estimated Multinomial Logit Model based on maximum likelihood estimations is significant at 99% significance level; (2) The statistics of Deviance, R-square and Max-rescaled R-square criterions verify the fitness of Multinomial Logit Model based on maximum likelihood estimations; (3) The Wald chi-square for all Kapferer’s brand identity factors is positive and significant at 99% significance level. Interpreting the regression coefficients in Multinomial Logit Model based on maximum likelihood estimations is not simple (Greene, 2002). Therefore, we must use from the odds ratios for studying the effect of Kapferer’s brand identity factors on Pegah brand loyalty. Table 3 shows the odds ratios based on Wald confidence level. According to Table 3, among the Kapferer’s brand identity factors, physique and personality have the most and least effect on Pegah brand loyalty. Also, one unit increase in physique, personality, culture, relationship,

800

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL

reflection and self-image will increase the probability of costumers’ loyalty to Pegah brand 1.415, 1.414, 1.291, 1.275, 1.361 and 1.234 units, respectively. In addition, Figure 3 shows the graphical form of effect of Kapferer’s brand identity on Pegah brand loyalty. Table 3 Wald Confidence Interval for Odds Ratios Effect (Kapferer’s brand identity factors)

Unit

Estimate

95% confidence limits

Physique

1.00

1.415

1.345

1.488

Personality

1.00

1.414

1.345

1.485

Culture

1.00

1.291

1.245

1.339

Relationship

1.00

1.275

1.230

1.322

Reflection

1.00

1.361

1.302

1.423

Self-image

1.00

1.234

1.195

1.274

Note. Source: Research findings.

Figure 3. Effect of Kapferer’s brand identity on Pegah brand loyalty.

Conclusions The importance of brand loyalty has been widely adopted in many countries, yet insufficiently understood by Iranian companies. The lack of brand loyalty studying in Iran and its insufficient understood by Iranian companies has motivated us to drive this research. As an empirical investigation, we selected 642 costumers of Pegah brand of dairy products by clustered, random-sampling technique. The results of sample analysis indicated that the majority of respondents are female (374/642), have bachelor degree of education (224/642), have the monthly income less than 300,000 Rial (248/642) and are classified in satisfied level (with switching costs) of

BRAND LOYALTY ANALYSIS USING MULTINOMIAL LOGIT MODEL

801

brand loyalty (234/642). Also, the results of estimation of Multinomial Logit Model indicated that among the Kapferer’s brand identity factors, the physique variable has the most effect on Pegah brand loyalty. Also, one unit increase in physique, personality, culture, relationship, reflection and self-image will increase the probability of costumers’ loyalty to Pegah brand 1.415, 1.414, 1.291, 1.275, 1.361 and 1.234 units, respectively.

References Aaker, D. (1996). Building strong brands. New York: The Free Press. Bloemer, J. M. M., & Kasper, H. D. P. (1995). The complex relationship between consumer satisfaction and brand loyalty. Journal of Economic Psychology, 16(2). Cochran, W. G. (1977). Sampling techniques. New York: John Wiley & Sons, Inc.. Copeland, M. T. (1923). Relation of consumer’s buying habits to marketing method. Harvard Business Review, 1, 282-289. Davis, M. S. (2002). Brand asset management: Driving profitable growth through your brands. Jossey-Bass Publishing. Gilbreath, B. (2010). The next evolution of marketing: Connect with your customers by marketing with meaning. United States: Bridge Worldwide. Gounaris, S., & Stathakopoulos, V. (2004). Antecedents and consequences of brand loyalty: An empirical study. Journal of Brand Management, 11(4), 283-306. Greene, W. H. (2002). Econometric analysis (5th ed.). New Jersey: Prentice Hall, Upper Saddle River, 07458. Innis, D. E., & La Londe, B. J. (1994). Customer service: The key to customer satisfaction, customer loyalty, and market share. Journal of Business Logistics, 15(1). Janonis, V., Dovalienė, A., & Virvilaitė, R. (2007). Relationship of brand identity and image. Commerce of Engineering Decisionsengineering Economics, 1(51), 69-80. Jacoby, J. (1971). A model of multi brand loyalty. Journal of Advertising Research, 11, 25-31. Jacoby, J., & Chestnut, R. W. (1978). Brand loyalty (pp. 67-90). New York: Wiley. Jensen, J. M., & Hansen, T. (2006). An empirical examination of brand loyalty. Journal of Product & Brand Management, 15(7), 442-449. Kapferer, J. N. (2003). The new strategic brand management. London: Ko-gan Page. Kotler, P., & Armstrong, G. (2010). Principles of marketing global edition (13th ed.). New Jersey: Pearson Education. Lau, M., Chang, M., Moon., K., & Liu, W. (2006). The brand loyalty of sportswear in Hong Kong. Journal of Textile and Apparel, Technology and Management, 5(1), 1-13. Mellens, M., Dekimpe, M. G., & Steenkamp, J. B. (1996). A review of brand-loyalty measures in marketing. Tijdschrift voor Econoniie en Management, 41(4). Moisescu, O. I., & Allen, B. (2010). The relationship between the dimensions of brand loyalty. An empirical investigation among Remanian urban consumers. Management & Marketing Challenges for Knowledge Society, 5(4), 83-98. Nerlove, M., & Press, S. J. (1973). Univariate and multivariate log-linear and logistic models. Santa Monica, CA.: RAND Corporation, R-1306-EDA/NIH. Schmidt, P., & Strauss, R. P. (1975, June). The prediction of occupation using multiple logit models. International Economic Review, 16(2), 471-486. Turner, M. (2009). On artist brands and music branding, music, marketing, management. Retrieved March 25, 2010, from http://musicmarketingmanagement.com/2009/05/on-artist-brands-and-musicbranding/

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 802-815

Strengthening the Domestic Market or Searching Export Opportunities: A Dilemma Resulted From the Impact of ACFTA on Small and Medium Enterprises Angelina Ika Rahutami, Westri Kekalih Soegijapranata Catholic University, Semarang, Indonesia

The newest RTA ratified by Indonesia was ASEAN—China Free Trade Agreement (ACFTA). ACFTA is aimed to strengthen and enhance economic cooperation between ASEAN and China. One of ACFTA consequences is having more trades of goods and services flow to Indonesia from ASEAN countries and China. Among other countries, China has been a new “giant” for Indonesian trade. Trading relationship between Indonesia and China tends to increase year after year. Since 2005 until 2009, Indonesia had had a deficit trade balance to China. This condition indicates that China trade can expand and entry Indonesian market easily. Until now, invasion of cheap products from China has threatened many industries in Indonesia, as well as in Central Java. This condition has affected business situations, including Small and Medium Enterprises (SMEs). Based on this phenomenon, this study is aimed to analyze how Central Java deals with ACFTA challenges. The study methods were descriptive and qualitative analysis. Primary data was found through questionnaire and in-depth interview. The study results showed that Central Java had a deficit trade balance to China. This condition was not favorable because the imported commodities were equal to the competitive SMEs’ commodities. This condition threatened SMEs entrepreneurs. Moreover, the results of consumer perception showed that respondents preferred to choose the Chinese products rather than Indonesian because of quality, availability, attractive design and price. Furthermore, many SMEs entrepreneurs were faced to a new threat especially in supply chain, supply continuity, and price. The Chinese products’ penetration has decreased sales volume and profit of SMEs. Thus, this study results the appropriate strategies to cope with the ACFTA, which are strengthening access to domestic market, fixing supportive regional regulation, and not focusing yet on export orientation. Keywords: ACFTA, SMEs, Central Java, Chinese products

Introduction Economic globalization has changed the map of the world economy. China was formerly a country whose market is closed. Nowadays, China is one of the large and influential economies in the world. Invasion of Chinese products actually has happened quite a while. Until now, more products from China have entered to Indonesian

Angelina Ika Rahutami, Ph.D., Faculty of Economics and Business, Soegijapranata Catholic University. Westri Kekalih, Magister of Economics, Faculty of Economics and Business, Soegijapranata Catholic University. Correspondence concerning this article should be addressed to Angelina Ika Rahutami, Jl. Pawiyatan Luhur IV/1, Semarang, Indonesia. E-mail: [email protected].

STRENGTHENING THE DOMESTIC MARKET OR SEARCHING EXPORT OPPORTUNITIES

803

market, especially electronic products, textiles, textile products, footwear, food and so on. Besides the naturally trade liberalization between Indonesia and China, the newest RTA ratified by Indonesia (ASEAN—China Free Trade Agreement—ACFTA) also contributed many consequences on Indonesian trade condition. ACFTA has been ratified since January 1, 2010. ACFTA is aimed to strengthen and enhance economic cooperation between ASEAN and China. Based on these purposes, ACFTA has three programs which are: (1) Early harvest program (EHP); (2) Normal track I and II; and (3) Sensitive and highly sensitive lists. These programs have been applied gradually since January 1, 2004 until 2018. The EHP is a provision that accelerates the implementation of the ACFTA, wherein all products at the 8/9 digit level in HS Chapters 01-08 (Chapter 01: Live Animals; 02: Meat and Edible Meat Offal; 03: Fish; 04: Daily Products; 05: Other Animal Products; 06: Live Trees; 07: Edible Vegetables and 08: Edible Fruits and Nuts, except Sweet Corn) are subject to tariff elimination. EHP was set in first of January 2004 and its tariff was 0% in January 1, 2006. The agreement is also provided for the parties to have an exclusion list, whereby products that are deemed sensitive are to be excluded from the agreement. For balancing Indonesian and Chinese exports, there was a bilateral agreement for 47 tariff commodities, including coconut (copra), animal fats and oils, margarine, cocoa powder, soap, furniture from rattan and stearic acid. Under the normal track provision of the trade in goods, the parties which placed tariff lines under this category shall have their respective applied Most Favored Nations (MFN) rates gradually reduced and eliminated in accordance to the modalities set by the agreement. The last one is a sensitive list. The number of tariff lines which each party can place in the Sensitive Track shall be subject to a maximum ceiling of 400 tariff lines at the HS 6-digit level and 10% of the total import value, based on trade statistics of 2001. Tariff lines that are placed by the parties in the sensitive list shall be divided into sensitive and highly sensitive. One of ACFTA consequences is having more trades of goods and services flow to Indonesia from China. Based on Danareksa Institute research in Regional Economic Study, Indonesian Central Bank (2009), there were 10 most harmed sectors because the effect of freer flow trade with China. Data in Table 1 show that growth of Indonesian export to China is less than growth of Chinese export to Indonesia (except wearing apparel). The export of leather product from Indonesia to China increased 11.66%, but the export of leather product from China to Indonesia increased 40.86%. Export of other commodities such as metal products, manufacture products, sugar, paddy, processed rice, etc., also increased less than its import. This condition indicated that domestic market of Indonesia was flooded by many commodities from China. The consequence of this condition is that markets for domestic products will become increasingly limited. When this condition appears, the domestic producers will be pressured by more competitive situation. The consequences of trade liberalization and ACFTA are also experienced by Central Java. Central Java is a province in Indonesia that has a good economic growth, relatively stable inflation and trade. Economy of Central Java in first quarter of 2010 is expected to increase around 4.75%-5.25% year on year (Regional Economic Study, Indonesian Central Bank, 2010). This expected growth is higher than the year on year growth in last quarter of 2009 (4.6%). Three sectors that have the biggest contribution on Gross Domestic Regional Product are industry, trade and agriculture. The export is estimated to increase around 18.7%-19.2% year on year in first quarter of 2010, and also the import is expected to increase around 15.0%-15.5%. This prediction of trade indicates the better condition than that in 2009. Based on commodities, the lead exported commodities are wearing apparel, furniture, wood and wood

804

STRENGTHENING THE DOMESTIC MARKET OR SEARCHING EXPORT OPPORTUNITIES

products. On the other hand, the biggest imports are cotton, machinery, mechanical and boiler and wheat. Table 1 Ten Most Harmed Sectors (Change in %) Sectors

Indonesian export to China

Leather products

11.66

Chinese export to Indonesia 40.86

Metal products (SITC 287,289,523)

16.56

35.55

Manufacture products (SITC 663, 899)

68.45

99.67

376.69

109.87

Wearing apparel Wheat

-7.72

1.78

Sugar

10.29

118.55

Sugar cane, Sugar bit

28.98

5.65

Paddy

34.34

104.43

5.54

108.74

22.67

30.37

Processed rice Crops necessities (SITC 071-0751)

Note. Source: Danareksa Research Institute, in regional economic study, Central Bank of Indonesia, 2009. 2,000,000 1,500,000 1,000,000 500,000 0 -500,000 -1,000,000 Total

2005

2006

2007

2008

2009

1,014,549

1,496,456

1,366,512

1,077,588

760,165

USA

539,326

675,229

695,700

584,431

600,200

China

-503,115

-404,352

-677,004

-746,250

-731,381

Japan

103,221

106,750

79,702

105,070

-11,466

7,747

1,863

1,953

3,025

30,541

-58,731

-66,295

-3,468

-96,708

-48,487

South Korea Australia

Figure 1. Central Java Trade Balance. Source: Regional Economic Study, Central Bank of Indonesia, 2009, processed data.

The detailed trade balance of Central Java can be seen in Figure 1. Total trade balance of Central Java from 2005 until 2009 was surplus. Although the surplus of trade became less, but the data shows that the export was still bigger than the import. Total surplus of trade balance in 2009 was 760,165 thousand USD. Among the five countries that had biggest contribution on Central Java trade, China and Australia were the trade partners that had the deficit trade condition. Since 2005 until 2009, trade between Central Java and China was deficit. The trend shows that deficit became larger. In 2005, the deficit was -503,115 thousand USD, and became -731,381 thousand

STRENGTHENING THE DOMESTIC MARKET OR SEARCHING EXPORT OPPORTUNITIES

805

USD in 2009. This condition indicates that Central Java import value is higher than Central Java export value. Various news and some previous researches showed that the successful story of Chinese products entered Indonesia and Central Java is about the price. Chinese products are cheaper than similar domestic products or similar imported products from other countries. The previous research in Surakarta Indonesia (Adiningsih & Lestari, 2008) showed that consumer bought Chinese products because they were cheap, but awful quality. The producers also used Chinese input because of cheap price and shorter distribution channel than Indonesian inputs. Based on previous researches (Guillaume, Lemoine, & Ünal-Kesenci, 2004; Shafaeddin & Pizarro, 2007; Ilheu, 2008; Bugamelli, Silvia, & Enrico, 2010), the competitive price of Chinese products come from the high productivity and short distribution channels. As an illustration, a Chinese labor can produce shoes approximately 16 pairs per day, but an Indonesian labor can only produce 10 pairs per day in the same condition and with the same wage (Bisnis Indonesia, 2007). Shafaeddin and Pizarro (2007) and Gaulier, Françoise and Deniz (2004) explained that China had a good vertical integration and distribution channel, started from raw materials, intermediate goods until finished goods. This supply chain is related with the loyal family relationship. In addition, China is also implementing a strategy to export finished products rather than raw or primary commodities. This strategy gives more benefit to China’s economy. This strategy leads to Chinese products coming into Indonesia becomes more diverse (Adiningsih et al., 2008). Invasion of Chinese products has been aggravating many industries in Indonesia, as well as Central Java, both in domestic market and export market. These conditions will certainly affect the business situation in Central Java, including small and medium enterprises (SMEs). The SMEs receive a special attention in this article because Central Java has many SMEs. The last data shows that SMEs in 2009 in Central Java are 65,878 units. Most of SMEs are home industry SMEs (20,682 units) and trading SMEs (28,172 units). Characteristics of these SMEs are domestic or local orientation/market, small investment, low advantage, limited market and financial access, and absorbing many labors. Study on impact of ACFTA including Chinese product penetration on small and medium enterprises in Central Java is important to give a description about the real condition and give a recommendation to SMEs, as well as government to cope the threat and challenge of Chinese product penetration.

Purposes Based on this phenomenon, this study is aimed to analyze how Central Java deals with penetration of Chinese products and ACFTA challenges. The specific purposes of this study are: (1) To analyze export-import condition between Central Java with China; (2) To compare consumer preferences of Indonesian and Chinese products; (3) To analyze the impact of ACFTA on SMEs.

Review of Literatures Globalization has changed economic interactions because of production and marketing knowledge improvement and stronger countries competitiveness. Globalization also induces the sustainable liberalization policies, administration regulations and structural transformations. These policies and regulations are important to mobilize and maintain resources (externally and internally) for domestic industry, productivity and external

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competition (Asasen, Asasen, & Chuangcam, 2003). One of globalization influences is international trade. International trade is needed by all countries. Nowadays, many countries have many multilateral and bilateral trade co-operations and agreements to accelerate international trade. Trade agreement brings external changing on market behavior. Market behavior will be changed to be a game theory from a non-game behavior. Shapiro (1989) showed that players’ behavior on trade is the function of the rivals’ behavior. When game theory occurs in market, players need to adjust and change their strategies for surviving or entering market. Strategies for surviving and entering market make behavior of competition. Competition, in some extent, will develop quality of products. Product quality is not only determined by location and natural resources, but also by other factors like knowledge, global information, market standard, market information and challenges and also new technology (Wattanpruttipaisan, 2002). Efficiencies and flexibilities from networking and cooperation of suppliers and consumers also create product quality. Nowadays, many countries make a bilateral or multilateral cooperation on trade. The main idea of it is make a good condition to manage the trade liberalization. One of the trade cooperation is called as Regional Trade Agreement (RTA). RTA has both good and bad sides. RTA will be beneficial for economic growth, but on the other side, it can weaken it. Previous researches showed that trade agreement among close countries and large-scale trade partner tends to be beneficial (Pravin Krishna, 2003), and also induced welfare greater than reduced welfare (Rosson, Runge, & Moulton, 2000). ASEAN-China Free Trade Agreement The newest RTA (ASEAN, 2002, 2004) ratified by Indonesia is ASEAN-China Free Trade Agreement (ACFTA). ACFTA is a free trade agreement among ASEAN countries and China. ACFTA has been implemented since January 1, 2010. In the agreement between ASEAN and China, it has been approved that the establishment of ACFTA is explained in two stages. The second phase of the time, namely: (1) year by year in 2010, involving six Southeast Asian countries which includes Thailand, Malaysia, Singapore, Indonesia, Philippines and Brunei Darussalam; and (2) in 2012 involving four other countries in ASEAN, including Vietnam, Cambodia, Laos and Myanmar. Particularly related to Indonesia, most goods traded between Indonesia and China’s implementation of the reduction/elimination of tariffs is treated to 5,250 product categories. The ACFTA chronicles are (ASEAN, 2002, 2004): (1) Framework Agreement on Comprehensive Economic Cooperation between the ASEAN and People’s Republic of China is ratified by Leader of ASEAN and China in November 4, 2002 in Phnom Penh, Cambodia; (2) Changing Protocol is ratified by Economic Ministers on October 6, 2003 in Bali; (3) Framework Agreement ASEAN-China FTA ratification through a Decree number 48/2004 in June 15, 2004; (4) Agreement Trade in Goods and Agreement Dispute Settlement Mechanism is ratified in Vientiane, Laos by ASEAN and China Economic Ministers in November 29, 2004; (5) In 2010, the AC-FTA is applied by ASEAN 6 (Indonesia, Malaysia, Singapore, Philippine Thailand, Brunei Darussalam) and China; (6) In 2015, the AC-FTA will be applied by other ASEAN members (Cambodia, Laos, Myanmar, and Vietnam—CLMV). AC-FTA has some purposes that are (ASEAN, 2002, 2004):

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(1) Strengthening and improving economic, trade and investment cooperation among members; (2) Liberalizing progressively and enhancing goods and services trade, creating transparent system and lessening investment; (3) Searching new collaborations and developing proper economic policies among members; (4) Facilitating economic integration among new ASEAN countries (CLMV) and bridging economic development gap among members. The first component of ACFTA is the agreement on trade in goods that was put in force by ASEAN on July 1, 2005, and it also was put in force by China on July 20, 2005. As specified in the agreement, all parties are committed to reduce or eliminate tariffs based on the following schedules: (1) Early Harvest Program (EHP); (2) Normal Track; and (3) Sensitive Track. The second component of the FTA with China is the trade in services, which entered into force in the last July 1, 2007. The main objective of the agreement is to expand trade in services in the region through improved market access and national treatment for those specific sectors and subsectors where the parties made specific commitments. In addition, the Free Trade Agreement with China also contains a provision for an agreement in investment to be put in place. The establishment of an FTA between ASEAN and China created a bigger market and a higher purchasing power. The lowering of trade and investment barriers will result in an enlarged integrated market. This condition will promote specialization and competitive advantage, contribute to lower costs and increase economic efficiency. These benefits will be obtained when Indonesia has a readiness to deal with it. Chinese’s Products and Source of Competitive Advantage Most of the previous researches showed that the sources of competitive advantage of Chinese products are caused by several factors. Adams, Byron and Yochanan (2006) stated that China’s export competitiveness was caused by several factors: the positive exchange rate, low wages, labor, the flow of foreign direct investment, and government commitment. Other previous research, Guan and Ma (2003) and Shiu and Heshmati (2006) showed that export growth of China and Total Factor Productivity (TFP) growth were closely related to improvement of innovation capability, interaction and harmonization of innovation and productivity growth, FDI, human capital and communication technology investment. On the contrary, Wei and Hao (2011) using Total Factor Productivity (TFP) showed that the main source of Chinese economic growth was labors, not technology, as well as other developing countries. This Wei and Hao result in lined with S. M. Li, S. H. Li and Zhang (2000) and Rasiah (2002) who explained that competitive pressure in the government’s companies has induced Chinese labors to work harder, more efficient and more productive. Chinese government also stimulates labor productivity by the regulation. One of the important regulations is regulation on labor education. Labor education leads to attitude development such as discipline, commitment, loyalty and so on. Child and Warner (2003) found that Chinese labor productivity also affected by relationship culture between labor and companies. Chinese labors have a good loyalty to company and always focus on their job. This culture develops their job specialization and ultimately improves their competitive advantage. Labor transformation in China via state level institutional changes that led by reform-minded leaders, a right-based labor regime, fluid labor markets, and rule of law society were also the important factor to economic growth and

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competitiveness (Guthrie, 2002). Beside labor competitiveness, efficiency of Chinese products is also influenced by the investment policy. Investment policy in China strongly supports and protects foreign direct investment. These FDI policies such as openness, corporate tax rates and the level of corruption have been promoting growth in China (Chantasasawat, Fung, & Siu, 2004). The government’s commitment always want to improve the Chinese competitiveness will ensure that the developments achieved will continue.

Research Methods The research was conducted by using qualitative and quantitative methods to assess the impacts of Chinese products on SMEs in Semarang, Pekalongan and Solo. Descriptive and qualitative analysis was used (such as proportion, share, and growth) to interpret and analyze data systematically and comprehensively. Primary and secondary data were used in this research. Primary data was collected through questionnaire and in-depth interview. Primary data was focused on SMEs managements/owners and consumers. The sample was collected by random sampling in three cities that were Semarang, Pekalongan and Solo. These three cities were used as samples because they have a suitable economy characteristic with this study. Trading sector and SMEs are dominant sectors in Semarang, Pekalongan and Solo. Their governments also have good and appropriate policy to develop SMEs. Research respondents were five traders, five producers, and 20 consumers in each town. Total respondents were 30 SMEs (they were divided into 15 traders and 15 producers) and 60 consumers. Secondary data was generated from Central Bureau of Statistical and Central Bank of Indonesia.

Research Results Based on the secondary data from Indonesian Central Bank (2010), there are ten top imported commodities from China to Central Java. Table 2 shows the detailed condition. Most of the import commodities are machinery, vehicles, iron and steel, and cotton. Table 2 Ten Top Imported Commodities From China to Central Java (USD) Import commodities (HS 2 digit) 84-Nuclear reactors, boilers, machinery and mechanical appliances; parts thereof 85-Electrical machinery and equipment and parts thereof; sound recorders and reproducers, television image and sound recorders and reproducers, and parts and accessories of such articles 52-Cotton

2007 103,990,910

2008 130,189,348

2009 (until October) 9,284,020

69,021,042

99,398,973

8,253,629

65,865,435

77,775,481

4,984,930

87-Vehicles other than railway

42,375,932

51,184,232

2,564,767

72-Iron and steel

28,995,241

35,322,703

4,494,324

55-Man-made staple fibers

20,122,190

33,500,892

2,522,823

10-Cereals

47,410,513

25,753,106

-

73-Articles of iron and steel

20,404,227

23,918,069

2,447,780

39-Plastics and articles thereof

14,744,238

17,615,423

1,267,107

5,636,867

17,205,512

208,205

28-Inorganic chemicals Note. Source: Central Bank of Indonesia, Solo City Bureau, 2010.

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The interesting commodity is cotton. Cotton is the third top imported commodity in Central Java. On the other hand, the data shows that wearing apparel and textile are the exported commodities with the highest value (Indonesian Central Bank, Solo, 2010). The fact also shows that the main input of wearing apparel and textile came from China. It means that the main exported products in Central Java also use imported content. Other interesting thing is three of imported and exported commodities from and to China are the same products, which are weaving yarns, fabrics, and textile, electrical machinery, apparatus and tools and tobacco and processed tobacco. On the contrary, SMEs in Central Java have ten competitive products (divided into five products from industry, and five products from trade activities). The leading products from industry are wearing apparel, furniture, batik, palm sugar, and bricks. Furthermore, the leading products from trade activities are textiles, furniture, food, agriculture products and daily needs products. Other potential products (but they are not leading products) are weaving affairs, furniture, textiles products, bamboo crafts, sugar, and building material. Some of the leading and potential products from SMEs are the exported product. This condition gives a threat for domestic and foreign market and tighter competition between Indonesia and China. The following explanations are the consumers’ and producers’ perception on Chinese product, including the impact on their buying behavior, producing behavior and profit condition. Knowledge and Image of Chinese Products Chinese product consists of two words that really show the origin of the product, or where product produced. Thus, products from China are products originating from China or “Made in China”. However, searches made in this study, associated with China rather than product knowledge, indicate that there are only a few respondents, both consumers and SMEs that define the product from China are made in Chinese products. This study shows the existence of several kinds of associations that emerged when respondents are faced with the question of what is known about Chinese products. Some associations are most often appeared between the other cheaper products, artificial products, electronic, accessible, attractive design, clothing, toys, goods that are similar with famous products. In particular, if the respondent is faced with a choice of answers that describe the relationship between price and quality, powerful image comes from the consumer and SME manufacturers that is products from China are cheap but they are poor in the quality of product. However, those who said that Chinese products have good quality and cheap price are more than 33% and 45% of consumers for respondents. Medium respondents tended to argue that SMEs selling products from China are products with cheap price and good quality. From this, description reflects the competitiveness of Chinese high products. Association of Chinese products seems to be influenced by the introduction of the goods or products from China itself. Here are the best known types of product produced by the consumer electronics, toys and vehicles. Meanwhile, the most widely consumed product is an electronic audio/video, and electronic non audio/videos and toys. Chinese Products From Consumers’ Perspective Consumers already recognize the wide range of products from China. From a variety of consumer products known, the most widely known consumer electronics are explained as follows audio/video (85.00%), toys (81.67%), transportation (46.67%), a non-electronic audio/video (38.33%) and household equipment (36.67%). The introduction of various products from China appears to be related to the products used. This condition is reflected in the search for more about the use of products from China where the rank of China’s use of products is similar to the

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rank of China’s introductory products. Items most commonly used are an electronic audio/video (75.00%), toys (50.00%), non-electronic audio/video (35.00%), home appliances (21.67%) and vehicles (16.67%). Table 3 Used Products Product types

Percent (%)

Product types

Vehicles

16.67

Textiles/fabrics

1.67

Electronic of audio/video

75.00

Clothes

8.33

Non-Electronic audio/video

35.00

Groceries

Toys

50.00

Household equipments

Handicrafts

1.67

Food

Percent (%)

1.67

Furniture

21.67 0.00

13.33

Note. Source: Primary data processed.

In connection with the decision to consume products from China, most respondents did not deliberately choose ones. However, those who deliberately chose ones were quite big, reaching 40% of all consumer respondents. Meanwhile, the decisions to deliberately choose products from China, among others, based on the low price (38.33%), the easy availability on the market (31.67%), and the attractive design and the good quality (respectively 20.00%) and the recommendations from the people closest factor (18.33%). Comparative perceptions of product attributes and the reality experienced by China over the use of the products can be used to identify levels of customer satisfaction. Overall, consumers tend to be satisfied with products from China. This condition is reflected in a positive relationship between perceptions with actual experiences. From some of the attributes, it can be observed that low price, brand, durability, product warranty, design and ease to get the product can support the consumers to buy Chinese products. Only on the attributes of convenience that consumers tended to be unsatisfied. Table 4 Satisfaction in Consuming Chinese Products Attributes

Perception

Experience

Gap

Satisfaction

Cheap price

3.02

3.13

0.12

Satisfied

Popular brand

2.45

2.52

0.07

Satisfied

Durability

2.28

2.32

0.03

Satisfied

Guarantee

2.33

2.38

0.05

Satisfied

Design

2.53

2.73

0.20

Satisfied

Easy to obtain

3.15

3.13

-0.02

Total

2.63

2.70

0.07

Unsatisfied Satisfied

Note. Source: Primary data processed.

A comparison of consumer perceptions of products with domestic products of China shows that as many as 60.00% of respondents said that Chinese products were cheaper, and they put on the ranking advantage of Chinese products over products made in Indonesia, and the other 30.00% of respondents, placing second in the ranks. Meanwhile, the attributes that are easily obtained, as much as 48.33% of the respondents placed it in the ratings 1 and 50.00% of respondents put this attribute on the second rank. It is stated that the quality products from China is higher

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than the domestic products, it was about 11.67% of consumer respondents ranked number one and put it in 48.33% of the respondents. They placed it in the second rank. Thus, it can be concluded that consumers tend to believe that Chinese products are relatively cheaper, more accessible and more easily obtained than domestic products. As China’s perception of product attribute compared to domestic products, the ratio of China’s perception of product attributes with other imported products also showed the benefits of products from China. Consumers tend to believe that Chinese products are comparatively cheap and easily obtained. Comparative perceptions of product attributes of China’s domestic products and imported products from China for other products showed superiority of Chinese products, especially at the price and convenience to get the attributes. However, it does not cause consumers to select products from China. A total of 73.33% of respondents said consumers preferred not to choose domestic products. Similarly, preferences for Chinese products compared to other imported products, as much as 70.00% of respondents claimed that consumers preferred other imported products. Figure linking perceptions of the most important product attribute in China show that advantages of Chinese product compared to other products, especially with the price of consumer preferences, are essentially more like the other products (domestic products and other imported ones). It reflects that the public still has the sensitivity of price. It can be associated with people’s purchasing power. Most people in middle to lower economic classes or marginalized communities tend to be sensitive to price changes. In addition, the condition can also be associated with the characters of Indonesian consumers. Consumers tend to remember the short-term benefits of the product as well as the impulse of buying decision-making. Those still dominate much of Indonesian people so that they are more easily available to be purchased. Chinese Products From Producers’ and Sellers’ Perspective To obtain a comprehensive picture of the product associated with the position of the Chinese community, consumers and producers are not only used as respondents. In this study, the respondents also use products from Chinese vendors. All respondents studied, 33.33% of the vehicles they sell, selling 40.00% of electronic audio/video and non-audio/video, selling food 33.33%, 40.00% sell home appliance and so forth. Unlike the consumer perception of Chinese product attributes compared to other products, the main advantage of Chinese products lies in the convenience factors and product prices. In terms of quality and durability, the manufacturer assumes that the quality of Chinese products tend to be much worse and can be easily damaged. Meanwhile, distribution services are relatively considered to other products. The similar perceptions came from sellers. A description of that product from China compared with other products has the advantage on price and convenience factor was obtained. For dimensions of quality and durability, sellers tend to judge that China’s product quality, and durability is worse. Meanwhile, distribution services are considered relative to other products. This perception is in line with consumers’ and producers’ perceptions of respondents. Advantaged factor over other products from China also seems to be a motivating factor for producers to buy products made in China. This is reflected in the distribution of respondents’ answers that are from users and product manufacturers from China, that was about 86.67% and the majority of manufacturers (84.62%) that use products from China, said that China is a superior input. As for some of the most important source of China’s input price advantages, such as a fairly prominent with the difference in price between 5%-10% cheaper, quality

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and comfortable to get it. Input is a relatively cheap price of Chinese products will ultimately increase profits for producers in the same proportion, i.e., 5%-10%. Table 5 Usage, Superiority, and Difference of Input Prices in China Variable Using Chinese input

Superiority of Chinese input

Answer

Percent (%)

Yes

86.67

No

13.33

More superior

84.62

Same

7.69

Less superior Difference of Chinese input price to others

7.69

< 5%

30.77

5%-10%

61.54

> 10%

7.69

Note. Source: Primary data processed.

Similar products from China, Chinese input is also relatively easier to obtain. Chinese distribution channel inputs from other inputs valued tend to be shorter. Although there is no direct import of plants and directly bought from importers, but the majority (93.33%) was investigated to get input of Chinese manufacturer to buy from wholesalers. There are only 6.67% of the respondents who purchase inputs from Chinese retailers. Attribute of perceptions of China compared with other products is generally known. Most respondents believe that product manufacturers of China SMEs tend to be cheaper but they are in poor quality and easily damaged. If you specifically ask respondents to compare products with products from China for the same product category types, all respondents stated that the product is higher than the products made in China. The source of product advantage with product from China, especially in the factors of quality, price and comfortability are obtained. As mentioned earlier, this study identified that consumers tend to be sensitive to price changes. On the other hand, China has the image of the character of the products that are cheaper even with low-quality and easy to obtain. That is, there is compatibility between products from China with characters of Indonesian consumers in general. Therefore, in the end, products from China are considered into our competitor’s products. Along with China’s increasing number of products in the market, there is a higher level of competition. Most sellers of products from China have been selling products in China since 2008. China sells these products performed as one strategy to maintain its advantage. According to respondents, apart from being cheap with a relatively good quality or the same with other products, products from China at present is one of the products that are sought after by consumers because of the price factor so that the product experience high turnover. Table 6 Profit Level Profit level < 5%

Percent of local product sale (%) 0.00

Percent of Chinese product sale (%) 20.00

5%-10%

80.00

13.33

> 10%

20.00

66.67

Note. Source: Primary data processed.

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In relation to the turnover of goods, the respondent stated that the current turnover of goods is more important than high profit margins. In other words, the seller is more important than the size of income profit. If the high turnover of merchandise happens, it automatically results in high profits too. Preferences are consistent with the perception of comparative benefits gained by selling local products, products from China and other imported products. Level of profits earned from sales of local products is lower than sales of products from China. There are only 20% of respondents said that the level of profits from sales of local products more than 10%, while those who claim that the level of profits from the selling of products from China was more than 10% from 66.67%. Therefore, sales of Chinese products tend to be more profitable (otherwise by as much as 73.33% of respondents) in accordance with the reasons for selling products from China that lower prices. Basically, China’s products have been regarded as competitors for our products since a long time. However, most respondents said that products from China are considered to be competitors, especially since the agreement contained in ACFTA. In addition to the reasons for lower prices also were underpinned by increasingly easy to get products from China. As discussed earlier, China has turned into “gigantic” new in the trade in Indonesia. China’s products have been flooding into the Indonesian market. Trade relation between Indonesia and China has increased from year to year. During 2005 to 2009, Indonesia has experienced balance of trade deficit against China. These conditions can create a threat for many industries in Indonesia in general, including the provinces of Central Java, especially with industrial scale of small and middle—SMEs. Impacts of Chinese Products Entry Toward SMEs Producers Impact of China’s products in Indonesia, especially in Central Java, is that profits and sales are relatively small, but there is a tendency of lower profits and sales volume. This is reflected in most (respectively 86.67%) of respondents who answered that SMEs benefit producers as well as the volume do not change with the selling of products from China. Relatively little impact is caused by several things, like the manufacturers have had customers who tend to be very loyal and tend to reserve directly. In addition, in the opinion of SME producers, distribution channels are still relatively shorter than the products from China. However, it should be noted that from the perspective of consumer products from China, it is more easily obtained from local products. Table 7 Consumers’ Loyalty, Product of Distribution Channel of SMEs and Chinese Product Distribution (% of Respondents) Consumers’ loyalty

Percent (%)

Chinese product distribution channel

Very loyal

Quite loyal

Long

Quite short

Short

66.67

33.33

40.00

46.67

13.33

Note. Source: Primary data processed.

The tendency of Chinese products reduces earnings and sales volume reflected in the ratio of the percentage of positive impact (increase) with the percentage of negative impact (decrease). It can be seen that the negative impact is greater. Percentage of respondents who said that the profits rose by the flooding of products from China is 0.00%, while the profits had decreased by 13.33%. It happens similarly to the impact on the selling volume.

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Conclusions The study results show that Central Java had a deficit trade balance to China. The imported domination was in textile, footwear, and food products. This condition was not favorable because these imported commodities were equal to the competitive SMEs’ commodities. This condition threatened SMEs entrepreneurs. Moreover, the results of consumer perception showed that respondents preferred to choose the Chinese products than Indonesian ones because of quality, availability, attractive design and price. Furthermore, many SMEs entrepreneurs were faced to a new threat especially in supply chain, supply continuity, and price. The China’s products penetration has decreased sales volume and profit of SMEs. The study results also found that there were many weaknesses of competitiveness factors of SMEs. Those factors could be divided into internal and external factors. Internal factors were high cost of production, low product quality, lack of capital, low level worker education, and awful business management. On the other hand, the external factors were high cost economic, unsupportive regional regulation, lack of access for market networking, and incomplete information about regional trade arrangement. This study also shows that Indonesian consumers are loyal consumer. Chinese product purchasing is due to low prices and weak purchasing power. While consumers recognize that the quality of Chinese products are worse than the quality of domestic products. If the purchasing power of consumers increases, consumers will tend to buy the domestic product than Chinese products. From the producer side, the use of Chinese inputs due to better quality and lower prices. The awful quality of input also induces the bad quality of products. This condition indicates that in some products, Central Java has no advantage competitive condition due to competition into international market. When the domestic product has not been able to compete in export markets, the strengthening of domestic market is a better choice. By increasing awareness of consumers, sellers and producers to love domestic products, the penetration of Chinese products can be overcome. This condition also creates effort for improving product quality, reducing cost, and shortening the distribution channels. The appropriate policies, society awareness and effort to improve product quality will not only be able to overcome the penetration of Chinese products, but also will lead to fair competition. Thus, this study results in the appropriate strategies to cope with the ACFTA, which are strengthening access to domestic market, fixing supportive regional regulation, and not focusing yet on export orientation.

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China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 816-832

Exclusion From Wage Work and Regulation of Capitalism Ari Nieminen Diaconia University of Applied Sciences, Helsinki, Finland

Unemployment, and especially long-term unemployment, is among the most important causes of social exclusion. Exclusion is often seen as a problem of individuals and as a phenomenon that depends on characteristics of particular individuals or groups. Unemployment and exclusion are, however, strongly affected by economic dynamics and macro-political solutions. They should not be treated solely as problems of individuals. This article analyzes exclusion from wage work as part and parcel of capitalism and dynamics of its politico-economic regulation. Empirically, this writing concentrates on Finnish case, but many of its considerations and findings are interesting and relevant for the readers from the other countries as well. In the beginning of the article, dialectics of exclusion and inclusion in capitalism are illuminated. Secondly, major Finnish trends in unemployment and the economy of the recent 20 years are presented. During this period of time, the Finnish society and economy have gone through two serious economic recessions and the country’s economy has changed, Europeanized and globalized considerably. At the same time, unemployment has risen dramatically. Politicians and other actors have attempted to solve the problem of unemployment with diverse means; these are described and analyzed in the third section. These means and initiatives show actually what kinds of policy measures have been possible in the regulative system of the Finnish capitalism. Expressed in more general terms, a socio-economic system reveals its true character by accepting and denying particular developmental possibilities. The article closes by presenting summarizing characterization of exclusion from wage work and regulative system of Finnish capitalism. The final section discusses also future possibilities of socio-economic inclusion since even if certain potentials and possibilities of inclusion have not realized themselves in the recent past, and they may be realized in the future. The rationale of this article consists of shedding light to the dynamics of social exclusion and inclusion in the present capitalism. This article endeavored to overcome dividing lines among social theory, social policy, industrial relations research and political economy, and it is hoped that such an approach would lead to better understanding and more enlighten politics in issues of social exclusion. Keywords: capitalism, exclusion, political economy, social policy, industrial relations, regulation

Theses on Dialectics of Exclusion and Inclusion Since the 1980s, “exclusion” has gradually gained weight and importance in (social) political discourse. The present European discourse of exclusion originates from France (Kronauer, 2010, pp. 40-44) but the main actor responsible for its spreading has been the Commission of the European Union. The notion of exclusion broadens Ari Nieminen, D.Soc.Sc. (sociology), Diaconia University of Applied Sciences. Correspondence concerning this article should be addressed to Ari Nieminen, Sturenkatu 2, FI-00510 Helsinki. E-mail: [email protected].

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

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traditional social political notions of poverty and impoverishment to a multidimensional notion that includes just about any individuals and groups who do not fit into the normal life-cycle of average wage-earner with at least basic level of education and a consumption pattern to match (Vleminckx & Berghman, 2001, pp. 28-29, 37). For instance, the EU’s Joint Report on Social Inclusion 2004 (European Commission, 2004, p. 10) defined social exclusion in the following way: Social exclusion is a process whereby certain individuals are pushed to the edge of society and prevented from participating fully by virtue of their poverty, or lack of basic competencies and lifelong learning opportunities, or as a result of discrimination. This distances them from job, income and education opportunities as well as social and community networks and activities. They have little access to power and decision-making bodies and thus often feel powerless and unable to take control over the decisions that affect their day to day lives.

As can be seen from the above definition, political discourse or ideology of exclusion, constructs a close relationship between exclusion, incomes and wage work (Helne, 2002; Juppi, 2010; Bude & Willisch, 2008). It is at this point where social policy, the political economy of capitalism and industrial relations research meet each other because regulation of exclusion from and inclusion to wage work is a crucial issue in social policy and in regulation of the economy and industrial relations. However, processes of social inclusion and exclusion are basic operations of human social integration (Luhmann, 1997, pp. 618-634), and they cannot be reduced to the functioning of modern society and capitalism alone. The following paragraphs present four theses illuminating the basic functioning if social exclusion and inclusion. Firstly, exclusion and inclusion are both active social actions and processes, and individuals and groups are actively excluded from one group and included to another group (also normal dictionary meanings of exclusion and inclusion have this active modus, see Brown, 1993). This does not, however, mean that people are necessarily fully conscious of those actions of exclusions and inclusions to which they participate. Secondly, in dialectics of exclusion and inclusion, exclusion from one group leads normally to inclusion to another group. Such divisions give birth to defining of diverse in-groups and out-groups. Dichotomization when defining “excluded” and “included” explains why social distance between excluded and included can be regarded as very wide even in situations in which the actual characteristics of these groups resemble each other. Dialectics of exclusion and inclusion includes numerous phenomena like social psychology of in-groups and out-groups, biased ways of observing out-groups, production of corresponding identities and counter identities, unwanted feelings and own characteristics can be defensively projected to the members of an out-group, prejudices concerning underdog out-groups can be used to justify their exploitation and so on (Deaux, Dane, Wrightman, & Sigelman, 1993, pp. 362, 364-370; Kristeva, 1997, pp. 191-200). Thirdly, in rare cases in which exclusion means total disintegration from a social configuration excluded individuals and groups cease to exist to the excluding system, and their existence is unknown or totally denied by members of a social group. Hence, in a normal case, individuals are excluded from numerous out-groups and included to several high-grade or low-grade in-groups. The case in which all human beings are included in all groups represent an old utopia of the unity of mankind. Total disintegration means that the existence of individuals and groups is not recognized at all. Lastly, the case in which individuals and groups are excluded from all in-groups but not included into any out-group does not exist—even enemies are included into the category of “enemy” (for integrative character of both exclusion and inclusion in systems theory, see Luhmann 1997, pp.

818

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618-634 and in sociology, see Kronauer, 2010, pp. 141-144). Fourthly, the basic social processes of exclusion and inclusion are simple. Yet, because individuals and groups belong to multitude of overlapping groups and social categories their socio-economic positions consist of mixed combinations and networks of high- and low-ranking in-group and out-group positions (on different areas of societal exclusion see Byrne, 2005). It may seem that the above presented theses of general social exclusion and inclusion offer a too far-fetched perspective to the theme of exclusion in the context of social policy and political economy of capitalism, but it seems reasonable to assume that organizing wage work falls under the general rules and institutional practices of general social integration. A sporadic example may clarify this point of departure. In an Eurobarometer survey from the year 2008, the respondents were asked to name factors that would put people into a disadvantaged position when applying for a job. The question also included an assumption that the skills and qualifications of compared applicants would be at the same level. The most common reply (50%) was that the “look, dress sense or presentation” would cause disadvantage, the next disadvantageous factors were age (45%), skin color or ethnic origin (42%), disability (41%) and general physical appearance (about 35%) (European Commission, 2010, pp. 22, 25). Indeed, aspects of general societal integration seem to play a role when decisions of inclusion and exclusion to wage work are made. The above presented general elements of inclusion and exclusion must be complemented by factors that apply particularly to the inclusion and exclusion to wage work in the capitalist economy. Below, six additional theses concerning inclusion and exclusion to wage work are presented. Firstly, private ownership of the means of production forms a fundamental basis of exclusion from wage work in capitalism. A great majority of population is excluded from the ownership of the means of production and decision making rights concerning production of goods and services (Marx, 1974, pp. 159-161; Koch, 2006, pp. 1-8). Secondly, as self-evidently as the wage workers are excluded from the managing of production, the managers of firms and capital are included into it. These fundamental exclusions and inclusions constitute basis of class relations at the macro- and micro-levels of a capitalist socio-economic order. Thirdly, gainfully employed (wage workers and small entrepreneurs as a minority) are included into productive work, but they are threatened by exclusion (firing or bankruptcy). In addition to the modern ideology of work, sometimes referred as “work ethics”, this threat creates disciplinary pressures to employees. Employers’ right to hire and fire employees is an essential basis of their power position in the economy and society. Fourthly, “unemployed” are excluded from wage work but included to the “labor force”. Fifthly, only those that are outside of the labor force and dependency of the capitalist economy are excluded from direct necessities of the capitalist economy (children, pensioners, people living of some treasury or alternative economic form). Sixthly, the basic situation of inclusion and exclusion in the capitalist economy can be conceptualized in a Marxian way by constructing social classes of capital and labor (see theses one to two above) but historical configurations of political economy are much more complicated. It is therefore reasonable to grasp these diverging configurations with Weberian tradition that is, as Max Koch has put it, “interested in the different forms that exclusion takes at the level of the distribution of social wealth and in non-economic social fields” (Koch, 2006, p. 9). Diverse positions in the capitalist economy give birth to diversified material bases of individual and group interests. These interest positions are illustrated in Figure 1.

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

819

Exclusion, work Excluded Owners of means of production Unemployed

Inclusion, capital

Exclusion, capital Supported employment

Managers Peripheral employees Entrepreneurs core employees Inclusion, work Figure 1. Inclusion, exclusion and interest positions.

In the left-hand side of Figure 1, diverse positions of capital owners (excluded from work but included to capital), managers (included to functions of capital and work to diverging degree) and entrepreneurs (included to capital and work) are presented. The right-hand side presents diverse positions of workforce and those disintegrated from the system. Core employees of private firms and public sector are quite securely included to wage work and excluded from functions of capital. When moving from the position of core workers to the direction of unemployed the socio-economic position of wage earners becomes more precarious. These all groups belong to the “labor force”. “Supported employment” refers to employment that has been subsidized by the public sector. Lines drawn between diverse positions indicate possible movement between socio-economic positions. “Excluded” are all those people that are excluded both from the wage work and functions of capital (children, students, pensioners and so on). Actually, Figure 1 makes an old point. Even if exclusion in capitalism is fundamentally a class issue (Byrne, 2005, p. 177) it is not solely a class topic. Diverse interest positions of employees give rise to contrasting positions in the capitalist economy. Hence, the unity of class action is very difficult to attain even if the capitalist economy in principle divides people neatly into owners and managers of capital and wage workers (see for example, Weber, 1985, pp. 177-179). At the level of every-day politics and in social political discourse, this perspective of class is normally excluded. In addition, in different modes of historical capitalism the relationships and organizational patterns of the groups presented in Figure 1 differ from each other leading to divergent national systems of welfare-states, industrial relations and regulation of capital (see for instance, Crouch, 1994;

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EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

Nieminen, 2005; Koch, 2006). In these national regulative systems, dialectics of inclusion and exclusion differ from each other as for example Gösta Esping-Andersen has shown in his influential book The Three Worlds of Welfare Capitalism (1990).

Unemployment and Economic Development in Finland 1989-2009 After dealing with conceptual topics in the first section of this article, this second section handles empirical developments of unemployment and the economy in Finland from 1989 to 2009. Table 1 presents basic data concerning unemployment and poverty. Table 1 Unemployment, Long-Term Unemployment and People Receiving Income Support, 1989-2009 (%) Unemployment a

Year 1989

3

Long-term unemployment b 2

Receivers of income support c -

1990

3

-

-

1991

7

9

7

1992

12

-

9

1993

16

31

10

1994

17

-

11

1995

15

38

11

1996

15

35

11

1997

13

30

11

1998

11

28

10

1999

10

30

9

2000

10

29

9

2001

9

26

8

2002

9

24

8

2003

9

25

8

2004

9

23

7

2005

8

25

7

2006

8

25

7

2007

7

23

6

2008

6

18

6

2009

8

18

a

b

Notes. - Data unavailable; Unemployment rate as % civilian labor force; Unemployed for more than 1 year as % of unemployment; c Receivers of income support as % of 25-64 years old population. Sources: OECD 2010 (unemployment); Sotkanet 2010 (receivers of income support).

Table 1 shows the drastic consequences of the economic recession in the beginning of the 1990s. In few years’ time, unemployment rate rose from 3% to 17%, and the share of long-term unemployed of all unemployed from 2% to 38%. Also the share of receivers of income support rose but much less, most likely because most of the unemployed received financial support from unemployment insurance and not from the public sector social help. After the first half of the 1990s, the situation has got better but part of the unemployment has been transformed to structural unemployment and unemployment figures have remained at a relatively high level. In

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

821

2009, a new economic downturn caused increased unemployment again. The increase of unemployment since the beginning of the 1990s has been associated with an increase of relative poverty (poverty rates as 50% of median income) as well, though the level of relative poverty as percentage of population by the mid-2000’s was lower than in the mid-1970s (OECD, 2009): y mid-1970s: 9.9; y mid-1980s: 5.1; y mid-1990s: 4.9; y mid-2000s: 7.3. Hence, unemployment has caused increased poverty but activities of the Finnish welfare state (unemployment insurance and other forms of economic support) have been able to reduce its effects to a considerable degree. For instance, according to the OECD statistics, without taxes and transfers the Finnish poverty rate in the mid-2000’s (as 50% of median income) would have been 17.6% instead of 7.3% (OECD, 2010). The general level of unemployment hides divergence among groups. Table 2 displays unemployment among foreign-born, young and in a peripheral area, in this case Lapland. The table does not include comparisons between sexes since differences of unemployment between women and men have been relatively small, from four to zero percent (Hulkko & Tossavainen, 2009, p. 189). As can be seen from Table 2, exclusion of foreign-born, young and peripheral population was especially harsh during the recession in the 1990s but the unemployment among these groups has been well above average also during the period of stable economic growth from the mid-1990s to the late-2000s. These figures show that to entry the gainful employment is not self-evident. In thesis five concerning exclusion in capitalism (see Figure 1) it was pointed out that diverse groups of employees have different kinds of interest positions; every employee does not share a similar position in the division of power and wealth. To further examine these differences, Table 3 presents unemployment by occupational status. Interestingly, the unemployment has been the lowest among those groups that occupy high positions in hierarchies of work organizations (professionals, technical and related workers, administrative and managerial workers, legislators, senior officials and managers). For instance, in 1994 unemployment rate among administrative and managerial workers was 5% and among production and related workers 20%. It could be assumed that high-ranking employees is more productive or otherwise crucial for organizations and their unemployment rate is therefore lower than among other groups. Yet, an equally plausible explanation is that these well-positioned groups are in better position to safeguard their interests. An example from the realm of industrial relations clarifies this. In autumn of 2007, the Confederation of Finnish Industries announced the end of centralized tripartite negations and simultaneously decided to abolish its industrial relations unit. This organizational change was, however, due to be realized only after the retirement of the head of this unit (Eiro, 2008, p. 1). In this case, it appears that a whole organizational renewal was made dependent on particular interests of a singular high-ranking employee. However, Table 3 shows that in the worst position are workers without classifiable occupation, these people are most likely individuals without basic or occupational education. These figures underline just how important formal education is as a prerequisite of inclusion to wage work in Finland. Educational system appears to be the most important gate-keeper of wage work.

822

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

Table 2 Unemployment Among Foreign-Born, Young and in Lapland (%) Year Foreign-born a 20-24 years old b Lapland 1989 6 1990 7 1991 13 13 1992 23 21 1993 30 26 1994 31 27 1995 30 27 26 1996 25 26 1997 21 25 1998 20 23 1999 16 22 2000 32 17 21 2001 16 20 2002 16 19 2003 19 18 18 2004 23 17 17 2005 23 16 17 2006 18 15 16 2007 15 12 13 2008 12 13 2009 17 Notes. - Data unavailable; a Unemployment rate among foreign-born labor force; b Unemployment rate among 20-24 years old labor force. Sources: OECD, 2010 (foreign-born unemployment); Tilastokeskus, 2010a (youth unemployment); Sotkanet, 2010 (unemployment in Lapland).

Table 3 Unemployment by Occupational Status 1990-2008 (% of Sum of Employed and Unemployed) Occupational status (ISCO-1968)

1990

1994

1999

Occupational status (ISCO-1988)

2008

Professional, technical and related workers

1

9

6

Legislators, senior officials and managers

2

Administrative and managerial workers

1

5

2

Professionals

3

Clerical and related workers

1

11

5

Technicians and associate professionals

4

Sales workers

2

13

11

Clerks

6

Service workers 3 Agriculture, animal husbandry and forestry 3 workers, fishermen and hunters Production and related workers, transport 4 equipment operators and laborers Not classifiable by occupation 20

17

11

Service workers and shop and market sales workers

6

11

8

Skilled agricultural and fishery workers

5

20

10

Craft and related trade workers

6

27

14

Total unemployment rate

3

16

10

Plant and machine operators and assemblers

5

Elementary occupations

12

Not classifiable by occupation

71

Total unemployment rate

6

Note. Source: ILO, 2010.

Economic ups and downs explain a great deal of unemployment in capitalism. It is therefore motivated to take a look at some basic economic statistics that shed light to changes in unemployment and dynamics between

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

823

economic development and exclusion. Table 4 displays changes in gross national product, exports of goods and services, net outflows of foreign direct investments, operational surplus of firms, i.e., profits, and compensation of employees. Table 4 Yearly Gross Domestic Product Change (%), Exports of Goods and Services, Net Outflows of Foreign Direct Investments (FDI), Operational Surplus, Compensation of Employees (% of GDP) Year

GDP

Exports

1989

5

23

1990

0

23

1991

-6

1992

-4

1993 1994

FDI

Surplus

Compensation

3

26

53

2

26

55

22

-0

23

58

26

-1

26

56

-1

32

2

30

52

4

35

4

32

51

1995

4

36

1

33

50

1996

4

37

3

32

50

1997

6

39

4

33

49

1998

5

38

14

34

48

1999

4

39

5

34

48

2000

5

44

20

35

47

2001

3

41

7

35

48

2002

2

40

6

35

48

2003

2

39

-1

34

48

2004

4

40

-1

34

48

2005

3

42

2

33

49

2006

5

45

2

34

49

2007

4

46

3

35

48

2008

1

44

1

33

49

2009

-8

-

-

30

53

Notes. - Data unavailable. Sources: World Bank, 2010 (GDP, exports, FDI); OECD, 2010 (surplus, compensation); Tilastokeskus, 2010b (GDP change 2009).

The first column of Table 4 depicts yearly changes of gross national product. It has varied exceptionally much during the recent twenty years. First, in the beginning of the 1990s a recession is reflected in a dramatic drop of gross national product and even more dramatic rise of unemployment as presented in Table 1. In 2009, gross national product fell again dramatically 8%, but this drop did not lead to corresponding rise of unemployment. A reason for this might be that firms and public sector had already done drastic “rationalization” during the 1990s and that there is simply less room for further reduction of work force. Another reason is that the government has led the public deficit to grow and thus supported public employment and the economy. Recession, Finnish membership of the European Union (2005) and interests of firms to internationalize their activities have caused considerable Europeanization and globalization of the Finnish economy. Exports’ share of gross national product has risen from little over 20% to over 40% during the last 20 year. Also outward foreign direct investments have been rising. Exclusion from wage work has not been disadvantageous for firms since

824

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

their surpluses (profits) have risen from the level of 26% of gross national product (1990) to over 30% of gross national product in the 2000s. At the same time, the share of compensation to employees has shown declining tendency, though this tendency has been more moderate. In short, in Finland the risen level of exclusion has been concurrent with economic success and increasing globalization of the economy. Whether the economic success has been because of exclusion or in spite of it cannot be said for sure. Yet, rationalization, that is firing of employees, has increased per capita productivity and unemployment does create disciplinary pressures to employees which most likely lead to intensification of working. These factors do most likely support the efficiency of firms albeit in quite crude way that does not fit well to the demands of knowledge intensive production.

Policies and Initiatives of Inclusion The functioning of the labor markets and the capitalist economy have excluded a great number of people from gainful employment as shown in the previous section. Diverse social political measures have supported the unemployed and thus enhanced their inclusion into the society and economy. The main means of this inclusion have been diverse passive and active labor market measures within the framework of the Finnish welfare-state. The share of labor force that has taken part in diverse labor market policies is depicted in Table 5. Unfortunately, data for years prior to 1998 was not available in the OECD database. Table 5 Participants on Labor Market Programs (% of Labor Force) Labor market programs

1998

2002

2007

Training

2.87

1.61

1.86

Job rotation and job sharing

0.43

0.30

0.29

Employment incentives

0.36

0.68

0.60

Supported employment and rehabilitation

0.35

0.36

0.31

Direct job creation

1.04

0.46

0.51

0.07

0.17

Start-up incentives Out-of-work income maintenance and support Early retirement Sum

0.10 13.7

11.2

7.2

1.78

2.08

1.69

20.63

16.76

12.63

Note. Source: OECD, 2010.

Table 5 shows that participation to diverse labor market measures exceeds well unemployment figures. For example, in 1998 unemployment was 11% (see Table 1) but participation to diverse labor market programs exceeded 20% of the labor force. This shows that without activities of the welfare-state the unemployment situation would be much worse than the already relatively high unemployment figures indicate. In other words, the economy has been implicitly even more exclusive than explicit unemployment statistics have let to know. Another crucial observation from Table 5 is that even if there has been a lot of fuss about activating of unemployed, the passive measures of income maintenance and support have taken the lion’s share of all policy measures. Records shown in Table 5 provide an overview of the activities of the Finnish welfare-state in relation to the unemployment, but what have been the policy debates and initiatives in relation to the severe unemployment?

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

825

Unemployment and social exclusion have been given quite a lot attention to political debates and governments’ policy programmes, but this has happened in the framework of traditional Finnish economic policy that stresses the economic growth and the success of exporting industries as fundaments of a good employment situation. No political party or labor union has attempted to raise the unemployment topic itself to the status of a main political issue. Unemployed themselves have organized three national demonstrations, so called “rupture Thursdays” (murrostorstai), in 1993, 1996 and 2009 in the context of the most recent economic downturn. These demonstrations have attempted to politicize unemployed (Wikipedia, 2010). Especially, the first of these demonstrations was given large media coverage because the participants voiced their demands quite aggressively at the front of the Parliament. Police warned the members of the Parliament that if they went among the demonstrators their safety might be in danger. Also the Central Organization of Finnish Trade Unions (Suomen Ammattijärjestöjen Keskusliitto), a powerful confederation of blue-collar unions, took part in organizing another demonstration of the unemployed but as the demonstrators demanded resignation of the government the Central Organization of Finnish Trade Unions decided not to organize such demonstration any more. The unemployed have established a number of regional organizations that have also a national central organization, but these organizations have functioned more as social political organs than as political interest organizations of the unemployed. They have offered diverse activities and supported employment to the unemployed, but they have not put forward political demands concerning exclusion from gainful employment. In sum, it seems fair to say that excluding a few attempts, the potentially political question of unemployment has been successfully restricted and defined as a problem of social policy or it has been subordinated under other interest in the economic policy making. The Finnish labor unions have not gone to the barricades because of the jobs, but they have defended the economic interests of their (un)employed members. In 1992, when the centre-right government was in power, the unions threatened the government with a general strike if it cut unemployment benefits as it had proposed. The government backed down. The same conflict situation was repeated in 1993 when the government wanted to lower the threshold for employing a young person by lowering their wages. The same situation recurred in the spring of 1996 when a Rainbow Government (right and left wing parties and the Greens) was in rule. The government wanted to cut unemployment insurance more than the unions thought had been agreed before. This led to a general strike threat in the spring of 1996, and the government backed down. The main reason for the unions’ strong defense of unemployment insurance is that unemployment benefit societies are operated by trade unions. The system of unemployment insurance makes up one of the cornerstones of the unions’ strong position in Finnish society (Kauppinen, 1997, pp. 38, 44-45). An important and appealing initiative of inclusion has been the idea of job sharing. Indeed, it is irrational that at the same time as many people are doomed to unemployment those employed are working under an increasing stress (Julkunen & Nätti, 1997, p. 9). In fact, the recession in the 1990s led to a strong increase of productivity and by the late 1990s a considerably less workers produced a bigger gross national product than in the beginning of the 1990s (see Table 4). In this kind of a situation, job sharing seems to offer at least a partial inclusive solution to the problem exclusion from wage-work. In the 1990s, a number of experiments and attempts of job sharing were realized in Finland. These experiments and attempts included: subsidized part-time work, six hour working day, reorganization of working time into two six hour shifts (“6 + 6” working time model) and a sabbatical leave scheme (Julkunen & Nätti, 1997, pp. 127-164).

826

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

These intriguing experiments have remained marginal in Finland as can be seen also from Table 5. The sabbatical leave system, in which an employed person takes a leave and at the same time an unemployed is hired as a replacement, has proved to be the most successful form of job sharing. The temporary legislation of sabbatical leave has been extended and the compensation for persons using it improved (Eiro, 1999, p. 2; Eiro, 2008, p. 3). Why job sharing has not gained ground as an answer to the unemployment problem in Finland? According to Julkunen and Nätti (1997, pp. 24-33) there are three main routes to full employment: growth based full employment, policy line of economic liberalism that allows wages to adjust to the needs of the labor markets (or to the needs of employers), and a policy line that is critical to “work society”. Social democratic growth based full employment stresses an economic policy that supports the economic growth, education, technological innovations and so on. In this policy line, job sharing has only a minor role to play as a temporary solution to unemployment. An alternative red-green policy line takes a critical stance towards a “work society”. It would guarantee basic income for all; common job sharing through shortened working-time and it would strengthen the role of citizen and third sector activities. In Europe Ulrich Beck, André Gorz and Claus Offe, among others, have pledged for this kind of solution. Conservative or (neo)liberal solution would lead wages to diminish until enough demand would have been created in the labor markets. In this model job sharing that would disrupt the functioning of markets has of course no place. The Finnish employment policy has so far followed mostly the social-democratic solution, though this policy has mainly concentrated on financial support of unemployed instead of active labor market measures (see Table 5). It seems fair to say that in Finland organizations of capital and labor constitute a productivistic alliance that believes in the economic growth and its advantageousness to the capital and labor alike (Julkunen & Näkki, 1997, p. 103; Eiro, 2002). Also Finnish governments, regardless of their political constitution, tend to adhere to this ideology. For instance, in summer of 2010, the government stated that (Finnish Government, 2010): For Finland to pull through, necessary elements include enabling growth, raising productivity, extending working life and curbing expenses. In addition, reforms to boost employment and a structural reform of taxation to increase tax revenues are needed... The government seeks to provide conditions for faster-than-projected economic growth and a higher employment rate in the entire country.

A national productivistic alliance of organized capital, labor and the main political parties is prepared to let unemployment rise if an economic downturn takes place. The costs of this exclusion are, but to the unemployed, employees who pay for unemployment insurances and the public sector. In comparison to the power of this relatively liberal variant of social-democratic solution, the other two solutions of economic and employment policy, liberalism and green-red policy, have remained marginal in Finland.

From the Present Political Economy of Exclusion to Future Potentialities of Inclusion Finnish capitalism is without a doubt mature or (post-)Fordist capitalism in which the capitalist economy ensures its own reproduction via virtuous circle of mass production (wage work) and mass consumption. Through domestic and foreign consumption capital is able to make profits and accumulate capital which ensures further production (wage work). This last connection closes the virtuous circle of reproduction of the Finnish capitalism and its mode of regulation. This virtuous circle as well as inclusion in and exclusion from wage work are presented in Figure 2. In cases of exclusion, social policy steps into arena and supports more or less effectively

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827

those excluded from the gainful employment by means of economic support, rehabilitation, education, training or pensions (see the previous section and Vleminckx & Berghman, 2001, p. 42). Numbers in Figure 2 refer to data presented in Tables 1-5, indicating magnitude and fluctuations in different elements of dynamics of reproduction of Finnish capitalism. One way to summarize Figure 2 is to state that it describes an intensive regime of accumulation of capital. In an “intensive regime of accumulation”, realization of capital investments is ensured by binding production and consumption to each other. Mass production that is connected with mass consumption ties capitalist production and the people’s way of life tightly together. Social and educational policy Exclusion: -No education; -Unemployed (3-17%): Level of education, low position in hierarchy (see Table 3), branch of economy, peripheral area (Lapland 13-27%), young (6-31%), immigrants (15-32%); -Low working abilities; -Retired.

Inclusion: -Education; -Entrepreneurship; -Supported employment (0.31-0.36%).

Social political measures of inclusion Points and dynamics of exclusion Gainful employment (97-83%) & production (-6-6%)

Capital

Profits (23-35%)

Political regulation by organized capital, labor and political forces (centralized corporatism that has decentralized)

Wages, incomes (47-58%)

Consumption/exports (22-46%)/FDI (-1-20%)

Figure 2. Reproduction, regulation and exclusion in capitalism (% refer to data in Tables 1-5).

Throughout decades the development of this virtuous circle has been more or less effectively regulated by the organized capital, labor, political parties and other political forces (on this history see Kauppinen, 1994 and yearly Eiro reports on Finnish industrial relations retrieved from www.eurofound.europa.eu/eiro/). This regulation has included decisions concerning the economic and labor market policies, creation and maintenance of a national ideology of the common economic interests and a functional adjustment of diverse organs and actors. This regulation has affected and shaped actors at both macro- and micro-levels of socio-economic life (On the notion of regulation behind Figure 2, see Nieminen, 2005, pp. 116-124). In the time period handled in this article, the politico-economic regulation of labor market and the economy has been exercised in a very centralized manner that for its part ensured capital’s profits and a moderate growth of

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wages (see Table 4). However, contrary to the prevailing ideology of Finnish economic nationalism this success of exporting industries (see Table 4 on growth of exports and foreign direct investments (FDI)) did not lead to corresponding improving of employment situation (see Tables 1-3). Fractions of capital, especially a few prominent managers of big firms, have criticized centralized incomes policy since its introduction in the late-1960s. This as such is nothing exceptional, since often criticism of a social phenomenon is just as old as the phenomenon itself. However, in 2007 organized capital put this criticism in practice as the Confederation of Finnish Industries announced the end of centralized incomes policy agreements (Eiro, 2008, p. 1). The following collective negotiations were conducted at the branch level and they led to considerably higher rises in pay that centralized agreements. In exchange for relatively high pay rises these agreements included also decentralization of wage formation and more flexible working times (Eiro, 2010a, p. 2). It is interesting to note that even if more decentralized negotiations led to increases in pay, the organized capital has been satisfied with the consequences of its decision. But this is not so surprising if one recalls that politico-economic relations include not just economic rationale but also power relations. In some cases management of firms and functionaries of organized capital are willing to make economically unsound decisions if they are thus able to strengthen their power position (Eiro, 2009a, p. 3). These latest developments are still a far cry from decentralization of the regulative mode of the Finnish capitalism. This is so because the branch level is still a quite centralized level of regulation, though some topics have been transferred to the firm level within the framework of the branch level agreements. Furthermore, employer side has demanded the establishment of a national “wage anchor” in accordance of the wage levels negotiated by the exporting industries (Eiro, 2009b, p. 1), and as a new economic recession hit Finland in 2009, they even started centralized behind-the-scene negotiations with labor unions. The reasons for these negotiations were “faltering of labor peace” and a director of the Confederation of Finnish Industries pledged to the national economic situation stating that “the boundary disputes and oversized salary requirements demanded by certain trade unions are inappropriate in the current economic situation that is the worst on record”. Somewhat humorously these negotiations were interrupted as their existence was leaked to public (Eiro, 2010b, p. 3). Also government has tried to strengthen centralized political regulation after 2007. In 2009, the minister of finance offered not to rise income tax if the trade unions accepted moderate pay increases (Eiro, 2010c, p. 1). This initiative failed, but it shows continuing political interest on centralized regulation of wage work as does the following utterance of the government from summer 2010 (Finnish Government, 2010): In Finland, the global economic recovery is best utilized through wide-ranging cooperation between the Government, business life and wage and salary earners. One goal of such cooperation needs to be the securing of our international competitiveness.

Additional factors that will most likely keep the centralized regulation of labor markets and the economy alive include the fact that organized capital is still taking part in preparation of legislation in number of cooperative working groups that deal with the economic and labor market issues (Eiro, 2008a, pp. 2-3), the ideology of economic nationalism (“national competitiveness”) and the informal norms created by it continue binding diverse actors and also the economic policy of the European Union is exercising its uniting force at the national level. Thus, despite of decentralization of industrial relations and much celebrated Europeanization and

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globalization of the economy, economic nationalism is alive and kicking (On dynamics of reproduction of national regulation of the economy and labor markets see Nieminen, 2005, pp. 182-196). Processes of inclusion and exclusion to the wage work are presented in the upper part of Figure 2. Inclusion into this circle of production and consumption takes mainly place through the educational system which hierarchies correspond to those that prevail in wage work (see Table 3), via entrepreneurship and by supported employment. Correspondingly, exclusion from this circle of reproduction of the wage work and the capitalist economy takes place as soon as a person lacks education, has a low position in the hierarchies of the economy, the branch of the economy in which she/he has been employed is “rationalized”, a person lives in peripheral area, is young or immigrant, or has low working abilities (handicapped, former addicts, people in mental rehabilitation and so on) (see Tables 2-3 on unemployment among some of these groups). In the case of exclusion, the virtuous circle of socio-economic benefits turns into the vicious circle of exclusion and socio-economic disadvantages. Habitually, it is assumed that education and training would help people out of the vicious circle of exclusion and hence the importance of education is stressed (indicated in Figure 2 by an arrow at its upper part). The following paragraphs discuss functions of inclusion and exclusion in capitalism and the article closes by briefly examining potentials for a more inclusive economy and society. Based on categorization of Robert Merton (Merton, 1996), manifest, latent and dysfunctions of exclusion and inclusión are handled separately. The most important manifest function of including people into wage work is that the whole functioning of the mature or (post-)Fordist capitalism is based on a virtuous circle of production, incomes and profits as presented in Figure 2. It is important to keep in mind that in the mature capitalism employees cannot be exploited at will, but there must exist enough purchasing power to ensure the consumption of the services and goods. In this system work, consumption, culture and ideology melt into a comprehensive way of life that ensures intensive accumulation of capital. In this respect, the present capitalism is not just a capitalist economy, but it is increasingly a capitalist society. This development is reflected in socio-political discussions concerning the “relative poverty”, that is, the threshold under which individuals and households cannot any more take part in average life of their respective national societies (threshold of exclusion). As the average standard of living rises, so does the threshold of relative poverty. A more latent function of inclusion is that through inclusion to the system of wage work individuals, households and families become included into a massive global system of the division of work, wealth and power. This is a relatively latent function because it is almost impossible to be aware of all connections, dynamics and consequences of the present economic system. A dysfunction of inclusion to wage work for workers stems from its totalitarian character. Work and consumption constitute a one-dimensional comprehensive framework for education, the life course, free-time activities and so on. For employers inclusion of the whole labor force presents a problem because full employment strengthens employees bargaining positions in the labor markets. The most important manifest function of exclusion from wage work is that employers’ right to hire and fire employees constitutes a fundament of class relations in capitalism. Realized or potential exclusion has a powerful disciplinary effect to employees (Koistinen, 1999, p. 192). The fundamental character of hiring and firing rights appears to be the reason why it is so difficult to transform the problem of unemployment into a genuine political issue. Also in Finland the political left or labor unions did not want to give the problem of unemployment its full political weight. This is no wonder, because even in Germany in the 1920s and in the beginning of the 1930s,

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when the political situation was much more critical, labor unions and social democrats avoided strong political reactions to unemployment (Neumann, 2009, p. 17). Exclusion is directly beneficial to number of individuals and groups. When unemployment figures are high the bargaining position of labor is weak and there is less inflation, prices may even fall. Employers and the bulk of employees that have their jobs profit from this state of affairs. Whereas dysfunctions of exclusion are obvious (collapse of incomes, decreasing consumption, poverty, mental and other health problems like alcoholism and drugs abuse, exclusion from social relations) its latent functions offer an interesting perspective into societal unconsciousness. It is indeed somewhat paradoxical that at the same time as the modern social order creates vast inequalities of wealth and power it is able to presents itself historically as the most equal social order (on historical comparisons concerning inequality see Lenski, 1977). This controversial state of affairs leads to the denial of exclusive practices, their hiding in diverse explanations and a formation of societal unconsciousness. In this way, it is possible to announce a fight against the poverty and exclusion at the same time as one is competing for better socio-economic positions, cuts social benefits and takes part in diverse exclusive practices. Societal unconsciousness can be approached from the points of view of psychoanalysis, societal ideology or from the point of view of Erwin Goffman’s “presentation of self in everyday life” in which people may try to give morally better impression on themselves than they really are (see, for instance, Deleuze & Guattari, 2007; Cuéllar, 2010, Chap. 6). To open this perspective of societal unconsciousness, let us consider what facts the public discourse of exclusion keeps in dark. Firstly, the socio political discourse of exclusion tends to concentrate on individual characteristics of excluded. “Active social policy”, as well as “active labor market policy”, strive to “activate” individuals and enhance their “employability” thus undermining and hiding the structural and intentional character of exclusion. Secondly, this individualizing discourse that concentrates on excluded, and not on those who actively exclude, hides also those gains and profits that are made by excluding people from wage work. These profits and gains include disciplinary effects created by unemployment, worsening of the labor’s labor market position, slowing of inflation or deflation that is beneficial for those employed. These gains include also a psychologically rewarding feeling of being a successful person for those who remain included into the group of employed (Koistinen, 1999, p. 192). Lastly, a societal figure of “excluded” functions as a projective object to a successful and active individual that earns money and takes part in normal patterns of consumption in a society. An image of excluded person is an antithesis of included person. This makes it possible for “included” to project their undesired characteristics and risks to “excluded” in the similar manner as humans tend to project unpleasant features to different individuals and social groups labeled as “others” (Kristeva, 1997, pp. 191-200; Deaux, Dane, Wrightsman, & Sigelman, 1993, p. 363). The societal figure of excluded fits well to the intensive accumulation of capital, because it depicts a many-sided antithesis to a successfully included wage earner. In a way, an excluded person exists only as an anti-thesis to the subjectivity of a successful wage earner and her/his way of life. In these ways exclusion helps to reproduce and regulate the present capitalism with its intensive mode of capital accumulation (on a similar function of “untouchable” in Indian caste system, see Luhmann, 1997, pp. 620-621). Given the above presentation of exclusion in the capitalist economy, what potentials does a more inclusive politics have? Because a market liberal solution to exclusion from wage work leads easily to creation of a group of working poor who are in effect excluded from many realms of society, a market liberal policy line offers a

EXCLUSION FROM WAGE WORK AND REGULATION OF CAPITALISM

831

weak option for more inclusive politics. Job sharing seems to offer a more attractive alternative though it requires a great deal of solidarity between employees and a possibility of restricting employers’ right to manage labor force. Comprehensive schemes of job sharing (through legislation or comprehensive collective agreements) mean actually that jobs are taken out of competition. Would that not mean an end to the capitalism as we know it? Yes, but it would not mean the end capitalism itself because even if firms’ freedom of action would be restricted in the area of employment it would still leave amble of room for actions in the realms of organizing production, the markets of goods and services, technological solutions and so on. If job sharing schemes would be established by comprehensive political regulation they would not harm competition because the restrictions would be the same for all actors. In addition to inclusion, job sharing would for its part keep the demand of goods and services up because the whole work force would have a decent purchasing power (see Figure 2). In fact, during the history of capitalism, a number of factors have been taken out of competition. For instance, slavery has been (mainly) abolished, child labor has been prohibited, wages have increased enormously and working time diminished, currently the exploitation of the nature is being restricted. If capitalism has not only survived these restrictions but its creation of prosperity has multiplied, why it would not stand full employment? Another option for inclusive politics would be an introduction of basic income to all. This option would take economic survival out of competition and it would not harm employers’ freedom of action though it would at least partially abolish the disciplinary function of unemployment. It may even not be considerably more expensive than the present system of social benefits. As job sharing, also this option would have the advantageous effect of supporting the demand of goods and services. In a nutshell, even if capitalism is an economic system that is by definition exclusive, its development potentials seem to offer possibilities for more inclusive structures especially since the mature capitalism has strong inclusive tendency (see Figure 2).

References Brown, L. (Ed.). (1993). The new shorter Oxford english dictionary on historical principles (Vol. 1, A-M). Oxford: Clarendon Press. Bude, H., & Willisch, A. (Eds.). (2008). Exklusion. Die Debatte über die “Überflüssigen”. Frankfurt am Main: Suhrkamp. Byrne, D. (2005). Social exclusion. Maidenhead: Open University Press. Crouch, C. (1994). Industrial relations and European state traditions. Oxford: Clarendon Press. Cuéllar, D. P. (2010). From the conscious interior to an exterior unconscious. London: Karnac Books. Deaux, K., Dane, F. C., Wrightsman, L. S., & Sigelman, C. K. (1993). Social psychology in the 90’s. Pasific Grove, California: Brooks/Cole Publishing Company. Deleuze, G., & Guattari, F. (2007). Anti-oidipus. Kapitalismi ja skitsofrenia (Anti-Oedipus). Helsinki: Tutkijaliitto. Eiro. (1999). 1999 Annual Review for Finland. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2000). 2000 Annual Review for Finland. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2002). Social partners propose measures to combat unemployment. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2008). Employers announce the end of centralized tripartite bargaining structure. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2009a). Finland: EIRO annual review—2007. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2009b). National wage negotiations at a standstill. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2010a). Finland: EIRO Annual Review—2008. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm

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Eiro. (2010b). Slow progress in negotiations on new collective agreements. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Eiro. (2010c). Mixed reactions from unions to tax freeze in exchange for wage moderation. Retrieved May 17, 2010, from http://www.eurofound.europa.eu/eiro/index.htm Esping-Andersen, G.. (1990). The three worlds of welfare capitalism. Cambridge: Polity Press. European Commission (Directorate-General for Employment and Social Affairs Unit E. 2004). (2004). Joint report on social inclusion 2004. Luxembourg: Office for Official Publications of the European Communities. Retrieved July 4, 2010, from http://ec.europa.eu/employment_social/social_inclusion/ European Commission. (2010). Combating poverty and social exclusion 2010. A statistical portrait of the European Union. 2010, from Luxembourg: Publications Office of the European Union. Retrieved June 1, http://epp.eurostat.ec.europa.eu/portal/page/portal/eurostat/home Finnish Government. (2010). Government Statement to Parliament on Government Program of Prime Minister Mari Kiviniemi’s Government appointed on 22 June 2010. Retrieved August 3, 2010, from http://www.vn.fi/hallitus/hallitusohjelma/pdf/en.pdf Helne, T. (2002). Syrjäytymisen yhteiskunta. Stakes, tutkimuksia 123. Helsinki: Stakes. Hulkko, L., & Tossavainen, P. (2009). Työttömyys ennen ja nyt. In A. Pärnänen, & K. M. Okkonen (Eds.), Työelämän suurten muutosten vuosikymmenet. Työmarkkinat 2009 (pp. 181-199). Helsinki: Tilastokeskus. ILO (International Labor Organisation). (2010). Laborsta, ILO Database on Labor Statistics. Retrieved July 8, 2010, from http://laborsta.ilo.org/default.html Julkunen, R., & Nätti, J. (1997). Työn jakaminen. Moraali, talous, politiikka. Tampere: Vastapaino. Juppi, P. (2010). Media syrjäytymisen määrittelijänä ja selittäjänä. In T. Laine, S. Hyväri, & P. Vuokila-Oikkonen (Eds.), Syrjäytymistä vastaan sosiaali- ja terveysalalla (pp. 325-352). Helsinki: Tammi. Kauppinen, T. (1994). The transformation of Finnish labor relations. Helsinki: The Finnish Labor Relations Association. Kauppinen, T. (1997). Labor relations in Finland. Helsinki: Ministry of Labor. Koch, M. (2006). Roads to post-fordism. Labor markets and social structures in Europe. Aldershot, Burlington: Ashgate. Koistinen, P. (1999). Työpolitiikan perusteet. Porvoo, Helsinki & Juva: Werner Södeström Osakeyhtiö. Kronauer, M. (2010). Exklusion. Die Gefährdung des Sozialen im hoch entwickelten Kapitalismus. 2., aktualisierte und erweiterte Auflage. Campus Verlag: Frankfurt/New York. Kristeva, J. (1997). Strangers to ourselves. Viborg, Danmark: Natur och Kultur.s Lenski, G. (1977). Macht und Privileg. Eine Theorie der sozialen Schichtung. Frankfurt am Main: Suhrkamp. Luhmann, N. (1997). Die Gesellschaft der Gesellschaft. ZweiterTeilband. Frankfurt am Main: Suhrkamp. Marx, K. (1974). Pääoma I. Kansantaloustieteen arvostelua. Pääoman tuotantoprosessi (Capital I). Moscow: Kustannusliike Edistys. Merton, R. (1996). On social structure and science. Edited and with an Introduction by Piotr Sztompka. Chicago and London: The University of Chicago Press. Nieminen, A. (2005). Towards a European society? Integration and regulation of capitalism. Helsinki: Helsinki University Printing House. Neumann, F. (2009). Behemoth. The Structure and Practice of National Socialism, 1933-1944. Chicago, IL: Ivan R. Dee. OECD (Organisation of Economic Co-operation and Development). (2009). Society at a glance 2009—OECD social indicators. Retrieved July 4, 2010, from www.oecd.org/els/social/indicators/SAG OECD. (2010). Source OECD database. Retrieved June-July, 2010, from http://lysander.sourceoecd.org/ Sotkanet. (2010). SOTKA net statistics and indicator bank. Retrieved July 6, 2010, from http://uusi.sotkanet.fi/portal/page/portal/etusivu Tilastokeskus. (2010a). Tilastokeskus, PX-Web-tietokannat. Retrieved July 6, 2010, from http://pxweb2.stat.fi/database/StatFin/Tym/tyti/tyti_fi.asp Tilastokeskus. (2010b). Kansantalouden tilinpito 2009. Retrieved August 3, 2010, from http://www.stat.fi/til/vtp/index.html Vleminckx, K., & Berghman, J. (2001). Social exclusion and the welfare state: An overwiev of conceptual issues and policy implications. In G. D. Mayes, J. Berghman, & R. Salais. (Eds.), Social exclusion and European policy (pp. 27-46). Cheltenham, Northamton: Edward Elgar. Weber, M. (1985). Wirtschaft und gesellschaft. Grundriss der verstehenden soziologie. Tübingen: J. C. B. Mohr (Paul Siebeck). Wikipedia. (2010). Murrostorstai. Retrieved July 29, 2010, from http://fi.wikipedia.org/wiki/Murrostorstai World Bank. (2010). World Bank database. Retrieved July 13, 2010, from http://data.worldbank.org/

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 833-842

Gender Equality Versus Tax System in Albania Raimonda Duka, Areti Stringa University of Tirana, Tirana, Albania

The analysis of tax systems provides information on the impacts of government fiscal policy on individuals, households, businesses, economic growth and development. This enables government decision-makers and society to reach well informed policy decisions. Taxation affects a wide range of social and economic decisions due to the fact that it alters both disposable income and relative prices of goods and services. Decisions about work, savings, consumption and investment are influenced by taxes. Consequently, tax systems should be analyzed with regard to various socio-economic and demographic characteristics. This paper reviews the literature on the gender dimensions of taxation and the implications for Albanian tax policy. Taxation is a critical subject for a gender analysis of development policy for some reasons in the Albania. First, in Albania the majority of the population and the vast majority of women is poor, so adequate financing of public services is a pressing issue with special gender relevance. Second, since taxes are governments’ principal own-source revenues, tax policy is at the heart of the public debate on what services government should provide and who should pay for them. Third, taxes constitute 24.3 per cent of a country’s gross domestic product (GDP), which means that out of every Albanian Lekë (Albanian Currency) earned, a significant share goes to the government. Such a large extraction of resources affects all aspects of social and economic life and—matched with expenditures—determines the path and distribution of development. Keywords: tax system, tax policy, gender bias in tax system

Introduction The passage of Albania on the market economy at the beginning of 1990, like in many other transition economies, experienced a substantial decline in labour force participation rate in the new labour market. Issues related to employment and economic status were far and away one of the most frequently cited gender inequalities facing Albanian women. Many people believe that poverty in Albania is becoming increasingly feminized and women’s economic status is undercut by many factors including out-migration of men, cuts in social spending and social services, exclusion from the privatization process, high levels of unemployment or employment in the informal sector. According to the Labor Force Survey conducted by INSTAT in 2009, 87.93% of the Albanian population is

Raimonda Duka, Associate Professor, Department of Economics, Faculty of Economy, University of Tirana. Areti Stringa, Associate Professor, Department of Mathematics, Statistics and Applied Informatics, Faculty of Economy, University of Tirana. Correspondence concerning this article should be addressed to Raimonda Duka, Rruga e Elbasanit, Tirana, Albania. E-mail: [email protected].

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GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA

of working age (between 15 and 64). Sixty one point nine percent of the working age population is active in the labor force, whether employed or unemployed. There is a large gap between the labor force participation rates of males and female (73.3% and 51.8% respectively). This gap grew between 2007 and 2009 as shown in Figure 1. 80.0% 70.0%

74.4%

73.3%

72.1%

65.2%

61.9%

61.9%

56.2%

60.0%

52.8%

51.8%

50.0% 40.0% 30.0% 20.0% 10.0% 0.0% 2007 Total

2008 Male

2009 Female

Figure 1. Labour force participation rate by gender.

The unemployment rate in 2009 (13.8% overall) diverged for women and men as well (15.9% and 12.2% respectively). The unemployment is especially high in the age groups of 15-24 for both sexes. According to Labour Force Survey 2009, the ratio of youth unemployment rate (aged 15-24) to the adult unemployment rate (aged 25-64) for 2009 is 2.4 which means that young people are 2.4 times less likely than the adult people to find a job in the labour market. The unemployment rate is higher for females aged 30-54 years (INSTAT, 2009). The employment rate for the population 15-64 is 53.4 percent as shown in Figure 2. Comparing the employment rate for the period 2007-2009, it is evident the declining tendency of female employment rate, while the male employment rate has increased compared with 2008. 70.0% 60.0%

63.6% 56.4%

64.3%

63.0% 49.3%

53.8%

53.4% 45.6%

50.0%

43.6%

40.0% 30.0% 20.0% 10.0% 0.0% 2007 Total

2008 Male

2009 Female

Figure 2. Employment rate by gender (age group 15-64).

Gender distributions in various sectors of employment are markedly skewed. Based on the data for the year 2008, in the non-agricultural private sector, which has enjoyed substantial expansion since the start of the transition, males dominate, making up 70.3% of those who are employed in this sector. Females make up a higher percentage of those who are employed in the agricultural private sector (56.7%) and they comprise 45.7% of the

835

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA total number of employed people in the public sector (INSTAT, 2009).

In terms of occupations, women dominate in the health and education sectors (76.2% and 63% of those employed in these two sectors, respectively, are female). Males dominate almost completely in construction (97.3% of those employed) and transport and telecommunications (83.3%). There are also more men than women employed as “legislators, senior officials and managers” (76.3% and 23.7% respectively), and “service workers, shop and market sales workers” (56.1% and 43.9% respectively). With regard to equal remuneration between men and women, Article 115 of the Labor Code in paragraph 3 provides that the employer give men and women equal pay for equal value to work. This is the test limit by which the employer must prove no discrimination. Although recent data is not available, in early 2000s, INSTAT estimated that men are better paid than women in all sectors and those women with roughly the same qualifications as men earned 35% less than men did (GDAC, 2010). The employment structure by sectors shown in Table 1 reveals that there is a declining tendency in employment in agriculture private sector compared to 2007, while employment in non-agricultural private sector has an increasing tendency. The employment structure by main economic sectors and sex sheds light on the fact that the proportion of female employment is higher in the agricultural private sector. According to employment structure by sector the share of employed females in non-agricultural private sector in 2009 has decreased compared to 2008 (INSTAT, 2009). Table 1 Employment Structure by Economic Sectors and Gender, 2007-2009 (in %) 2007 Male Public sector

15.1

Female

2008 Female

2009

Total

Male

Total

Male

15.4

15.2

18.0

18.7

18.3

16.0

Female 17.6

Total 16.7

Agricultural private sector

36.7

60.4

47.2

33.3

55.8

43.4

33.2

56.5

43.2

Non-agricultural private sector

48.3

24.1

37.6

48.7

25.5

38.3

50.8

25.9

40.1

100.0

100.0

100.0

100.0

100.0

100.0

100.0

100.0

100.0

Total

Note. Source: INSTAT, Labour Force Survey 2009.

The majority of rural women’s labor contributes to small-scale family farms. Rural women are more likely to engage in part-time work than urban women, and some studies suggest that rural women are more able to coordinate their household duties with agricultural work than their urban counterparts who work in more formal sectors. The unpaid labor of women is a problem for both women of urban areas and those in rural areas. The Ministry of Labor, Social Affairs and Equal Opportunities is reviewing the strategy and preparing for the years 2011-2015, which aims to focus on priority issues and setting development priorities. The employment or more broadly economic empowerment of women which includes promoting employment, narrowing the differences in payment between women and men, promoting women’s participation in entrepreneurial activity by applying fiscal policy for women, grants for opening businesses and other measures to increase the number of women entrepreneurs, as well as encouraging them to open new job positions mainly for women will be some of those issues the strategy will tackle (Kodra, 2010). Although both men and women in Albania face grave problems locating suitable employment, there are

836

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA

particular barriers facing women who wish to enter the labor market and obtain jobs: y Lack of support services such as affordable childcare that would facilitate balancing work and family responsibilities. These facilities are very difficult to be found in suburban and rural areas; y Lack of education, especially in the rural areas. Only 70% of the pupils that finish the basic nine years’ education follow the secondary education; y Insufficient offer for vocational training and inconsistency of existing supply to market needs; y Discriminatory practices in which employers are less likely to hire married women or those who may become pregnant; y Employers’ unwillingness to hire single mothers due to fear that they will not be reliable workers as a result of their sole responsibility for handling all issues that arise concerning their children.

Literature Review The major motives of government taxation policy can be derived from the view of Musgrave’s classical functions of public finance: financing and steering functions. Based on the “financing function”, there is a relationship between deficits and tax reform. If we take the financing requirements as given, then the public deficit can be seen as an indicator for the demand of tax policy and tax reforms. The “steering function” is not only used to have a stimulating effect on economic growth. Imposing taxes can be a key factor in determining the amount of savings and investment in an economy, as well as how much people work, when and on what they spend their income, and on the structure of business. Theoretically, the distribution of the tax burden stimulates tax payer behavior towards a common welfare goal. Stewart (2002) has noted that the tax/GDP ratio, while not wrong, is limited and not necessarily the most appropriate measure of a country’s financial well being because it fails to include the non-monetary economy and women’s unpaid contributions to the community. Nor does it account for non-tax sources of public funding such as ownership of state enterprises or natural resources. Although this criticism has merit, the indicator can still be useful to gender equality advocates. Elson (2005), for instance, argues that low values of this ratio are an indicator of gender bias, reflecting inadequate revenue to fund services that are important to women. Tax-to-GDP ratios are a reflection of government choices in fiscal policy, which can play a redistributive role that evens out inequalities. A country with a low tax-to-GDP ratio reflects a lack of redistributive policies and hinders the government’s ability to invest in the physical and social infrastructure that is required for a sustainable growth path. Denmark had the highest tax-to-GDP ratio in 2007, at 48.9%, while Sweden came in second at 48.2%. In 2010, Albanian government has planned a tax-to-GDP ratio of 24.4%. Fiscal policy, both government spending and taxation, can affect women’s welfare and their prospects for economic empowerment. Sen (1998) confirms that government spending through social programs improves gender inequality within the household and cutbacks in these programs generally affect women. For instance, decreasing government social services expenses shifts the burden from public toward female reproduction, particularly in the area of child and health care provisions. On the other hand, taxation affects women’s decision on labour supply, household production and time use (Barnett & Grown, 2005). According to legal dictionary, gender bias is an unequal treatment in employment opportunity (such as promotion, pay, benefits and privileges), and expectations due to attitudes based on the sex of an employee or

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA

837

group of employees. Thus gender bias is separation of gender in a way which prefers one sex over the other. Gender bias in tax systems means any form of institutionalized discrimination based on the sex of taxpayers. Gender bias may be both explicit and implicit. Explicit forms are specific provisions of the law that treat men and women differently. They are relatively easy to identify, since they depend largely on the language used in the tax code or tax regulations. Implicit forms of gender bias are provisions of the law that, because of typical social arrangements and economic behavior, tend to have different implications for men and women. It is much more difficult to identify implicit gender bias, because it depends in large part on value judgments as to desirable social and economic behavior, which may vary considerably from society to society. With respect to the balance between direct and indirect taxes, there are some concerns about the role of indirect taxation. The value added tax (VAT) can exert a gender bias because of women’s different consumption patterns. Women in developing countries tend to purchase more goods and services that promote health, education and nutrition compared to men. This creates the potential for women to bear a larger VAT burden if the VAT system does not provide for exemptions, reduced rates or zero-rating. The same applies to ensuring a sufficiently high tax-free allowance for small entrepreneurs. More generally, because of women’s lower income, a tax policy that solely focuses on increasing indirect taxes such as the VAT instead of also increasing direct taxes (income taxes) can potentially be more burdensome for women. With respect to direct taxation, eliminating tax exemptions in the corporate and personal income tax may also encourage gender equality in terms of the tax burden because men tend to benefit disproportionately from such exemptions. This is mainly due to the fact that they are more likely to run a business, be a shareholder or be a house-owner who can claim these deductions. Raising direct taxes’ contribution to overall tax revenues will not only make current tax systems in developing countries more equitable but indirectly also reduce the relative tax burden on poor women. Some tax reforms may be superior to others in terms of gender equality. The design of the tax system in a country may impact both the distribution of income between women and men (distributional effect) as well as the distribution of paid and unpaid work (allocative effect).

Gender Bias in the Albanian Tax System The Albanian Constitution states that all individuals are equal before the law and that “no person will be unjustly discriminated against due to his or her sex” (Albanian Constitution, article 18). Legislation makes provisions for treaties to supersede national law, and ratifies the Convention on the elimination of all forms of discrimination against women (Article 18, 2003, CEDAW). Tax and tariff regime in the Republic of Albania consists in a package of laws, directives, regulations, tax agreements with other countries which display a complete review of all kinds, levels, calculations, procedures, as well as the methods and forms of tax control for taxes included in the Albanian tax system. The Albanian tax system reflects its specific history, legal tradition, political structure and economic base. The most common direct taxes are the personal income tax, corporate income tax and wealth and inheritance taxes. The most common indirect taxes are value added tax (VAT), selected sales and excise taxes. The tax system of Albania includes the same basic tax categories used in developed countries, as shown in Table 2. About 47 percent of tax revenues are collected from VAT and turnover tax. Two agencies administer the

838

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA

main part of Albania’s central government revenue. These are the general tax directorate and general custom directorate. Table 2 Tax Revenue, Albania 2009-2012 Budget 2011 (project)

Budget 2012 (project)

No. Items

Revenue raised in million of ALL

Budget 2009 % of total tax revenue

Revenue % of raised in total tax million of ALL revenue

Budget 2010 (project)

Revenue % of raised in total tax million of ALL revenue

Revenue % of raised in total tax million of ALL revenue

I. I.1

248,580 230,168

100.0 92.6

276,661 254,713

100.0 92.1

306,412 282,978

100.0 92.4

283,699 257,546

100.0 90.8

117,491

47.3

130,415

47.1

145,033

47.3

160,835

56.7

20,813

8.4

23,331

8.4

25,946

8.5

28,773

10.1

2

Tax revenue From tax offices and customs VAT & turnover tax Profit tax

3

Excise tax

44,363

17.8

49,730

18.0

55,852

18.2

6,551

2.3

4

26,065

10.5

28,646

10.4

31,540

10.3

34,631

12.2

15,312

6.2

16,991

6.1

18,527

6.0

20,145

7.1

6

Personal income tax National taxes and others Custom duties

6,124

2.5

5,600

2.0

6,080

2.0

6,611

2.3

I.2 1

Local taxes Local taxes

18,412 11,114

7.4 4.5

21,948 13,452

7.9 4.9

23,434 13,710

7.6 4.5

26,153 15,053

9.2 5.3

2

Property taxes

3,734

1.5

4,383

1.6

5,060

1.7

5,825

2.1

3

Small business taxes

3,564

1.4

4,113

1.5

4,664

1.5

5,275

1.9

1

5

Note. Source: Data received by mid-term budget 2010-2012, Ministry of Finance.

Personal income tax which, due to its structure, can most easily address gender equity goals are especially important for a gender analysis of taxation. All individuals, residents in Albania are subject to taxes for all incomes produced wherever in the world, while the non-residents are subject to taxes only for incomes produced within the border of the Albanian territory. Personal income tax is a single tax structure imposed on all individuals irrespective of gender or marital status. Taxable income includes: y Income from wages, salaries, as well as from other forms of employment compensation; y Income from profit of a partner or a shareholder in a commercial company; y Income derived from copyright or royalties; y Income derived interest generated from deposits and securities; y Income derived from sale of securities on a net basis, as well as other income as enumerated in Law No. 8438. Until July 2007, the personal income taxation was composed of 5 tax brackets such as below (see Table 3). Since July 2007, a new tax rule is implemented with the intention of encouraging the legalization of the evaded labour, simplifying tax collection and also drawing creates a friendlier investment climate to ask foreign direct investment. Considering this new taxation rule, personal income is taxed by a flat tax of 10% which results to be one of the lowest tax rates in the region. Income under 10,000 ALL will be tax exempted. The system also consists in 10% of personal income if income is above 30,000 ALL, otherwise 10% only on the amount exceeding ALL 10,000 (see Table 4).

839

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA Table 3 Personal Income Tax Before July 2007 Over (in ALL)

To (in ALL)

ALL

Percentage

0

14,000

0

Tax exempted

14,000+

40,000

0

+ 5 % of the amount over 14,000

40,000+

90,000

1,300

+ 10 % of the amount over 40,000

90,000+

200,000

6,300

+ 15 % of the amount over 90,000

200,000+

500,000

22,800

+ 25 % of the amount over 200,000

500,000+

More

97,800

+ 30 % of the amount over 500,000

Note. Source: Ministry of Finance.

Table 4 Personal Income Tax From Labour After July 2007 Taxable income (monthly)

Tax rate (%)

Over (ALL)

Up to (ALL)

0

10,000

Tax exempted

10,001 +

30,000

+10% over 10,000

30,001 +

More

10%

Note. Source: Ministry of Finance.

The Albanian personal tax system does not explicitly disadvantage either sex. In the tax law of Albania married persons are assessed separately in determining their tax liability. Consequently, each spouse is determined separately like any other individual who has chargeable income. This system does not contain any form of gender bias because men and women are assessed in the same way. The new personal income tax does not contain explicit gender bias for treating men and women in the same way. In Albania, the salaries of most women employed in public and private sector are up to the 70,000 ALL. A larger proportion of women than men were directly affected by the income tax law and regulation as it can be seen in Table 5. Table 5 Influence of the Flat Tax in Personal Income Tax Gross wage/salary in ALL

Before July 2007

After July 2007

Increase in percent (%)

14,000

0

400

22,000

400

1,200

+ 200

31,000

850

3,100

+ 264

45,000

1,800

4,500

+ 150

70,000

4,300

7,000

+ 62.8

95,000

7,050

9,500

+ 34.8

120,000

10,800

12,000

+ 11.1

170,000

18,300

17,000

-7.1

210,000

25,300

21,000

-16.9

Note. Source: Calculation by author.

840

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA Referring to Table 5, we can reach into conclusion that the implementation of flat tax has had a greater

impact on women than on men. The personal income tax for these groups increased from 64% to 264%. In this case we have an implicit gender bias. Albanian lawmakers during discussion of this change have ignored the impact that this tax would have on men and women. Taxable income of residents includes business profits, as well as dividends, interest, and realized capital gains. Taxable profit is the difference between gross profit and related expenses. The determination of the taxable profit is generally based on the profits shown in the financial statements. All companies which are registered in the trade register and pay VAT are subject to the profit tax. The resident taxpayers are subject to taxation only for incomes generated (produced) in the territory of the Republic of Albania. According to the law since 2008, taxable income rate is 10%. Indirect taxes (value added tax) are perceived to be horizontally equitable but vertically inequitable. They are seen to be horizontally equitable because equally wealthy (poor) people tend to consume relatively equal amounts of goods and services. They are seen to be vertically inequitable, as poor people tend to spend a larger proportion of their income on consumption than do the wealthy, so they pay relatively more tax as a percentage of income. The value added tax is imposed under the law No. 7928, date April 24, 1995 on every supply of goods and services made in Albania and on the supply of any imported service. Value added tax is levied at the rate of 20% on the value of the taxable supply of goods, services or imports. Value added taxes on goods and services tend not to show explicit gender bias in that the tax liability is established with respect to the purchase or production of a commodity. Implicit bias however, results from differential consumption. Table 6 Budget Allocation According to Family Typology in % Type of expenditures

Type of family Single person 54.2

Food and non-alcoholic drinks Alcoholic drinks, 4.3 tobacco Clothing and 3.9 footwear Flats 9.6 Furniture, household 5.7 equipments, housing maintenance Health 6.7 Transport 2.4 Communication 2.0 Recreation and 1.9 culture Education 0.0 Restaurants and 5.5 hotels Other goods and 3.7 services Total consumption 100

Couple without child 51.7

Couple with a Couple with child two children 46.4 45.4

Couple with three children 49.2

Single parent Other with a child family 49.9 47.1

Average 47.6

5.1

4.6

4.0

4.4

3.5

4.4

4.3

3.4

5.9

6.7

7.1

6.2

6.2

6.2

8.7 6.2

8.1 5.5

7.4 6.0

7.3 5.8

7.3 6.4

6.7 5.8

7.4 5.9

6.2 4.4 3.0 2.4

3.6 5.7 3.3 2.9

3.3 6.2 3.3 3.4

3.3 6.9 2.5 3.3

4.2 3.6 2.9 2.9

4.7 7.1 2.9 3.1

4.1 6.2 2.9 3.1

0.1 3.7

2.3 6.1

2.7 5.9

1.6 3.6

2.3 4.5

1.3 5.1

1.7 5.0

5.0

5.5

5.8

5.0

6.4

5.7

5.5

100

100

100

100

Note. Source: The results of family budget survey in Albania 2006-2007, 7, INSTAT.

100

100

100

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA

841

The ability of families to meet their most basic needs is an important measure of economic stability and well-being. The level and the structure of expenditures for consumption vary depending on family size and its composition. If we refer to the data in Table 6 and compare only some types of expenditures, we can see that a family with a single parent and a child spend 49.9% of the monthly income for food and non-alcoholic drinks. The budget for food for this type of family is larger compared to that budget that spent a couple with a child (46.4%) and couple with two children (45.4%). This type of family is spending more comparing two others also for furniture, household equipments, housing maintenance and health. Because of the weaknesses that has the tax collection system in Albania and the existence of the informal sector, it was not accepted so far to have a differentiated VAT for different groups of goods. Meanwhile there are done two important changes so far. Those are the abolition of VAT on education and the introduction of VAT at the level of 10% for drugs. Both measures will have a great impact on all types of families, but their impact is greater on families with a single parent. In Albania, these families usually are running by women. Perhaps it is difficult to talk about the differentiation of VAT for different groups of goods, but it is a lot of space where the central and local government can collaborate together to find tools that could decrease the burden of costs, especially in the field of services for these types of families. Based on the above analysis, we can conclude that the implicit bias results also in Albania from differential consumption. However, the study on household budget made by INSTAT need further improvement in order to provide data on consumption disaggregated by gender. This would serve as a good point to discuss possible changes related to indirect taxes.

Conclusion and Recommendations The paper shows that gender bias can exist also in Albanian tax systems. Consequently, it is important that a gender perspective is integrated in the analysis of taxation to discover any form of discrimination of one sex in the tax law. If differential gender impacts are not included in the analysis, it may cause unrecognized economic inefficiencies. The Albanian tax system in the written law does not treat men and women differently. Regarding explicit gender bias, none of the regulations which have been analyzed do cause gender discrimination in any form. All tax burdens are applied to both men and women. Because of the steering function of taxation, implicit gender bias cannot be avoided. The tax system gives incentives or tax rates which can affect men or women more. y Personal taxation system in Albania has strengths and weakness in terms of gender equality. Positive is the equal treatment of women and men. Meanwhile this reform does not fit with the access that men and women have in the labor market and has impacted negatively on the employees with low income (especially women); y A large majority of women do unpaid work. They usually do not pay social security contributions and often have no income to afford cost of leaving in the elderly; y It is accepted that there are differences in wages of men and women, especially in the private sector, but there is a need for further regulation in the legal framework that would narrow this gap and prevent the discrimination; y The largest contribution to the tax revenues has the VAT and the excise tax in Albania. The Albanian tax system is an indirect tax system and affects more to the poorest part of population. This issue should be addressed,

842

GENDER EQUALITY VERSUS TAX SYSTEM IN ALBANIA

since the poor spend the bulk of their income for food and other basic services and must pay 20% VAT. The question for the decision-makers is whether and to what extent such biases are intended. In this context, it is also necessary to have a look at the whole legal framework. In consequence, the analysis of gender bias can only assist to identify prevailing societal induced imbalances against men or women. Decision-makers should always consider the gender perspective in any decision about taxation to avoid any form of gender discrimination in future. In consequence, they should strive to understand the different economic roles played by the sexes in order to analyze how the impact of taxation on relative prices will differ for women and men, and the differential impact on their decisions regarding labor supply, consumption, production and investment. In order to address some of the above problems, we will recommend as follows: y Incorporate a gender perspective in the designs of tax policies; y To include in the government agenda the reform of labour market regulations in order to narrow the gender wage gap and pension disparities; y Enhance gender awareness in the professional and public tax dialogue between tax administrators, tax consultants, politicians, enterprise associations, civil society organizations, trade union etc.; y The tax administration must release taxpayer data disaggregated by sex. But also other institutions must be oblige to fulfill their obligating related the gender harmonized indicators; y Increase research on gender in economy.

References Barnett, K., & Grown, C. (2004). Gender impacts of government revenue collection: The case of taxation. Commonwealth Secretariat. Barnett, K., & Grown, C. (2006). Gender impacts of government revenue collection: The case of taxation. Economic paper No. 62. Economic Affairs Division of the Commonwealth Secretariat, London, UK. Dervishi, D. (2011). Female political participation in Albania: Interview with Filloreta Kodra. Retrieved from http://www.balkanalysis.com/albania/2010/11/30/female-political-participation-in-albania-interview-with-filloreta-kodra Elson, D. (1999). Labour markets as gendered institutions: equality, efficiency and empowerment issues. World Development, 27(3), 611-627. Fiscal indicators 2008-2010, Ministry of Finance. Retrieved from http://www.minfin.gov.al Gender Alliance for Development Centre. (2010). Women’s labour rights in Albania. Financed by the European Union. Gender bias. (n.d.). Retrieved from http://legal-dictionary.thefreedictionary.com/gender+bias Grown, C. (2005a). Taxation and gender equality: A conceptual framework. Retrieved from http://www.idrc.ca/en/ev-155938-201-1-DO_TOPIC.html Grown, C. (2005b). What gender equality advocates should know about taxation, levy economics institute (preliminary draft). Retrieved from www.awid.org Human Development Report. (2009). Retrieved from http://hdrstats.undp.org/en/indicators/130.html. INSTAT. (2008). Women and Men in Albania. INSTAT. (2009). Labour force survey. INSTAT. (n.d.). Family budget survey in Albania 2006-2007. ITU GGI selection of definitions on “Gender”. (n.d.). Retrieved from http://www.itu.int/gender/about/gender.html McCaffery, E. (2002). Fair not flat: How to make the tax system better and simpler. Chicago, IL: University of Chicago Press. Musgrave, R. A., & Peggy, B. (1973). Musgrave public finance in theory and practice. New York: Mac Graw-Hill. Pfeuffer, B., & Weißert, S. (2006). Gender bias in tax systems: The example of Ghana. Accountancy Business and the Public Interest, 5(2), 33-53. Sen, A. K. (1976). Poverty: An ordinal approach to measurement. Econometrica, 44(2), 219-231. Stotsky, J. (1997, June 9). Gender bias in tax systems. Tax Notes International, 1913-1923. Stotsky, J. (1997, March). How tax systems treat men and women differently. Finance and Development, 34(1). UNDP. (2010). National human development report Albania.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 843-855

Global Energy Policies in the Geo-economic Process* Abdullah Ozdemir, Halil Civi Adnan Menderes University, Aydın, Turkey

The concept of geo-strategy has been replaced by the term “geo-economics” implying that states struggle for more energy and consequently more economics power instead of acquiring more territory. The most important ingredient of geo-economics is energy resources. Developed countries are following various strategies and policies to provide energy security and to have alternative energy resources. The process of globalization fulfills an important function by creating a context for maneuver in the application of these policies. Therefore, the world today becomes a scene for the struggle over energy resources. Every action including war can be expected in acquiring energy resources and securing energy supply. Keywords: geo-economics, energy, globalization

Introduction Changing values and ways of life bring about changing needs as well. Developed technology and changing needs cause an increase in the quality and quantity of goods and services. While countries that adapt to the changes and reposition themselves are making important benefits from this process, countries that stay behind these changes are facing underdevelopment. Technological change means more innovation and more energy demand. States that had been making efforts for more power have recently put more weight on these efforts. Powerful countries that have pressured others for acquiring more power had paid more attention to geopolitics in the historical process now turn their attention to geo-economics.

Transition From Geopolitics to Geo-economics Geography has always been the main factor in the world political history because geography among all other elements is the most permanent and impossible to be changed by human intervention. For this reason, empires have always wanted to invade and spread better territories. Political scientists and philosophers who were aware of concrete data that geography provided started studies on the topic with “Theories of Hegemony”. The first concept about the benefits and costs that geography provided to its owner was geopolitics. The concept that was recorded in the literature in 1899 analyzes geographical interactions and power struggles arising *

The first version of this study has been presented as at Turgut Ozal International Conference on Economics and Politics, April 15-16, 2010, Malatya, Turkey. Abdullah Ozdemir, Ph.D., Assistant Professor, Economics Department, Adnan Menderes University. Halil Civi, Ph.D., Professor, Economics Department, Adnan Menderes University. Correspondence concerning this article should be addressed to Abdullah Ozdemir, Economics Department, Adnan Menderes University, Nazilli/AYDIN, Turkey. E-mail: [email protected].

844

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

from geography (Defay, 2005). Although the concept of geopolitics has just turned a century, it has left deep marks on historical events. The footprints of geopolitical calculations can be seen in the break-out of World War II and its development, in the alliances formed during the Cold War, in the establishment and enlargement of the European Union, the invasion of Iraq by the United States and the Greater Middle East Project. Geopolitics helps the interpretation of the concrete facts pertaining to regions and events in the global context. It sets the general framework for grand strategies and unique policies. It determines permanent strategies about long term and vital foreign policy and national security (Tarakçı, 2003). Strategy is indeed a military concept. It comes from the term “strategies” which means the art of general in ancient Greece (Karabult, 2005, p. 83), and war was defined as “the art of using battles as a means to reach goals” (Clausewitz, 1997). If this definition is stripped of military limitations and reflected upon politics, strategy can be defined as an analysis of the effects of a country’s geographical, hydrographical and meteorological characteristics and capabilities on military strategies (Karabulut, 2005, p. 83). Geopolitics is regional and limited, but geo-strategy is long term, more general and global. To solve more complicated events like these, geostrategic analyses are needed. In other words, for geo-strategy not saving the front but winning the war is more important. Geopolitics examines the relationship between political man and geographic space; geo-economics on the other hand examines the relationship between economical man and geographical space. That is, production areas, the degree of the spread of economic activities are the themes for geo-economic analysis. The development of communication, free movement of goods, capital and labor, information sharing all put an end to political and limited geography. Borders in geo-economics are barriers to production and trade. Economic developments opened a door to a global geography (Köni, 2001). For example, the main purpose of the six countries that established the now super-power European Union was to create a common market by improving economic and monetary solidarity among themselves, and as a result to establish a political union (Özdemir & Öz, 2008, p. 132). Grand strategy is a function of geopolitical, geostrategic, geo-economic, demographic factors, and it is a long term national strategy determined by an analysis of these factors individually or together. Decision-makers must evaluate these new concepts when determining their own national strategies, because strategic, political and economic borders no longer exist. The complex structure of international relations requires that every topic from politics and from social to cultural should be taken into account in strategic analyses (Karabulut, 2005). States’ survival depends on their ability to adapt to the economic and strategic competition of the globalized world. Especially in the last half century, economics and culture became the most important actors on the political scene. Globalization put countries in an intensive competition without paying attention to whether they are ready or not. The main determinant of this competition is economic self-sufficiency. McKinley Conway explained geo-economics with regard to the use of natural resources. According to Conway, geo-economics is a science that “brings natural resources and manpower together in a productive way to realize the ultimate development stage for nations, states, cities and companies” (Conway, 2000, p. 25). Geo-economics is also defined as a science presents that fact that countries compete not to have more land or to become a regional power but to become an economic power. Methodologically, geo-economics gives more importance to economy, technology and geography than to politics. Political reapproachments and

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

845

polarizations are being replaced by economic unions and common economic interests are being held above everything else (İnan, 2004, p. 440). The main topics of geo-economics are geography, population, raw material resources, agriculture, industrial technology, economic freedom, interdependence, trade, transportation and economic policy. The importance and primacy of these topics in geo-economics can change over time. Additionally, their scope can narrow as well as expand. The world had experienced important transformations in transitions from agricultural to industrial, from industrial to information ages. The strategic resource in the information age is science (accumulation of knowledge) based on research. Today, not the countries that have vast land and resources but those that produce technology and knowledge dominate the world. Only when comparisons of relative power made based on scientific and technologic power are not on quantitative data, we can reach true conclusions. In the next century, only the states that make the best preparation for communication, bio-technology, robotics and the new industrial revolution will survive. The advocates of this view argue that while economic and technological factors are becoming more important military power’s role is declining (Kilic, 2002, p. 53). The main reason behind wars aiming at acquiring more resources is geo-economic factors. The main reason behind colonization in the 19th century was also geo-economic factors. Even though it cannot be argued that wars break out for only economic reasons, it can be argued that the management of all wars is positively correlated with the economic capabilities of states that are a party to a war. Therefore, in strategic planning, the economic resources of the enemy are considered as the main targets. Countries that cannot sustain their economic power by themselves want to realize this goal through economic unions. The main reasons for the formation of the European Union are geo-economic factors. NAFTA (North American Free Trade Agreement), APEC (Asia-Pacific Economic Cooperation Conference), G-7 (Seven economic super powers, now G-8 with the participation of Russia) and KEİB (Blacksea Economic Cooperation Area) were established for geo-economic reasons. Another purpose of these organizations is to prevent conflicts through interdependence. Today, there is a geo-economic competition of economic regions rather than an economic competition among countries. There is an intensive competition in high technology regions like between America and Europe and Japan and East Asia (Torun, 2006, p. 5). As it was mentioned above, countries direct their attention to other countries’ resources to cover for their energy needs. Because many powerful countries share the same ideas energy regions become an arena for conflict.

The Increasing Importance of Energy Resources in the Geo-economic Process Defining countries as developed or underdeveloped is a result of the capital stocks that they have. Countries that have a strong capital structure are defined as developed, and those do not have are defined as underdeveloped or developing. The primary determinant for the amount of capital is society’s savings. Countries with high income will invest more, more investment will increase production and more production will increase income. As seen, while developed countries have a self-sustaining system, which in underdeveloped countries works in the opposite direction and it cannot sustain itself. The machine-based production resulting from the Industrial Revolution in Europe caused an important increase in the demand for energy. Today, increasing world population and changing ways of life also gave increase to energy resources. Finally, the important developments in technology made the ownership of energy resources more important.

846

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS Natural resources determine a nation’s power vis-à-vis other nations, and they are relatively more stable

factors. Energy resources as an element of national power have a special place among other natural resources (Cohen, 1996). Therefore, for national governments the security and continuity of energy supply and its being clean and cheap are of great importance for sustainable production. While the demand for energy is increasing, and energy prices are also showing considerable increases. Especially extreme increases in oil prices and signals for future increases lead international companies rather than consumers to turn their attention to this issue. An increase in energy prices leads to increases in the costs of inputs used in production and product prices. Energy prices that are not fixed also cause inflation to rise and lead to a pressure on economic stagnation by affecting total demand. The more important the use of energy in an economy, the higher the inflationist pressure against the increases in petroleum prices (LeBlanc & Chinn, 2004, p. 8). Energy resources can be categorized as renewable and unrenewable resources. Unrenewable energy resources are the resources that cease to exist after a while as a result of use. Renewable energy resources are the resources that do not cease to exist and that can be used again. In this context, Table 1 presents the shares of energy resources in energy production for the year 2005 to explain the types of energy used in the world. Table 1 The Share of Resources in Energy Production (Year of 2005) Energy resources

Share (%)

Petroleum

35.0

Coal

25.3

Natural gas

20.7

Renewable energy

10.0

Nuclear energy

6.3

Hydraulic energy

2.2

Geothermal/Solar/Wind

0.5

Note. Source: IEA (2007). World Energy Outlook, Paris: OECD/IEA.

As it can be seen in Table 1, petroleum is the most used resource in energy production in the world. Second comes coal and third natural gas. As understood from Table 1, the shares of petroleum and natural gas called as fossil fuels together go up to about 56%. The share of renewable energy resources constitutes about 10% of total use. It should not then be unusual for states to increase their studies on energy security. In Table 2, the primary energy consumption is presented regionally to show increasing energy consumption in the world. As seen in Table 2, energy consumption in the world increased in every region in 2007 as compared to 1970. The Asia-Pacific region has the largest share in 2007, second comes Europe and Asia and third North American region. The reason for the increase in the Asia-Pacific region results from the consumption of China. The most important fact drawn from Table 2 is that energy consumption of the world’s most developed regions has increased. USA and Canada consume one fourth of the world’s energy. According to the UN data, the population of the USA and Canada together constitute five percent of world population. The world’s total energy consumption increased 2.3 times as compared to consumption in 1970.

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GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS Table 2 World Primary Energy Consumption (Million Tons/Petrolleum) Years North America South and Central America

Europe and Asia

1970

1,805.6

144.8

2,144.1

Middle East Africa 73.7

73.7

Asia Pacific World total 741.5

4,983.3

1980

2,112.5

252.8

2,835.1

136.3

141.4

1,168.3

6,646.5

1990

2,313.3

327.4

3,205.5

259.9

222.9

1,791.8

8,120.8

2000

2,746.1

459.2

2,829.2

402.0

276.1

2,580.8

9,293.3

2001

2,685.6

461.8

2,849.3

419.0

279.8

2,646.2

9,341.7

2002

2,724.8

465.4

2,858.0

443.6

286.8

2,745.6

9,524.2

2003

2,746.4

469.6

2,901.2

463.9

299.5

2,948.3

9,828.9

2004

2,798.0

491.1

2,950.7

501.6

315.1

3,232.9

10,289.4

2005

2,813.1

513.3

2,963.2

533.7

320.5

3,413.7

10,557.6

2006

2,794.0

533.0

3,009.7

557.3

328.3

3,620.7

10,843.0

2007

2,838.6

552.9

2,987.5

574.1

344.4

3,801.8

11,099.3

Note. Source: BP (2008). Statistical World Review of Energy, UK.

The increase in energy demand brings about increases in prices as well. It is very important to provide these resources used as inputs in production process at cheap rates because decreases in energy costs will lead to increases in companies’ profits. Therefore, companies aiming at maximization of profit are already in a struggle for cheap energy. This struggle in turn replaced geopolitics that countries adopted with geo-economics. This new type of struggle is harsher and more brutal. Changing production, consumption patterns and globalization increased the demand for energy. The quantitative data are given in Table 3. Table 3 World Energy Consumption (Quadrillion Btu) Years

Total

Increase compared to the previous period

1980

283.7

-

1985

308.6

8.78

1990

347.4

12.57

1995

365.0

5.07

2000

397.8

8.99

2005

462.2

16.19

2010

512.5

10.88

2015

563.0

9.85

2020

608.4

8.06

2025

651.8

7.13

2030

694.7

6.58

Note. Source: Retrieved from http://www.eia.doe.gov.

World energy consumption increases every year. While energy consumption in 1980 was 284 Btu, it increased over time and in 200 increased 9 percent as compared to the previous period and became 398 Btu. In the first 5 years of the 21st century, the increase gained momentum and showed 16 percent compared to the previous

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GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

period. Changing consumption and production structure signal an increase in period 2010-2030. If the consumption estimates for 2030 is realized, the increase for 1980-2030 will be 145 percent. That is, in just half century, energy consumption will have increased about one and half times. Increasing consumption forces countries to produce new policies about energy. Changes that globalization brought about in societal structure, culture and politics also cause a transformation in energy policies. If we think that all developing countries reached energy consumption rates the same as that of today’s US consumption, it could be easily understood that the ensuing struggle would be very brutal.

Global Energy Policies The main force behind economic development is energy use. Therefore, policymakers must provide undisrupted, clean, countable, timely and cheap energy and diversify energy resources (Pamir, 2005, p. 68). There are three options before countries for having energy resources. The first option is to determine a country’s own energy resource potential, and if it finds productive resources then it should take care of those resources. The fundamental dimension of countries’ energy policies determined through geo-economic analyses is to provide full, undisrupted and cheapest energy supply for production and consumption. In this context, if there were enough energy resources in the country to cover for domestic demand, there would not be any problem on the matter. However, many countries in need of more energy resources are unable to cover for the demand. When we look at the data, 15 percent of the world’s population consumes 68 percent of energy (Nacaroğlu, 2005, p. 119). Countries that have energy production more than they need become an arena of the struggle between superpowers. The second option is to import energy. As explained above, 15 percent of world population lives in Europe, North America and the Pacific region. Even though people in these developed regions consume very high amounts of energy, these countries do not have their own energy resources to meet the energy demand. Countries then have to determine a new energy policy: An international cooperation for energy transfer from countries that have those resources. This means the establishment of pipelines for energy transfer involving many countries. In energy transfer, the security and continuity of the system from the point of production through pipelines should be provided. Political and economic stability and protection of lines against internal and external threats are the main criteria for choosing the routes for pipelines. The third option is to determine the countries with rich resources and to acquire their energy resources through purchasing their equities or political interventions. As should be clear that while globalization is bringing people and markets together it at the same time provokes conflicts of interests. Energy is not only an area for economic analyses, but also an area for conflicts of interests by itself. Security of energy supply is a multidimensional structure that is of an interest to not only the countries which own them but also consumer, investor and transfer countries. However, on the other side of the coin, there are irreconcilable national interests. The most important conflict of interest results from the producers’ desire for maximum profit and consumers’ desire for minimum cost. Especially producer and consumer countries being in different camps are the most important barrier to cooperation. While Middle Eastern States differ from Westerns States in terms of democracy, Central and South American, Africa and Caucasus-Central Asian states are countries that have important deficiencies in terms of democratization, political order, legality and struggle with corruption.

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

849

When a conflict map of the world is drawn, it seems that most conflicts take place in regions with high amount of energy (The Middle East, Nigeria, Venezuella, disagreements between Azerbaijan and Armenia, and Georgia even though it does not have rich energy resources it has geographical proximity to energy regions). Though it is hard to say that energy resources are the only reason for these conflicts, we can still say that it is one of the causes. The regions in which active conflicts do not exist are called as insecure and problematic regions by the international public opinion (Özdemir & Öz, 2008b, p. 267). The main but the only reason of the invasion of Iraq that has 10 percent of the world’s petroleum (115 billion barrels) and has at least 100 billion barrels additional reserves are the efforts to control its rich and low-cost production reserve (Pamir, 2005, p. 73). Again the reason for American interventions in Africa and its being an attraction center for China and other global economic powers are mainly because its rich petroleum reserves (Şenay, 2008, p. 23). All countries are making increasing efforts to acquire energy resources that are an indicator of power in the geo-economic process. Today, USA, EU, Russia and China are trying many alternatives to meet their energy needs by using many global channels (Mutioğlu & Özdemir, 2008, p. 108). The United States that consumes 25 percent of the world’s energy and 45 percent of gasoline and therefore whose energy import need is increasing has been trying many alternative strategies to prevent access to these limited resources for years (Pamir, 2007, p. 15). The United States has been trying to put into effect the above-mentioned Greater Middle East Project to protect its global power, to render its possible rivals powerless and to control global energy resources. To achieve its goals, it presents its secondary purpose of Middle East democratization as its primary goal. According to this, the Middle East should go into a political, social, economic and cultural restructuring process. Iraq which was one of the most important pillars of the project endangered the trust in this project. This situation can result in unexpected adverse consequences. In this process, it seems hard to regain trust in global values such as democracy and freedom (Silinir, 2007, pp. 97-98). The United States took special interest in Africa during the Cold War and watched closely the developments in the region. Its interest that has diminished after the Cold War seems to be revived recently. With the industrial revolution, the importance of energy in the production process was realized. However, European states that needed energy the most did not unfortunately have the resources. These states that provided petroleum and coal through their colonies got into a struggle to provide the security of these regions, to increase their prestige against other states and to have more colonies. This effort required making and executing a new energy policy in their national agenda. These policies that were summarized as acquiring or controlling energy resources by some observers constituted the colonizing understanding in the 21st century. This understanding showed itself as interventions in domestic politics of Middle Eastern, African and Asian countries for reasons such as human rights and democracy. It also created a permanent dependency through economic and technical aids and sometimes led to military interventions to bring democracy and freedom. The European Union that consumes 16 percent the energy in the world is dependent on foreign resources for petroleum and natural gas. It is foreseen that its domestic production will diminish from 2010 until 2030. The EU’s domestic resources are very limited. The production costs of domestic resources are above world average. Enlargement is not going to make the situation better but worse. The EU’s dependence on Russian Federation for

850

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

natural gas is found to have some drawbacks geopolitically and the European Commission has been warning the member states to reduce this dependency (Pamir, 2005, p. 72). Russia which is one of very important countries in terms of energy is trying to protect and increase its advantageous position. It continues with its efforts to increase its leverage by passing its distribution channels through strategic countries. Russia in this “new big game” intervenes in Central Asian states politically, economically and militarily. This new big game is trying to own Eurasia petroleum by using multidimensional matters like security, geopolitics and economy (Cohen, 1996). When taking a glance at Russia-Ukraine relations, Russia often plays natural gas card and so maintains its influence over former Soviet republics. After the collapse of the Soviet Union and the emergence of new republics, developed countries and the United States directed their attentions to this region. After the collapse of the Union, petroleum and natural gas reserves in Central Asia played an important role in sparking power struggle in the region mainly because of the power vacuum. In the unipolar world system that emerged after the Cold War Central Asia and the Caucasus that have rich energy resources became an arena for global conflict. The competition of the United States and Russia over the Caspian and Central Asian energy resources reminds of the imperialist competition between Great Britain and Russian Tsardom in the 19th century in the same regions. These conflicts later called as the “Big Game” are played again by different actors. The more aggressive United States and China got involved in this struggle that can be called as the “New Big Game” along with Great Britain and Russia (Yücel, 2003, pp. 162-163). The big game that was played between Great Britain and Russia in the 19th century for controlling Indian commercial routes is now being played for the Caspian oil and natural gas and the establishment of pipelines (Vural, 2006, p. 62). China because of its enormous population and cheap labor is in an important demand for energy. The amount of energy that Chinese economy will need in 2030 is estimated to be twice the amount that Chinese needs today. The increase in China’s demand for energy brings about increases in the prices of energy resources. Therefore Chinese government continues with its efforts for secure energy and devotes an important portion of its budget to research and development on energy. It financially supports foreign investors producing technology for energy and gives them tax breaks for up to 5 years. It especially invests in the infrastructure for wind energy for electric production. India that comes second in terms of population in the world gives special importance to sustainability of energy supply and production structure. India that provides its energy from the Gulf now tries to use Central Asian resources by using the Suez Canal (Mutioğlu & Özdemir, 2008). After the collapse of the Soviet Union, the Caspian Delta became an area of interest for all Western countries especially for the United States. The American administration described the region as the main direction for American foreign policy. Brzezinski described the region as the “European Balkans”. The implication of the term “European Balkans” is the possibility that the region could be transformed into a “powder keg” against any state that wants to own energy resources in the region by itself by using ethnic and religious problems. According to Brzezinski, “to have an access to these resources and have a share from their wealth are goals that revive national

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

851

feelings and group interests, resurface historical rights, revive imperialist efforts and spark international competition”. Eurasia then becomes a chess board on which a struggle for hegemony takes place. If we look at the players on the chess board: The EU in the west; Turkey, Iran and Iraq in the south, Pakistan and India in the southeast; Russia in the north; as a rising power the People’s Republic of China and the USA in the east. Struggle continues among these powers in the region (Onay, 2002, pp. 45-47). When looking at the Caspian region, the most important problems except for the conflicts between Azerbaijan and Armenia are ethnic conflicts in Georgia and the sharing of the Caspian Sea by the coastal states. Even though Russia seems to be attempting for determining the legal status of the Caspian Sea, it tends to disturb the stability by intervene in problems behind the scenes. Petroleum and natural gas that are most important strategic resources unfortunately do not bring real revenues to their owners. When looking at countries in Africa, the Middle East, the Caspian region and Central Asia, these countries that have built their economies on fossil resources do not have high economic, political and societal wealth as they are supposed. One of the reasons for this situation is that they cannot realize a planned and sustainable growth strategy and the other reason is that because of the rich resources they have, they are subject of other countries’ intervention. Because of their political and economic structures these countries that are susceptible to foreign intervention become a struggle arena for influence. These countries that caused wars between European states in the 19th and 20th centuries also became the main arena for political struggles among developed countries in the 21st century. The Middle East which is one of the richest regions in terms of fossil resources has been one of the regions in which the most heated conflicts have taken place. The Gulf War that Saddam Hussein started in 1991 to acquire Kuwait’s oil plants took its place in history as the first energy war that would take place in the future. Even though Kuwait was saved in a very short time with the intervention of the United States, both Iraq and the USA from the 1990s forward did not hesitate to engage in armed struggle to capture the resources in the region. The US forces that invaded Iraq in 2003 for taking there democracy and freedom first secured oil fields rather than state institutions. Even though Afghanistan does not have fossil energy resources, like in the Georgia example is in a very strategic location for transferring Central Asian and Caspian reserves to Asia. Installing pipelines through Afghan territory brought to the agenda in 1997. Presentations by an American company UNICAL in international relations office in the US Congress stated that the best route meet the increasing oil and natural gas demand of the Asia-Pacific region is a pipeline passing through Afghanistan. Trans-Afghan line would provide a great advantage for the United States that wanted to discard Russia in Central Asia. The project that was supported by Pakistan and Turkmenistan and accepted by the Taliban regime which was in power in Afghanistan could not be realized because of the war that broke out after a short while (Ekinci, 2001, p. 126). The war that the USA started against the Taliban forces after the September 11 attacks in 2001 had the aim of establishing hegemony over natural gas resources in the region rather than taking a revenge of September 11 attacks. Since the US forces could not establish control in the region after seven years, the future of the Trans-Afghan pipeline is a subject for curiosity. It can be considered that military concentration on Tajikistan, Kyrgyzstan, Uzbekistan and Turkmenistan during the operation was mainly because of securing energy resources and transfer routes in the region. The main reason behind Iraq’s attack on Iran in 1980 and Kuwait in 1990 was the petroleum resources that these countries had. As an interesting repetition of history, this time it was Iraq that was invaded for oil.

852

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

Many people think that the real reason behind invasion is oil even though the authorities repeatedly say that it was not. Details of President Bush’s, Vice-President Dick Cheney’s (Sachs, 2006) and former state officials’ speeches (Jacobs, 2007) imply that petroleum was an important factor. Iran that is in a constant conflict with the United States comes second in terms of natural gas reserves and third in terms of oil reserves in the world. Iran that is in a very key location for the Caspian and Middle Eastern energy resources is the only missing link for the United States that settled in the region through the invasions of Iraq and Afghanistan. Iran that cannot open up to the world markets due to the economic embargo carries a huge risk by adverse policies that it follows. The United States that warned Iraq for weapons of mass destruction also makes the same warning to Iran for its nuclear activities. These mutual challenges lead to allegations that Iran is the next country that the United States will bring democracy. When looking at the history of Iran, we may see that behind the coup that toppled the Mosaddeq government that nationalized Iranian petroleum in 1953, to overlooking the Islamic Revolution in 1979, and secretly supporting Iran during Iran-Iraq war were the security of oil fields and the Persian Gulf through which Iranian oil was distributed all over the world. There is an intense competition among countries not only in terms of the locations of energy resources but also in terms of their distribution to international markets. When we look at the situation from Turkey’s point of view, it is a key country in terms of proximity to fossil energy resources and transfer of these resources due to its location in the center of Eurasia. Turkey became an energy bridge because it is located between the producers with rich petroleum and natural gas resources and the consumers that are in a demand of high amounts of energy, it has a developing economy, stable political system and has relatively fewer security deficiencies as compared to rival countries. The Baku-Tbilisi-Ceyhan pipeline that distributes the Caspian oil to the world and the Blue Stream pipeline that distributes Russian natural gas constituted an energy network through Turkey. Because just being a transfer country would provide an advantage in the energy market, it is a critical decision to determine the countries which petroleum and oil transfer lines will pass through. The revenue that Turkey will collect in the first 16-year period from the transfer is around 200-250 million dollars. With the production increasing and new additional plants this will rise to 350-400 million dollars in the second 16-year period (Çakan, 2001, p. 27). In addition to these high amounts of revenues, the transit country has a chance to exert political pressure and blackmail other countries by using the threat of shutting down the pipelines. For example, in the beginning of the 2000s, because of the high prices that Russia demanded for natural gas, Turkey shut down the pipeline and as a result Russia had to reduce the price in the face of the danger that the pipeline would collapse (Nacaroğlu, 2005, p. 119). The advantages of being a transit country create an arena for competition in the pipeline projects. There have been many speculations in the period leading toward the determination of the Baku-Tbilisi-Ceyhan Pipeline and especially Russia, Georgia, Iran and Greece proposed many alternatives for the distribution of the Caspian Delta petroleum to have a share in the projects. During the times when the competition increased political crises has emerged in Turkish-Georgian and Greek diplomatic relations (Çağdaş, 2006). The same situation was the case for the “Blue Stream” natural gas pipeline and a similar situation can be said to be taking place for the Nabucco project. There is a new economic balance that is emerging in the 21st century. Europe that started the Industrial Revolution seems to be loosing its superiority to China, Japan and the Asia-Pacific countries with Korea being in the center. The possibility that economic superiority is changing hands will mean that the competition on

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS

853

economic inputs will change its direction. Central Asian energy resources will constitute the first phase of this competition because of its geographical proximity. However the Russian influence over the region will not leave a large room for maneuver for outside actors. Caspian region countries that stand firmer against the Russian influence seem to be under American control, however, especially the competition over Georgia is bringing Russia and the United States face to face. In the Trans-Caspian pipeline, Baku-Tbilisi-Ceyhan pipeline project that is supported by the United States was realized but the United States is objecting harshly the Nabucco project. It will be an important step that NATO is making efforts for the membership of Azerbaijan and Georgia in the face of Russian-American competition in the Caspian region. New energy geopolitics is emerging after the integration into the west of the countries that were created after the collapse of the Soviet Union. Efforts for the membership of these countries with energy resources in fact are the result of the attempts for secure and continuous energy supply. It is obvious that only the countries that are integrated into the system can be free of US or Russian influence. Wars in the 19th and 20th centuries were fought for the colonies to meet the energy needs of the developed countries. Because of the multinationals stepping in and the regulations of the GATT, the World Bank and other trade institutions removed new colonies for developed countries. From now on, the only thing that developed countries need is energy that would help them keep going. The reason behind country’s efforts for hegemony over these resources that amount to more than they need lies in the global competition. To control resources would mean to control everybody else that needs energy. According to the theories of hegemony, those who control Eurasia energy resources will control the world.

Conclusion Events taking place in the globalization process show that a different world, that is, a world which is not the one that working according to free market principles on the basis of mutual interdependence, but the one under the control of some emerging economic and political forces, is being established. The worse is the fact that the situation is being unobjectionable (Işıklı, 2001, p. 42). Technological development must have a characteristic that improves peoples’ life quality. Despite this fact, while the peoples of developed countries have all opportunities, underdeveloped country peoples do not have any income to maintain their lives. In South Africa, for example, a human life may be less valuable than a bullet. As a result, the disintegration within countries also takes place among countries. Duality in societies emerges across countries as well. That is, there is a world consisting of the rich and the poor. In this new world order, societies receive the world’s benefits based on their power not justice. Geopolitics was one of the most important concepts of the 20th century. But in the 21st century, it was replaced by geo-economics. Therefore, ownership of energy resources is considered as an indicator of richness. Labor which is another important input of production became secondary, again, “knowledge” as the product of cognitive labor came forward. Research and development also became important. Developed rich countries try every means to acquire underdeveloped countries’ resources. The US that makes his power felt in the world is the most important actor in this new war. The US uses every means to control energy resources in Central Asia and the Middle East. Similarly, the European Union that acts together with the United States makes intense efforts to have energy resources that it needs.

854

GLOBAL ENERGY POLICIES IN THE GEO-ECONOMIC PROCESS Russia adopted a planned strategy for the distribution of the resources that it has. It is trying to control the

countries which were under the Soviet hegemony in terms of the marketing and distribution of their resources. In this context, it sometimes imposes sanctions and succeeds in its efforts. China that has emerged as a superpower is among the countries that have an important energy potential. However, it needs more energy to sustain its growth rate that it realized in the late 20th century. Chinese government is following extensive policies designed for the security and continuity of energy supply. As it can be seen, the area for the application of energy policies is not a limited place but the whole world. Countries must have a change in their ideas about having energy types that they need. Failure in this would lead to an increase in the intensity of conflicts. This consensus must be realized for the betterment of the humankind in the long term. Countries must realize the importance of renewable energy resources and must produce technology and policies in this regard. The key for transformation of global conflicts into global peace lies in the attention given to renewable energy resources. Countries also change global energy policies in an important and just way to remove the barriers in front of their growth. This is of grave importance for both their and the world’s futures. Finally, it should be kept in mind that Turkey being on the energy transfer routes became an arena for influence by developed countries.

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China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 856-864

Corporate Governance Practices in Emerging Economies: Initial Findings From the UAE Mostafa Kamal Hassan University of Sharjah, Sharjah, UAE Alexandria University, Alexandria, Egypt

The paper presents initial findings about corporate governance practices adopted by the United Arab Emirates (UAE) listed corporations. This paper cross-checks the differences between financial and non-financial sectors. The findings suggest that governance practices related to ownership structure and audit services practices are not significantly different between the two sectors. However, the disclosure on management structure/processes and level of transparency are significantly different between the two sectors. The paper highlights gaps between the UAE corporations’ corporate governance practices and the UAE code of governance requirements. Keywords: financial reporting, corporate governance, emerging economies

Introduction Examining corporate governance practices in emerging economies has witnessed an increasing interest (e.g., Haniffa & Cooke, 2002; Haat, Abdul Rahman, & Mahenthiran, 2008; Hussainey & Al-Nodel, 2008). Some scholars argue that the exercise of corporate governance practices not only raise investor’s confidence but also contribute to better disclosures in annual reports (J. Solomon & A. Solomon, 2004; Hassan, 2008). Corporate governance goes beyond the compliance with legal responsibilities and extends to cover the voluntary disclosure of whatever deemed suitable to inform corporations’ stakeholders about the corporations’ performance (Parker, 2007). In emerging economies, Shleifer and Vishny (1997) argued, corporate governance practices are generally weak. This weakness, as Mimba, Jan van Helden and Tillema (2007) argued, reintroduces practices such as lack of transparency and the production of little information about corporations. In the light of this weakness, a growing awareness of the importance of reporting more information to different stakeholders has increased (Maines et al., 2002; Coy & Dixon, 2004). To this, the disclosure of corporate governance practices informs different stakeholder about corporations’ characteristics such as ownership structure; management composition, managerial processes, auditing committee functions and internal control procedures. This paper examines the corporate governance practices in one of the emerging economies countries—the

Mostafa Kamal Hassan, Ph.D., Associate Professor in Accounting, College of Business Administration, University of Sharjah, UAE & on leave from Alexandria University, Egypt. Correspondence concerning this article should be addressed to Mostafa Kamal Hassan, College of Business Administration, University of Sharjah, Academic City, Sharjah, United Arab Emirates, PO Box 27272. E-mail: [email protected].

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UAE. In order to assess the level of adoption of corporate governance by the UAE listed corporations, the paper aims at: First, exploring the governance practices introduced under the banner of the UAE regulatory requirements; Second, applying corporate governance practices check list to a sample of UAE corporations’ annual reports. The paper is organized in five sections. Following this introduction, section two reviews prior studies related to motive behind corporate disclosure and corporate governance reporting studies. The section also reviews prior studies concerned with measuring the level of corporate governance practices adopted by corporations. Section three describes the paper methodology. Section four presents the empirical findings before the conclusion section.

Literature Review The paper interlinks corporate governance literature to corporate disclosure literature. Therefore, this section reviews the prior studies about managerial motives behind “business” disclosure while links these motives to the disclosure on corporate governance practices. The section goes on to review prior studies concerned with measuring corporate governance practices adoption. Motives Behind Disclosing Corporate Governance Practices Corporate managers are inclined to provide voluntary disclosures in order to make financial statements users aware of their managerial ability and avoid misevaluation of their actions and performance (Chalmers & Godfrey, 2004; Hassan, 2009). On the one hand, the provision of corporate governance related information will improve managers’ corporate picture. It also helps corporations to avoid litigation costs. Since inadequate disclosures raises the possibility of litigation costs, managers are willing to disclose corporate governance information to reduce the cost of litigation (Bushman & Smith, 2001). On the other hand, such a disclosure will provide information to stakeholders about how the concerned corporations are managed. Corporate are managers willing to disclose corporate governance related information in order to favourably affect the corporations’ stock prices and returns (Gigler & Hemmer, 1998; Healy & Palepu, 2001). Accordingly, corporate managers use corporate governance reporting to signal information about their managerial skills and, at the same time, to gain stakeholders’ confidence about the corporation performance as reflected in the corporation’s stock price. Reducing information asymmetry could be another benefit behind voluntary corporate governance disclosure (Bushman & Smith, 2001; Lundhlom & Winkle, 2006). On the one hand, managers supply extensive disclosures to reduce the information asymmetry between informed and uninformed investors (Barako, Hancock, & Izan, 2006). On the other hand, the reduction of information asymmetry enhances the communication between managers and other related stakeholders (Collett & Hrasky, 2005; Botosan, 1997; Barako et al., 2006; Dey, 2008). Another consideration that might influence managers’ willingness towards the disclosure on corporate governance practices is the mandatory disclosure requirements (Lundhlom & Winkle, 2006). Corporate managers are willing to comply with regulatory rules and accounting standards otherwise the cost of non-compliance raises. Since there are various mandatory requirements to disclose corporate governance related information such as: (1) IFRS (such as related party transaction; risk disclosure previously IFRS 7); and (2) capital market listing requirements such and other regulatory requirements, corporate managers inclined to

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publish corporate governance information to reduce costs of non-compliance. Measuring the Adoption of Corporate Governance Practices Cheung, Connelly, Limpaphayom and Zhou (2007) develop a survey comprised of 86 questions to measure the quantity and quality of corporate governance reporting of organizations listed in Hong Kong Security Exchange. The survey questions address the five categories of the OECD Principles of Corporate Governance: (1) rights of shareholders; (2) equitable treatment of shareholders; (3) role of stakeholders; (4) disclosure and transparency; and (5) board responsibilities and composition. To construct a corporate governance index, Cheung el al. (2007) assign a weight to each category of OECD categories. They assign a weight of 15% to rights of shareholders; Twenty percent to equitable treatment of shareholders; Five percent to role of stakeholders; Thirty percent to disclosure and transparency and 30% to board responsibilities and composition. Then, they assign equal weights to questions under each category. They combine scores, for the five category sub-indices, into an overall corporate governance score ranging from 0 to 100. Klapper and Love (2004), depending on Credit Lyonnais Securities Asia for a list of 25 emerging economies, construct corporate governance reporting indices that incorporate a total of 57 governance items. These items are classified into the following seven categories: discipline, transparency, independence, accountability, responsibility, fairness, and social awareness. Klapper and Love (2004) assign a weight of 0.15 for each category except the last one which has been assigned a weight of 0.10. Likewise, Black, Jang and Kim (2006) use a subset of 38 objective questions in order to measure of quality of governance reporting. They classify the governance items into four categories, each of which has an equal weight of 0.25: shareholders’ rights, board of directors in general, outside directors, and disclosure and transparency. Khanchel (2007) crafts four indices that summarize governance various dimensions. These indices include an index for the board of directors, another for the board committees, a third one for the audit committee, and the fourth one represents an overall or total index. Khanchel (2007) states that the indicators incorporated in these indices are to measure strength of corporate governance not the optimal corporate governance. She explains that stronger corporate governance does not necessarily imply optimal monitoring. However, optimal monitoring implies strong corporate governance. Dey (2008) utilizes 22 individual governance variables representing the composition and functioning of the board of directors, executive compensation, equity-based compensation of directors, independence of the auditor, structure and functioning of the audit committee, and the board’s control over financial reporting quality. Dey (2008) argues that that the use of a single indicator or summing up several indicators to form a one-dimensional index to measure a multidimensional construct such as governance is likely to introduce considerable measurement error. He urges to rely on different measures or indicators to describe corporate governance.

The UAE regulatory Framework of Corporate Governance The UAE regulatory framework of corporate governance comprises of three components: (1) the UAE Corporation Act No. 8 of 1984; (2) the Emirates Securities and Commodities Market Authority (ES&CMA) regulations and listing conditions, and (3) the UAE code of governance. Each component provides bits of the corporate governance practices. However, these components, collectively, provide a comprehensive account of

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the UAE corporate governance practices. This section outlines each component’s elements that regulate corporate governance practices in the UAE. The UAE Commercial Corporations Act of 1984 The UAE Corporations Act of 1984 incorporates articles that govern corporations’ management processes. The Act sets rules related to the board of directors’ selection, composition, duties and management processes (Articles 95-109). Article 111 stipulates a general framework of board for directors’ duties. The Act also mentions that board members will be held responsible for acts of fraud, abuse of power, violation of law and/or the corporation bylaws and wrongful management. The Act stipulates that UAE corporations must be at least 51% owned by UAE nationals (GLG, 2009). Article 118 requires corporations to show how board of directors’ remuneration is determined while stipulating that this remuneration should not exceed 10% of the corporation’s net income after distributing at least 5% of the corporation’s capital as dividends. The Act requires all corporations in the UAE to maintain proper financial records. It specifies minimum accounts comprising of income statement, balance sheet and cash flow statement and notes to these accounts. These accounts, the Act states, are an integral part of the board of directors’ report to shareholders at the annual general meeting (Articles 144-151). Although the Act does not enforce the adoption of certain accounting standards, most corporations prepare their financial statements in line with International Financial Reporting Standards (IFRS) following in that the ES&CMA listing conditions (Hassan, 2009). The UAE Corporation Act of 1984 requires that annual audited accounts are laid down before shareholders at an annual general meeting. The Act, chapter four, also sets rules that govern the selection, appointment and the work of auditors. It states that auditors must approve the financial reports and outline any irregularities, they may discover, to shareholders. The ES&CMA Regulations of Disclosure and Transparency The ES&CMA regulations outline rules and listing conditions that boost up transparency and enhance accountability systems (ES&CMA decision No. 3 of 2000 concerning regulations as to disclosure and transparency). With respect to listing conditions (Decision No. 3 of 2000), the ES&CMA requires corporations to fully disclose with appropriate level of transparency certain corporate governance-related information. For example, decision No. 3 of 2000, Article 36, requests listed corporations to provide information about: (1) The names of the members of the board of directors and the executive managers, with a statement of the shares owned by each of them and their relatives to the first degree, and the membership of any of them on the boards of directors of other public joint stock companies; (2) The names of those who own, or whose holdings coupled with those of their minor children amount to, 5% or more of the shares of the company; (3) The percentage of the holdings of persons who are not nationals in the company’s capital; (4) The amendments introduced into the company’s articles of association as soon as these amendments are approved; (5) Any change relating to the company’s management structure at the level of the board of directors and the executive management. The ES&CM, Article 36, explicitly requires the preparation of the UAE corporations’ annual reports in

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accordance with the IFRS in both Arabic and English. Such reports should include board of directors’ report, audit report, balance sheet, income statement, cash flow statement, changes in equity statement, and the notes to the financial statements. The ES&CMA also requests the publication of these reports within 90 days from the end of the financial year. These reports should, Article 36 adds, be signed by the board of directors or the person authorized to sign on behalf the board. The UAE Code of Governance The ES&CMA introduced, in early 2007, the UAE code of corporate governance (ES&CMA decision R/32 of 2007 amended by decision 518 of 2009). This code comprehensively refines and delineates elements of corporate governance introduced by the UAE Corporation Act of 1984 and the ES&CMA decision No. 3 of 2000 concerning transparency and disclosure. The code outlines specific and detailed corporate governance requirements that corporations must comply with in order to meet what the code states “institutional governance discipline criteria”. The code requires listed corporation to prepare, as an integral part of annual reports, a governance report. This report should outline, as the code states, information about board of directors’ duties, composition, structure, and the selection process of directors. The report should also include information about board committees, internal control systems, directors’ remuneration, risk management, shareholders’ rights and rules governing the appointment and discharging of the external auditors. The ES&CMA has sat a timeframe to implement its code of governance across the UAE listed corporations. The UAE code of governance states that the UAE corporations must comply with the code requirements as of May 2010. The code outlines four transitional stages in which the UAE corporations must implement the code requirements. This paper explores the extent to which the UAE corporations comply with the code requirements before the timeframe sat by the ES&CMA ends by May 2010. In this regard, the paper examines corporate governance practices by the UAE listed corporations that are undergoing transitional processes towards better corporate governance.

Methodology The paper riles on a sample of 95 corporations listed in either the Dubai Financial Market or the Abu Dubai Securities Market. The sample population is, then, classified into two broad sectors: 53 financial service corporations and 42 non-financial corporations. The paper utilizes corporate governance practices check list that incorporates 42 governance indicators (Hassan, 2012). The check list incorporated governance indicators introduced under both the UAE regulatory framework and worldwide practices recommended by previous studies. The paper cross-checks the check list against the annual reports of 2008. The check list of 42 indicators spanned over four categories in the following pattern: (1) ownership structure/investors’ rights (Cat. 1: 11 items—weighting 26.2%); (2) board and management structure/processes (Cat. 2: 10 items—weighting 23.8%); (3) audit services (Cat. 3: 4 items—weighting 9.5%); (4) and transparency (Cat. 4: 17 items—weighting 40.5%). One can argue that the check list represents a corporate governance disclosure framework. This framework incorporates four categories. Each category includes different number of indicators.

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Discussion of Empirical Results Descriptive Analysis Table 1 describes the sample characteristics such as: number of listing years, number of years since foundation, corporations’ net income and net operating income. The table shows that two corporations’ annual reports do not include information about their listing date and the minimum listing period is a quarter of a year. Table 1 also shows that some corporations had net operating loss as well as net loss at end of 2008. Table 1 Descriptive Statistics of the Sample Net income in million Net operating income million No. of valid No. of Missing

No. of listing years

No. of year since foundation

95

95

93

95

0

0

2

0

Mean

502.0483

565.4638

4.8737

20.5816

Median

103.1760

109.5460

4.0000

27.0000

Minimum

-291.65

-50.27

0.25

0.25

Maximum

6,547.22

6,547.22

9.00

42.00

Table 2 presents a descriptive analysis of the corporate governance practices check list for the sample of 95 UAE corporations. Table 2 analysis suggests that the majority of UAE corporations adopt corporate governance practices. It also shows a variation in corporate governance practices across the check list four categories for the sample of 95 corporations. Table 2 Descriptive Statistics of the Check List Governance Categories No.

Range

Min

Max

Mean

Std. deviation

Variance

Cat. 1

95

9

2

11

6.99

1.673

2.798

Cat. 2

95

7

1

8

4.06

1.583

2.507

Cat. 3

95

3

1

4

3.08

0.794

0.631

Cat. 4

95

11

4

15

8.72

2.186

4.780

T. Score

95

25

11

36

22.85

4.656

21.680

Notes. Cat. 1 = Governance practices related to ownership structure/investors’ rights; Cat. 2 = Governance practices related to management structure/processes; Cat. 3 = Governance practices related to audit services; Cat. 4 = Governance practices related to transparency; T. Score = Corporate governance practices total score.

Differences Between Financial and Non-financial Sectors The paper applies ANOVA test to find out whether there is a significant difference between the UAE financial and non-financial sectors. The ANOVA test results are presented in Table 3. The test shows that there are significant differences between the two sectors for management structure/processes (Cat. 1); transparency (Cat. 4) and the corporate governance practices total score (T. Score) at the 0.05 level of confidence. The test also shows that there is insignificant difference between the two sectors for ownership structure/investors’ rights (Cat. 1). One category “audit services” (Cat. 3) is significantly different at 0.10 level of confidence. This result means that all UAE corporations publish similar information related to that category. Exploring indicators incorporated

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in that category show that the UAE corporations adopt practices such as mentioning external audit name, fees, the eligibility of the auditor re-appointment and audit results. However, other practices related to “whether the corporation had non-audit services or otherwise” are not mentioned by most of the UAE corporations. In order to confirm results obtained from ANOVA test, the paper applies non-parametric Mann Whitney U, and Wilcoxon tests as shown in Table 4. The non-parametric tests confirm ANOVA test results. Table 3 ANOVA (Difference in Means of Index Categories’ Scores and Total Score Related to the Industry Type) Sum of squares Between groups Cat. 1

0.008

T. Score

2.828

262.981

93

262.989

94

35.037

1

35.037 2.157

Within groups

200.584

93

Total

235.621

94

1.783

1

1.783

Within groups

57.544

93

0.619

Total

59.326

94

Between groups Cat. 4

0.008

Total

Between groups Cat. 3

Mean square

1

Within groups Between groups

Cat. 2

df

36.048

1

36.048

Within groups

413.278

93

4.444

Total

449.326

94

Between groups

110.181

1

110.181

Within groups

1,927.756

93

20.729

Total

2,037.937

94

F

Sig.

0.003

0.957

16.245

0.000

2.881

0.093

8.112

0.005

5.315

0.023

Table 4 Mann Whitney U and Wilcoxon Test Statistics (Difference in Means of Index Categories’ Scores and Total Score Related to the Industry Type) Cat. 1

Cat. 2

Cat. 3

Cat. 4

T. Score

Mann-Whitney U

1,091.000

634.500

890.500

766.000

825.500

Wilcoxon W

1,994.000

1,537.500

2,321.500

1,669.000

1,728.500

-0.168

-3.656

-1.785

-2.642

-2.162

0.867

0.000

0.074

0.008

0.031

Z Asymp. Sig. (2-tailed)

Notes. Grouping Variable: Industry Type; if computed Z: 1 . 96 ≤Z ≤1 . 96 then there is no difference in means, otherwise there is a difference in the mean.

Conclusion The results of ANOVA test show significant differences between financial and non-financial sectors for certain corporate governance reporting categories. There are various reasons behind these differences. The non-financial sector applies the corporation act of 1984 and the UAE code of governance. In addition to these regulations, the financial sector applies the UAE central bank requirements. These requirements require each UAE finance corporation to supply information related to: capital adequacy, capital management and regulatory framework management.

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The findings of this paper provide directions to future research on corporate governance practices. First, the paper relies on a check list that incorporates a 42 un-weighted corporate governance practices indicators. Future research is recommended wherein weights are assigned to different governance practices depending on the importance of such practice. Second, the paper draws a comparison between the UAE two broad economic sectors: financial and non-financial. Future research is recommended to explore whether the corporate governance practices differ among the UAE major sectors such as service, industrial, insurance. Finally, future research is needed to explore the relationship between governance practices and corporations’ performance.

References Barako, D., Hancock, P., & Izan, H. (2006). Factors influencing voluntary corporate disclosure by Kenyan companies. Corporate Governance: International Review, 14(2), 107-125. Bebbington, J. (2004). Governance from the perspective of social/environmental accounting. Social and Environmental Accounting Journal, 24(2), 15-18. Black, B., Jang, H., & Kim, W. (2006). Does corporate governance affect firm value? Evidence from Korea. Journal of Law, Economics and Organization, 22(2), 366-413. Boesso, G., & Kumar, K. (2007). Drivers of corporate voluntary disclosure: A framework and empirical evidence from Italy and United States. Accounting, Auditing and Accountability Journal, 20(2), 269-296. Botosan, C. A. (1997, July). Disclosure level and the cost of equity capital. The Accounting Review, 72(3), 323-349. Bushman, R. M., & Smith, A. J. (2001). Financial accounting information and corporate governance. Journal of Accounting and Economics, 31, 237-333. Chalmers, K., & Godfrey, J. (2004). Reputation costs: The impetus for voluntary derivative financial instrument reporting. Accounting, Organizations and Society, 29(2), 95-125. Chen, A., Kao, L., Tsao, M., & Wu, C. (2007). Building a corporate governance index from the perspectives of ownership and leadership for firms in Taiwan. Corporate Governance: International Review, 15(2), 251-261. Cheung, Y., Connelly, J. T., Limpaphayom, P., & Zhou, L. (2007). Do investors really value corporate governance? Evidence from the Hong Kong market. Journal of International Financial Management and Accounting, 18(2), 86-122. Collett, P., & Hrasky, S. (2005). Voluntary disclosure of corporate governance practices by listed Australian companies. Corporate Governance: International Review, 13(2), 168-196. Coy, D., & Dixon, K. (2004). The public accountability index: crafting a parametric disclosure index for annual reports. The British Accounting Review, 36, 79-106. Dey, A. (2008, December). Corporate governance and agency conflict. Journal of Accounting Research, 46(5), 1143-1181. Gandia, J. (2008). Determinates of internet-based corporate governance disclosure by Spanish listed companies. Online information Review Journal, 32(6), 791-817. GLG. (2009). The international comparative legal guide to corporate governance (Chap. 33, pp. 187-189). Global Legal Group Limited. Gigler, F., & Hemmer, T. (1998). On the frequency, quality, and informational role of mandatory financial reports. Journal of Accounting Research, 36, 117-147. Haat, M. H., Abdul Rahman, R., & Mahenthiran, S. (2008). Corporate governance, transparency and performance of Malaysian companies. Managerial Auditing Journal, 23(8), 744-778. Haniffa, R. M., & Cooke, T. E. (2002). Culture, corporate governance and disclosure in Malaysian corporations. ABACUS, 38(3), 317-349. Hassan, M. K. (2008). The corporate governance inertia: the role of management accounting and costing systems in a transitional public health organization. Research in Accounting in Emerging Economies, 8, 409-454. Hassan, M. K. (2009). UAE corporations-specific characteristics and level of risk disclosure. Managerial Auditing Journal, 24(7), 668-687. Hassan, M. K. (2012). A disclosure index to measure the extent of corporate governance reporting by UAE listed corporations. Journal of Financial Reporting and Accounting (forthcoming).

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Healy, P., & Palepu, K. (2001). Information asymmetry, corporate disclosure, and the capital markets: A review of the empirical disclosure literature. Journal of Accounting and Economics, 31(1-3), 405-440. Hussainey, K., & Al-Nodel, A. (2008). Corporate governance online reporting by Saudi listed companies. Research in Accounting in Emerging Economies, 8, 39-64. Khanchel, I. (2007). Corporate governance: Measurement and determinate analysis. Managerial Auditing Journal, 22(8), 740-760. Klapper, L. F., & Love, I. (2004). Corporate governance, investor protection and performance in emerging markets. Journal of Corporate Finance, 10(5), 703-28. Lundholm, R., & Winkle, M. V. (2006). Motives of disclosure and non-disclosure: A framework and review of the evidence. Accounting and Business Research, International Accounting Policy Forum, 43-48. Maines, L. A., Bartove, E., Fairfield, P. M., Hirst, D. E., Iannaconi, T. E., Mallet, R.,... Vincent, L. (2002). Recommendations on disclosure of non-financial performance measures. Accounting Horizons, 16(4), 353-362. Mimba, N. S. H., Jan van Helden, G., & Tillema, S. (2007). Public sector performance measurement in developing countries: A literature review and research agenda. Journal of Accounting and Organizational Change, 3(3), 192-208. OECD. (2004). Principles of corporate governance. Paris: Organization for Economic Co-operation and Development. Parker, L. D. (2007). Financial and external reporting research: The broadening corporate governance challenge. Accounting and Business Research, 37(1), 39-54. Shleifer, A., & Vishny, R. (1997). A survey of corporate governance. Journal of Finance, 52, 737-783. Solomon, J., & Solomon, A. (2004). Corporate governance and accountability. London: John Wiley & Sons Ltd.. UAE code of governance: Securities and Commodities Authority Chairperson. (2007). Decision No. (R/23) on Corporate Governance Code for Joint-Stock Companies and Institutional Discipline Criteria.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 865-879

Multicriteria Decision Analysis and Geographic Information Systems (GIS) Ceren Erdin Gündogdu Yildiz Technical University, Istanbul, Turkey

Today, geographic information system (GIS) is an information-technology based knowledge system providing all kinds of positional and spatial descriptive information in a related format. Geographic information system is required in almost all types of enterprises today and they play an important role in the solution of corporate problems as a corporate decision support system. By using GIS, this study shows some examples related to supply chain management, electronic business platform and mobile GIS in corporate decision support system and for solving some problems. The purpose of this study is to present opportunities provided for solving vehicle routing problem as a field of application in GIS based decision-making. Research method is optimization method selected for a routing model including vehicle routing problems, and solution of the model. In optimization of mainly geographical vehicle routing problem, key starting point is utilizing GIS-based methods. In the research conducted by taking this key point as a reference, analytical solutions were presented in solution and optimization of the most complex routing problems of GIS-based approaches. As an outcome, it was seen that GIS-based decision making approaches are the most common applications used in vehicle routing problems creating major concerns for companies. For example, with the optimization achieved in this research, the transportation cost was reduced by 11%. Keywords: decision support systems, optimization modeling, decision analysis

Geographical Information Systems (GIS) and Decision-Making Recently, organizations increasingly need more data to improve themselves, ensure their survival and make due diligence accurately. It became important to obtain necessary data among data files occurred and make assessments with this data at the stage of decision-making. It is inevitable to realize the assessments in question via computer-based systems. Computer-based information systems which assist the operators in making decision regarding the issues in their own field are called decision support system. These systems play an important role in solution of complex problems by effective use of data and models. It is seen that current organizations try to make use of GIS-based decision support systems at many stages of

Ceren Erdin Gündogdu, Ph.D., Assistant Professor, Department of Business Administration, Yildiz Technical University. Correspondence concerning this article should be addressed to Ceren Erdin Gündogdu, Barboros Bulvari H Blok, 34349 Istanbul, Turkey. E-mail: [email protected].

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MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

strategic decision-making. It is ensured to involve the most important ones of the factors which must be considered in strategic decision-making, model and solution methods developed according to order of priority in the decision support system by associating with geographical database and GIS analysis tools. Geographical information systems that are known as collection, arrangement, inquiry and analysis of spatial data in computer-aided systems are known as the systems producing solutions in almost every field today (Longley, 2001). GIS studies conducted on complex hardware recently were made free from spatial limitations due to fast developments in computer and communications technologies and found wide application areas under the name of mobile GIS (Maguire-Michael, 1993). Especially in operational research, combinatorial optimization field, selection of facility location, the shortest way, traveling salesman and allocation problems are known as the combinatorial problems which are difficult to solve, its modeling and solution require mathematical software and algorithmic approaches. In solution of the problems in question in a GIS-based study, introduction of parameters and layers to be subject to analysis is easily ensured by integrating the solution module ArcGIS with the geographical information system (Longley, 2001; Lang, 1999).

GIS and Traveling Salesman Problem Before our research titled “Optimization of Traveling Salesman Problem Using Geographic Information Systems” conducted, traveling salesman and the shortest road problems were dealt with as combinatorial optimization problems and solutions covering 81 cities of Turkey were produced. The digital road network map obtained in the research in question was also used in this research (see Figure 1) (Jing-Chao, 2003; Laporte, Desrochers, & Nobert, 1984; Li, Levi, & Desrochers, 1992).

Figure 1. Turkey digital road network and traveling salesman problem (TSP).

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

867

Vehicle Routing Problem (VRP) The organizations are obliged to renew themselves in order to adapt fast developing information technologies today. In particular, it has become very important to meet customer demands timely and with the minimum cost. This problem is defined as vehicle routing problem and its solution is a complex optimization problem. On the other hand, it is perceived as an extension of the traveling salesman problem (Mintis, Basbas, Papaioanou, Taxiltaris, & Tziavos, 2004; Lang, 1999). Vehicle routing problem (VRP) is finding the routes to reach all customers spread to different points from a warehouse in any geographical environment with the minimum cost. Minimum cost requires the shortest road driven by the vehicle. The problem may be understood as the shortest road problem with this approach. In fact, vehicle routing problem (VRP) is a problem having non-deterministic polynomial (NP) difficulty and a solution lasting long. There is not a single VRP approach that is used as generally accepted and that reaches the final solution in different fields in the related literature. Approaches used in solution of the problem are seen mainly to be intuitive approaches (Fisher & Jaikumur, 1981; Taillard, 1993; Kindervater & Savelsbergh, 1997; Rochat & Taillard, 1995; Xu & Kelly, 1996; Taillard, Badeau, Gendreau, Guertin, & Potvin, 1997; Shaw, Maher, & Puget, 1998; Casademont et al., 2004).

Material and Method In this study, vehicle routing problem of a company organized with delivery centers in Turkey was dealt with. X Company under the research established delivery centers in 15 locations to meet customer demands in all cities of our country (see Figure 2) and planned to meet demands of the customers in neighbor cities in a fast and economic manner. Business hours of the warehouses are indicated at the top-left and the graphical display of these hours (blue bars) are laid out at the top-right. In this model all warehouses are set to be open 7/24. The places of these warehouses in the highway network are shown in the map under Figure 2. Here, when purpose function was established, the followings were determined. Indexes: K: Number of delivery center (DC) (k = 1, 2, 3, ..., K); L: Number of customer (l = 1, 2, 3, .... L). Variables: zkl: Quantity transported from delivery center k to customer l. Parameters: ukl: Unit cost of transportation from delivery center k to customer l; ck: Delivery center capacity; dl: Demand of customer l. Constraints:

∑Z

kl

≤C k

for all k—Delivery center capacity constraint;

kl

≥D l

for all l—Customer demand constraint;

l

∑Z l

Z kl ≥0 for all k, l—Mark constraint.

As defined, the objective function Min ∑∑U kl Z kl is determined. k

l

868

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS In the research, a transportation network was established between cities in Turkey and it was digitized in

order to analyze the network. The step of creating topology for the purpose of network analysis was completed with a module of ArcInfo GIS, Arc GIS 9.3. In solution of vehicle routing problem, ArcGIS network analyst and ArcView network module were utilized (ArcView, 1996). Project file was produced by transferring the data found following the analyses to Arc-Logistic module (Terrey, 2008). Fifteen delivery centers (DC) were planned throughout Turkey at the stage of processing data for project file, and producing model and database was arranged accordingly. However, only the part for the delivery center in Istanbul, Antalya, Izmir, Ankara, Afyon meeting demands from the customers in surrounding cities was dealt with as VRP-optimization.

Figure 2. Fifteen delivery centers in Turkey.

Assessment and Findings Nine different products in the delivery centers (Istanbul, Antalya, Izmir, Ankara, and Afyon) are stored as shown in Table 1. The requests coming to these delivery centers from the other cities are shown in Table 2. Number of vehicles possessed by the delivery center and their capacities are given in Table 3, and they consist of 36 vehicles with the transportation capacities of 40, 30 and 20 tons.

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

869

Table 1 Delivery Centers Supply (ton)

Istanbul

Ankara

Izmir

Antalya

Afyon

1001O

200

250

210

195

80

1002P

250

300

290

210

75

1003S

450

350

360

400

90

1004C

360

420

310

380

70

1005B

220

310

390

410

65

1006A

210

310

340

650

72

1007O

180

210

320

450

30

1008B

70

90

120

140

15

1009L Total

150

170

140

180

22

2,090

2,410

2,480

3,015

519

Table 2 Demand From Other Cities Name

City

Country

Service time

From time 1Str To time 1Str Total weight Total volume Description

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

20,000

20

1001O

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

15,000

15

1002P

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

30,000

30

1003S

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

16,000

16

1004C

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

18,000

18

1005B

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

18,000

18

1006A

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

8,000

8

1007O

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

5,000

5

1008B

1701 CAN. Canakkale

Turkey

10

5:00:00 AM

0:00:00 AM

14,000

14

1009L

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

18,000

18

1001O

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

17,000

17

1002P

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

35,000

35

1003S

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

15,000

15

1004C

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

22,000

22

1005B

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

17,000

17

1006A

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

14,000

14

1007O

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

6,000

6

1008B

2201 EDIR.

Edirne

Turkey

10

5:00:00 AM

0:00:00 AM

15,000

15

1009L

3901 KIRK. Kirklareli

Turkey

10

5:00:00 AM

0:00:00 AM

15,000

20

1001O

3901 KIRK. Kirklareli

Turkey

10

5:00:00 AM

0:00:00 AM

10,000

15

1002P

3901 KIRK. Kirklareli

Turkey

10

5:00:00 AM

0:00:00 AM

30,000

30

1003S

3901 KIRK. Kirklareli

Turkey

10

5:00:00 AM

0:00:00 AM

12,000

16

1004C

3901 KIRK. Kirklareli

Turkey

10

5:00:00 AM

0:00:00 AM

20,000

18

1005B

870

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

Table 3 Vehicles and Capacities Istanbul

Ankara

Izmir

Antalya

Afyon

40 Ton

15

4

3

5

1

30 Ton

9

7

5

6

2

20 Ton

12

11

9

10

3

Total

36

22

17

21

6

In the project file, data was integrated in a database including delivery centers and presence of stored goods, demands from neighboring customers, identifications of the vehicles to be used in transportation (transportation capacity ton/m3), identification of driver, working hours, fixed cost of vehicles and expense per kilometer. In addition, optimization studies were started after determination of any constraints which might directly affect unit transportation cost like limit of distance in the tour of the vehicles to be used in transportation starting from the delivery centers ending in the delivery center as well as load factor of vehicles. In this part of the study, nine types of goods were found stored as 10,514 tons in the delivery center in Istanbul, Antalya, Izmir, Ankara and Afyon (see Table 1) and delivery of the demands coming from the customers in the neighboring cities to this delivery center was projected (see Table 2). Aim function was optimized by producing different transportation models by changing numbers of transportation vehicles in different sizes (20-30-40 ton) in the project (see Table 3). The delivery centers were grouped based on their own geographical locations, product range and product (stored good) amount and solutions were generated and optimization studies were conducted accordingly. During the assessments, different delivery models were generated for every delivery center and group of delivery centers. Results of the assessments were obtained from manager summaries and presented (see Tables 4-7). Table 4 Manager Summary for Istanbul Per-order

Orders Percentage Capacity utilization (%) on time (%) Time Weight Volume Custom 1 Custom 2 Vehicle Cost Miles Weight Volume Custom 1 Custom 2 hour 34AC01 121.47 TL 148.7 28,166.7 28.2 0.0 0.0 0.4 100 100 85 85 0 0 (40 ton) 34AC02 170.60 TL 205.0 28,000.0 28.0 0.0 0.0 0.3 100 100 93 93 0 0 (40 ton) 34BC01 107.80 TL 140.9 25,500.0 25.5 0.0 0.0 0.5 100 100 85 85 0 0 (30 ton) 34BC02 197.32 TL 247.2 25,333.3 25.3 0.0 0.0 0.3 100 100 84 84 0 0 (30 ton) 34CD07 201.13 TL 257.4 13,500.0 13.5 0.0 0.0 0.2 100 100 68 68 0 0 (20ton) 34CD08 201.13 TL 257.4 13,500.0 13.5 0.0 0.0 0.2 100 100 68 68 0 0 (20ton) Folder 160.50 TL 198.2 19,973.7 20.1 0.0 0.0 0.3 100 100 2 2 0 0 Summary Report 160.50 TL 198.2 19,973.7 20.1 0.0 0.0 0.3 100 100 2 2 0 0 Summary

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

871

Table 5 Manager Summary for Istanbul-Antalya Per-order

Orders Percentage Capacity utilization (%) on time (%) Time Weight Volume Custom 1 Custom 2 Vehicle Cost Miles Weight Volume Custom 1 Custom 2 hour 34AC01 124.23 TL 151.5 29,166.7 29.2 0.0 0.0 0.4 100 100 88 88 0 0 (40 ton) 34AC02 167.59 TL 212.4 33,000.0 33.0 0.0 0.0 0.3 100 100 83 83 0 0 (40 ton) 34BC01 108.68 TL 140.9 25,666.7 25.7 0.0 0.0 0.4 100 100 86 86 0 0 (30 ton) 34BC02 166.59 TL 212.4 28,500.0 28.5 0.0 0.0 0.3 100 100 95 95 0 0 (30 ton) 34CD07 178.60 TL 215.0 12,750.0 12.8 0.0 0.0 0.3 100 100 85 85 0 0 (20ton) 34CD08 209.63 TL 257.4 15,000.0 15.0 0.0 0.0 0.2 100 100 75 75 0 0 (20ton) Folder 163.28 TL 198.9 18,160.7 18.3 0.0 0.0 0.3 100 100 1 1 0 0 Summary Report 163.28 TL 198.9 18,160.7 18.3 0.0 0.0 0.3 100 100 1 1 0 0 Summary

Table 6 Manager Summary for Istanbul-Antalya-Izmir Per-order Vehicle 34AC01 (40 ton) 34AC02 (40 ton) 34BC01 (30 ton) 34BC02 (30 ton) 34CD07 (20ton) 34CD08 (20ton) Folder Summary Report Summary

Orders Percentage Capacity utilization (%) Cost Miles Weight Volume Custom 1 Custom 2 hour on time (%) Time Weight Volume Custom 1 Custom 2 124.23 TL 151.5 27,500.0 27.5 0.0 0.0 0.4 100 100 83 83 0 0 167.59 TL 212.4 33,000.0 33.0

0.0

0.0

0.3

100

100

83

83

0

0

108.68 TL 140.9 25,666.7 25.7

0.0

0.0

0.4

100

100

86

86

0

0

166.59 TL 212.4 28,500.0 28.5

0.0

0.0

0.3

100

100

95

95

0

0

178.60 TL 215.0 12,750.0 12.8

0.0

0.0

0.3

100

100

85

85

0

0

209.63 TL 257.4 15,000.0 15.0

0.0

0.0

0.2

100

100

75

75

0

0

189.85 TL 227.5 20,861.1 21.0

0.0

0.0

0.2

100

100

1

1

0

0

189.85 TL 227.5 20,861.1 21.0

0.0

0.0

0.2

100

100

1

1

0

0

y Delivery center Istanbul (see Figure 3); y Delivery centers Istanbul-Antalya (see Figure 4); y Delivery centers Istanbul-Antalya-Izmir (see Figure 5); y Delivery centers Istanbul-Antalya-Izmir-Ankara (see Figure 6); y Delivery centers Istanbul-Antalya-Izmir-Ankara-Afyon (see Figure 7). When vehicle routing problem (VRP) project was solved in the medium of Arc-Logistic, a set of reports is presented by the medium of Arc-Logistic with optimization of unit transportation cost. These reports for assessment of project results include significant data for the decision maker. Some samples of the reports in question are presented below. y Delivery vehicles and delivery plan (see Tables 3-7); y Manager summary (see Tables 4-8);

872

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

y Road definition (Verbal) (see Table 9); y Loading report (see Table 10); y Road definition (Plan) (see Tables 11-12); y Result report (see Table 13). Table 7 Manager Summary for Istanbul-Antalya-Izmir-Ankara Per order

Orders Percentage Capacity utilization (%) on time (%) Time Weight Volume Custom 1 Custom 2 Vehicle Cost Miles Weight Volume Custom 1 Custom 2 hour 34AC01 121.47 TL 148.7 27,833.3 27.8 0.0 0.0 0.4 100 100 84 84 0 0 (40 ton) 34AC02 170.60 TL 205.0 27,250.0 27.3 0.0 0.0 0.3 100 100 91 91 0 0 (40 ton) 34BC01 107.80 TL 140.9 25,500.0 25.5 0.0 0.0 0.5 100 100 85 85 0 0 (30 ton) 34BC02 166.59 TL 212.4 28,500.0 28.5 0.0 0.0 0.3 100 100 95 95 0 0 (30 ton) 34CD07 236.80 TL 286.7 15,333.3 15.3 0.0 0.0 0.2 100 100 77 77 0 0 (20ton) 34CD08 201.13 TL 257.4 16,500.0 16.5 0.0 0.0 0.2 100 100 83 83 0 0 (20ton) Folder 184.14 TL 221.7 21,701.8 21.8 0.0 0.0 0.3 100 100 1 1 0 0 Summary Report 184.14 TL 221.7 21,701.8 21.8 0.0 0.0 0.3 100 100 1 1 0 0 Summary

Figure 3. Delivery model (Istanbul). Number of delivery models: 8; Number of vehicles used: 23; Average cost per vehicle: 160.50 TL; Average road per vehicle: 198.20 Mil; Average amount of products carried per vehicle: 19,973 tons; Average cost: 8.04 TL/ton.

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

Figure 4. Delivery model (Istanbul-Antalya). Number of delivery models: 7; Number of vehicles used: 40; Average cost per vehicle: 163.50 TL; Average road per vehicle: 198.90; Mil Average amount of products carried per vehicle: 18.16 tons; Average cost: 8.99 TL/ton.

Figure 5. Delivery model (Istanbul-Antalya-Izmir). Number of delivery models: 7; Number of vehicles used: 52; Average cost per vehicle: 189.85 TL; Average road per vehicle: 227.50 Mil; Average amount of products carried per vehicle: 20.86 tons; Average cost: 9.10 TL/ton.

873

874

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

Figure 6. Delivery model (Istanbul-Antalya-Izmir-Ankara). Number of delivery models: 8; Number of vehicles used: 63; Average cost per vehicle: 184.14 TL; Average road per vehicle: 221.70 Mil; Average amount of products carried per vehicle: 21.70 tons; Average cost: 8.49 TL/ton.

Figure 7. Delivery model (Istanbul-Antalya-Izmir-Ankara-Afyon). Number of delivery models: 8; Number of vehicles used: 71; Average cost per vehicle: 172.56 TL; Average road per vehicle: 206.10 Mil; Average amount of products carried per vehicle: 20.52 tons; Average cost: 8.41 TL/ton.

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

875

Table 8 Manager Summary for Istanbul-Antalya-Izmir-Ankara-Afyon Per-order Miles Weight

Orders Percentage Capacity utilization (%) on time (%) Time Weight Volume Custom 1 Custom 2 Volume Custom 1 Custom 2 hour

Vehicle

Cost

34AC01 (40 ton) 34AC02 (40 ton) 34BC01 (30 ton) 34BC02 (30 ton) 34CD07 (20ton) 34CD08 (20ton) Folder Summary Report Summary

122.00TL 146.6 22,666.7 22.7

0.0

0.0

0.4

100

100

85

85

0

0

138.11TL 167.9 27,000.0 27.0

0.0

0.0

0.4

100

100

84

84

0

0

125.15TL 154.0 21,400.0 21.4

0.0

0.0

0.4

100

100

89

89

0

0

166.59TL 212.4 28,500.0 28.5

0.0

0.0

0.3

100

100

95

95

0

0

201.13TL 257.4 16,000.0 16.0

0.0

0.0

0.2

100

100

80

80

0

0

201.13TL 257.4 16,500.0 16.5

0.0

0.0

0.2

100

100

83

83

0

0

172.56TL 206.1 20,521.7 20.6

0.0

0.0

0.3

100

100

1

1

0

0

172.56TL 206.1 20,521.7 20.6

0.0

0.0

0.3

100

100

1

1

0

0

Table 9 Road Definition Vehicle: 34AC01(40 ton) Customer Start (Istanbul)

Routing folder: Istanbul-Antalya-Izmir-Ankara-Afyon Address

Time

Istanbul Turkey

ETA 07:10:01

Order

TW1 Wide Open SRVC 0.0 Delivery: 4106 Izmit

Izmit Turkey

ETA 08:06:42

HM

TW1 05:00:00(2)

WT 32.000

WK

TW2

VOL 32

SRVC 10.0

CT 0

Priority: Normal

CT2 0

DESC 1005E DESC2 Comment Comment 2 Renewal (Istanbul)

Istanbul Turkey

ETA 09:13:23 TW1 Wide Open SRVC 0.0

Delivery: 4102 Izmit HM WK Priority: Normal DESC 1002P DESC2 Comment Comment 2

Izmit Turkey

ETA 10:10:04 TW1 05:00:00-00:00:00(2)

WT 34.000

TW2

VOL 34

SRVC 10.0

CT 0 CT2 0

876

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS

Table 9 continued Vehicle: 34AC01(40 ton)

Routing folder: Istanbul-Antalya-Izmir-Ankara-Afyon

Customer Renewal (Istanbul)

Address

Time

Istanbul Turkey

Order

ETA 11:16:46 TW1 Wide Open SRVC 0.0

Delivery:5402 Adapazari

ADAPAZARI TURKEY

ETA 12:50:00

HM

TW1 05:00:00-00:00:00(2)

WT 32.000

WK

TW2

VOL 32

SRVC 10.0

CT 0

Priority: Normal

CT2 0

DESC 1002P DESC2 Comment Comment 2

Table 10 Loading Report Vehicle: 34AC01(40 ton) Start (Istanbul) 1 Delivery: # DESC 1006 E DESC2 Renewal (Istanbul) 1 DELİVERY: # DESC 1002 P DESC2 Renewal (Istanbul) 1 Delivery: # DESC 1002 P DESC2 Renewal (Istanbul) 2 Delivery: # DESC 1008 M DESC2 Renewal (ISTANBUL) 2 Delivery: # DESC 1006 E DESC2 Renewal (Istanbul) 1 Delivery: # DESC 1009 ME DESC2 Finish (Istanbul) Total

Routing folder: Istanbul-Antalya-Izmir-Ankara-Afyon

Orders: 6

WGT 32.000

VOL:32 Comment Comment 2

CTM 0

CTM2 0

WGT 34.000

VOL:34 Comment Comment 2

CTM 0

CTM2 0

WGT 32.000

VOL:32 Comment Comment 2

CTM 0

CTM2 0

WGT 12.000

VOL:12 Comment Comment 2

CTM 0

CTM2 0

WGT 20.000

VOL:20 Comment Comment 2

CTM 0

CTM2 0

WGT 6.000

VOL:6 Comment Comment 2

CTM 0

CTM2 0

WGT: 136.000

CTM: 0

CTM2:0

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS Table 11 Road Definition Vehicle: 34AC01(40 ton)

Routing folder: Istanbul-Antalya-Izmir-Ankara-Afyon

Figure 8. Route of the vehicle, which is indicated in Table 11.

Table 12 Road Definition Vehicle: 34AC01(40 ton) Customer Start (Istanbul)

Delivery: 4106 Izmit HM WK Priority: Normal DESC 1006E DESC2 Comment Comment 2

Routing folder: Istanbul-Antalya-Izmir-Ankara-Afyon Address Time Order Istanbul Turkey ETA 07:10:01 TW1 Wide open SRVC 0.0 Izmit Turkey ETA 08:06:42 TW1 05:00:00(2) WT 32.000 TW2 VOL 32 SRVC 10.0 CT 0 CT2 0

Table 13 Result Report Routing folder: Istanbul-Antalya-Ankara-Afyon Order Vehicle

34AC01 (40 ton)

Customer

Address label

Driver: 1

No violations in excess of Time Window periods predicted

Telephone

Time window

877

878

MULTICRITERIA DECISION ANALYSIS AND GEOGRAPHIC INFORMATION SYSTEMS During the assessments made, multiple delivery models were generated for each delivery center and average

cost was minimized with the optimization studies that were carried out accordingly.

Result Current definition of GIS was changed as mobile geographical information systems (MGIS) due to elimination of the time and spatial constraints upon implementation of vehicle routing planning in GIS media and introduction of internet and other communication means. Technological developments allowing collective performance of the works in geographical region (external locations) and working areas (internal locations) ensured an increase in productivity, reduction in costs and fast access and audit of data. Main purpose in MGIS applications is to increase productivity like in vehicle routing planning works, accelerate process of decision-making, to perform data collection and updating processes concurrently. Supply chain problems of the organizations are solved rationally if the integration of software and hardware is ensured between the Global Position System (Xu, 2003) and other mobile systems that are necessary in determination of geographical positions of vehicles. Even stock controls and shelf waiting periods may be controlled through the communication platforms to be produced. Minimizing stock and shelf waiting periods and instantly meeting the demands provide the organizations with a considerable benefit. In this research, vehicle route planning which is a part of supply chain was discussed and a part of the study planned at the level of Turkey was assessed. Mobile GIS studies were not performed to delete goods deliveries from center warehouse records and transfer to customer records at the time of delivery by knowing when and at which point the vehicles are through establishing a communication platform beyond vehicle route planning. However, optimization study was performed regarding the shortest and cheapest way to meet the demands for the goods stored in delivery centers in the medium of GIS. As a result of the optimization studies with delivery models from Istanbul, Antalya, Izmir, Ankara and Afyon delivery centers covering almost half of the country among delivery centers network planned for the whole Turkey; with the optimization studies conducted through operating the current vehicles of the company in question with the most negative conditions and taking into account the number, size and cycle conditions of the vehicles, the transportation costs were gradually reduced to values such as 9.31 TL/ton, 8.95 TL/ton, 8.62 TL/ton and 8.42 TL/ton. Finally, average cost of deliveries to be made from five delivery centers was found as 8.41 TL/ton. As it can be seen clearly, thanks to the optimization studies conducted, an 11% of reduction was achieved in transportation costs. A significant opportunity will be available for competition when this rate is reflected to the prices.

References Achuthan, N. R., & Caccetta, L. (1991). Integer linear programming formulation for vehicle routing problem. European Journal of Operational Research, 52, 86-89. Casademont, J., Lopez, E., Paradells, J., Alfonso, R., Calveras, A., Barcello, F., & Cotrina, J. (2004). Wireless technology applied to GIS. Computers and Geosciences, 30(6), 671-682. David, J., Maguire-Michael, F., & Goodchild-David, W. R. (1993). Geographical information systems principles and applications. Wiley. Desrochers, M., & Laporte, G. (1991). Improvements and extensions to the Miller-Tucker-Zemlin Subtour elimination constraints. Operations Research Letters, 10, 27-36.

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Fisher, M. L., & Jaikumur, R. A. (1981). Generalized assignment heuristic for vehicle routing. Network, 11, 109-124. Golden, B. L., Magnanti, T. L., & Nguyen, H. Q. (1977). Implementing vehicle routing algorithms. Networks, 7, 113-148. John, J. C., Edward, J. B., & Longley, C. J. (2003). The management of business logistics a supply chain perspective. Thomson South-Western. Kara, İ. (2006). Flow based integer linear programming formulations of distance constrained vehicle routing problems. Working paper, Başkent University, Department of Industrial Engineering. Kindervater, G. A. P., & Savelsbergh, M. W. P. (1997). Vehicle routing: Handling edge exchanges. In E. Aarts, & J. K. Lenstra (Eds.), Local search in combinatorial optimization (pp. 337-360). John Wiley & Sons. Kulkarni, R. V., & Bhave, P. R. (1985). Integer programming formulations of the vehicle routing problems. European Journal of Operational Research, 20, 58-67. Lang, L. (1999). Transportation GIS. CA: ESRI Press. Laporte, G., Desrochers, M., & Nobert, Y. (1984). Two exact algorithms for solving the distance constrained vehicle routing problem. Networks, 14, 161-172. Laporte, G., Nobert, Y., & Desrochers, M. (1985). Optimal routing under capacity and distance restrictions. Operations Research, 33, 1050-1073. Li, C. L., Levi, D. S., & Desrochers, M. (1992). On the distance constrained vehicle routing problems. Operations Research, 40(4), 790-799. Longley, P. A. (2001). Geographic information systems and science. New York: Wiley. Mintis, G., Basbas, S., Papaioanou, P., Taxiltaris, C., & Tziavos, I. N. (2004). Application of GPS technology in the land transportation system. European Journal of Operational Research, 152(2), 399-409. Naddef, D. (1994). A remark on “Integer linear programming formulation for a vehicle routing problem” by N. R. Achutan, & L. Caccetta, or how to use Clark and Wright savings to write such integer linear programming formulations. European Journal of Operational Research, 75, 238-241. Rochat, Y., & Taillard, É. D. (1995). Probabilistic diversification and intensification in local search for vehicle routing. Journal of Heuristics, 1, 147-167. Shaw, P., Maher, M., & Puget, J. F. (1998). Using constraint programming and local search methods to solve vehicle routing problems (pp. 417-431). Proceedings of the Fourth International Conference on Principles and Practice of Constraint Programming (CP ’98). Taillard, É. D. (1993). Parallel iterative search methods for vehicle routing problems. Networks, 23, 661-673. Taillard, É. D., Badeau, P., Gendreau, M., Guertin, F., & Potvin, J. Y. (1997). A tabu search heuristic for the vehicle routing problem with soft time windows. Transportation Science, 31, 170-186. Toth, P., & Vigo, D. (Ed.). (2002). The vehicle routing problem. SIAM Monographs on Discrete Mathematics and Applications, SIAM. Waters, C. D. J. (1988). Expanding the scope of linear programming solutions for vehicle scheduling problems. Omega, 16(6), 577-583. Xu, G. C. (2003). GPS: Theory, algoritms and applications. New York: Springer. Xu, J., & Kelly, J. (1996). A network flow-based Tabu search heuristic for the vehicle routing problem. Transportation Science, 30, 379-393.

China-USA Business Review, ISSN 1537-1514 September 2011, Vol. 10, No. 9, 880-892

The Relationship Between Business Environment and Business Incubation∗ Miemie Struwig Nelson Mandela Metropolitan University, Port Elizabeth, South Africa

Abel Meru Catholic University of Eastern Africa, Nairobi, Kenya

This paper investigates the relationship between the business environment and business incubation. It is expected that the protected environment in which business incubators operate should protect it from the business environment. This research empirically assess whether this is true or not. A mixed method research design is followed in that a framework to assess the relationship between the business environment and business incubation is established using qualitative research. The framework is then empirically tested by using a quantitative research design. To investigate this relationship, an empirical study, using a cross sectional research design including a random sample of two hundred incubates and twelve business incubator managers, was conducted. The results indicated that the business environment did not show a statistically significant relationship with business incubation, but that internal-environmental factors impacted on business incubation. These factors included the incubator’s vision, function and management styles which impacted on training and business support, as well as the incubator’s resources which impacted on technological support. With more youthful entrepreneurs and technologically orientated incubates, the business environment may become more important and increasingly impact on business incubation. In the changing business environment, it is important to understand how incubators can be used to develop new businesses. Keywords: business incubation, business environment, business incubation process

Introduction The infrastructure geared to supporting small business is extensive and includes government and regional agencies, specialized support financiers, science parks, industrial parks, research parks, business simulation programmes, networking programmes, and various kinds of technology development and dissemination initiatives (Autio & Klofsten,1998, p. 30). Among the myriad of initiatives, business incubators and enterprise support systems have emerged worldwide as highly effective methods for promotion of decentralized economic growth from the bottom up both in industrialized and also in transition and industrialized economies (Lalkaka & ∗

Paper presented at the Academy of International Business Conference in Dubai December 10-12, 2010. The authors like to express their gratitude to participants of the conference. Miemie Struwig, Ph.D., Professor, Business Management, Nelson Mandela Metropolitan University. Abel Meru, Ph.D., Marketing and Management, Catholic University of Eastern Africa. Correspondence concerning this article should be addressed to Miemie Struwig, P.O. Box 77000, Port Elizabeth, 6031, South Africa. E-mail: [email protected].

THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION 881 Abetti, 1999, p. 197). Developing countries, struggling with political, economic, socio-cultural, technological and demographic uncertainties often find themselves testing wide ranging policies as a way to alleviate stagnation and brisk economic performance. This paper examines the relationship between the business environment and business incubation. The intention is to establish whether the business environment has a relationship with business incubation to see whether the controlled environment within which the business incubator operates eliminates the influences of the business environment. First, the meaning of a business incubator together with the term business incubation will be explained, and then the features of the business environment will be explored. Thereafter, a framework to investigate the relationships between the business environment and business incubation is developed. This framework is then used to test the relationship empirically.

A Definition of Business Incubators The history of business incubators dates back to 1942 in the United States of America when student businesses were incubated in New York (Chinsomboon, 2000, p. 27). Most of the literature on incubator research focuses on the incubator facilities viewed in terms of multi-tenant buildings (Weinberg, Allen, & Schermerhorn, 1991, p. 149; Hurley, 2002, p. 53); managed workspaces (Lalkaka, 1997, p. 9); incubator buildings, speculative buildings and flex space (Hurley, 2002, p. 53); greenhouse business facilities and business centres (Plosila & Allen, 1985, p. 1) and on business-incubator profiles (Hackett & Dilts, 2004, p. 57). The dominant definitions of a business incubator come from the European Business Incubation Association (EBIA) and the National Business Incubation Association (NBIA), but they are mere descriptions of what incubators do rather than what they entail (Ryker, 2001, p. 7). The Centre for Strategy and Evaluation Services’s (2002, p. 3) broad definition of the term, “incubator”, embraces technology centres, science parks, business and innovation centres, and organizations which have no single physical location or incubators without walls, the so-called new economy incubators and a variety of other models. Though all incubators differ in design, their chief function, to provide a controlled environment, is the same (World Book, 2001). When the various business incubator definitions are analyzed, the following concepts are present in all definitions: physical spaces, facilities and infrastructure, entrepreneurs, business-assistance programmes, networks, and business development within a controlled environment. For the purpose of this study, a business incubator is defined as a nurturing environment for start-ups that provide business-support programmes and networking including physical infrastructure (in some cases) that enables businesses to develop within a controlled environment.

The Business Incubation Process Hannon (2004, p. 453) underpinned the necessity of understanding the building blocks that make up the incubation process, the processes of transferring ideas, knowledge or research to the marketplace. Hackett and Dilts (2004, p. 57) observe that just as a business is not merely an office in a building, a business incubator should also be understood from the view point of myriads of networks that operate within and outside of it, which is what business incubation, is per se. The term business incubation is contained in the Information for Development Programme (2005, p. 8) report that shows there are a wide variety of organizations working on different dimensions of business incubation including business incubators, science and cyber parks, national associations, foundations and

882 THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION

non-profit organizations, universities and research institutions, and private-sector consulting organizations. This may explain Lavrow and Sample’s (2000, p. 11) assertion that many terms have been given to describe the process of incubation. For example, these terms include business incubator, accelerator, econ-net, e-celerator, net-celerator and e-incubator (Chinsomboon, 2000, p. 25), venture incubator, portal and venture network. Hannon (2005, p. 58) notes that there are new opportunities to explore methods for facilitating incubation processes focusing on numerous critical aspects of business incubation, such as, governance and control, management and leadership, professionalism and personal development, client monitoring and tracking, impact assessment and evaluation. For the purpose of this research, business incubation includes the provision of services training, business support, financial support, technology support, facilities and infrastructure, networking and mentoring, and after-care services.

The Business Environment The environment in which any business operates consists of an internal environment and an external environment. The internal environment consists mainly of the following: (1) The firms’ vision, mission, values and goals The vision describes the envisaged future of the business in terms of the nature and size of business ought to be in. Whereas the reason for existence of businesses may look similar, the mission differentiates one type of business from another, with prescribed values and philosophy. Goals characterize the desired future activities of the business that would enable accomplish the vision. (2) Business functions and policy issues The main functions of a business include production/operations, finance/accounting, marketing, human resource management, research and development whereas a policy acts as a guide to thinking in the decision-making process of a business. (3) Factors of production The classical factors of productions as defined by economist include land, labour, capital, information and entrepreneurship. In the modern world, business resources have been classified in terms of the six m’s namely: manpower, materials, money, methods, machines and minutes. (4) Business culture, management style and ethics The culture of a business constitutes common values, convictions and customs pertaining to the business, and is closely linked to the ethics of the business. It also relates to the way a business exploits opportunities to their advantage, and may nurture their employees, particularly for business development. Management style entails the consideration paid to the worker compared to work production by the manager. This may range from being work centered to participative management styles. The style may also be influenced by the type of business ownership, depending on whether it is sole proprietorship, family business, partnership or limited company. (5) Information technology Basic access to and appropriate use of know-how as tools and equipment for production or operations process will usually enhance efficiency and delivery of quality goods and services at affordable prices. Most of the SMEs use low technology processes, either they lack appropriate ones or when such a process exists, it is costly. The outcome is sub-standard products/services that lack creative designs and styles, spread across the country. The external environment comprises the task environment and the broad environment. The task

THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION 883 environment is made up of consumers, competitors, suppliers, and distributors. The broad environment comprises political and legal, economic, socio-cultural, demographics, and technological factors. The task environment consists of: (a) Consumer Consumers can either be buyers/purchasers or users of the ultimate product/services. Their ability to buy or use is dependent on their purchasing power. (b) Competitors Within a liberalized economy the free entry and exit in any industry ensures improved quality and constant flow of goods and services on offer. Competition is closely linked to the nature of business sector and the number of businesses, which calls for more innovative ways of provision of goods and services. (c) Suppliers Depending on the nature of the business sector, businesses as open systems must identify the sources of the raw materials or inputs. These inputs may be of high/low quality, cheap/expensive, local/imported and certainly with a lead time between when ordered and delivered on site. (d) Distributors Marketing channels consist of the producers, the agents, distributors/stockist, retailers and finally the consumers of the goods. These channels of distribution may assume varying configurations from being direct to indirect channels depending on the nature of the product, distribution strategy adopted by the business, location of the consumers, and finances available with the business or the intermediaries. It is important to note that, basic products use direct channels due to their high perishability. Production and consumption are simultaneous hence no inventories. The broad environment consists of: (1) Political/legal factors Key among the business concerns under political/legal factors includes peace and stability, regulation, legislation and patents. Some of the hurdles of business development in the country include: Licensing that is a complicated, slow process and costly. At the same time, businesses are forced to comply with the legal requirements. (2) Economic factors The pillar to development and growth of business rests on the purchasing power of the institutions and people, measured in terms of a wide range of factors, including the growth rate of the economy, levels of economic activity, unemployment, interest rates, inflation, savings, market prices and foreign exchange rates. (3) Socio-cultural factors Socio-cultural revolves around the business culture among the communities in a country, literacy levels, especially on entrepreneurial education, social strata, and differences among urban and rural entrepreneurs. Provision of internal security is crucial to business development for any nation. Other facilities critical to entrepreneur performance include electricity, telephones, water, and sewerage. (4) Demographic factors Demographic factors include age factor, gender, family status and size, rural urban migration and vice versa, life expectancy and issues of communicable diseases. (5) Technological factors The effect of electronic commerce on business development, especially with regard to the flow of market

884 THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION

information, global reach, communication via electronic mails, and promotion on goods and service on company websites, where geography is history, may indicate more success for businesses. However, gains made, may be eroded by low bandwidth, the high cost of interconnectivity, and the low computer literacy rate may hamper growth.

A Theoretical Framework to Investigate the Relationship Between the Business Environment and Business Incubation The focus of this research is to investigate the relationship between the business environment and business incubation. For the purpose of developing a framework to conduct such an investigation, two existing models were consulted. First, the model consulted was developed by Centre for Strategy and Evaluation Services (2002) that depicts a simple input-output model to describe incubator activities. This model shows that the inputs comprise of finances, stakeholder objectives, management skills and projects. The process consists of training, business advice, financial support, technology, physical space and networking. The outputs are graduating businesses that can operate successfully. Second, the conceptual framework of Hannon (2004) for management and leadership learning in the United Kingdom incubator sector were analyzed. This framework is based on a three-dimensional construct. The vertical axis represents the stages of development of the incubation initiatives, namely, conception, germination, incubation, launch, early survival and first and second stage of growth. The horizontal axis illustrates the incubation context, namely, new development, established development, policy environment, investor environment, technology transfer and the business environment. Finally, the diagonal axis comprises of the incubation client, the corporates, small businesses, universities, government and agencies, local authorities, not-for-profit sectors, investors/supporters, research and development agencies. This framework illustrates the myriad of key players in the business-incubation process, the relevant business-incubation environments and the phases/stages of the business-development process. However, the framework only indicates the dimensions of the incubation framework but does not show the relationships. Based on these two models, a new framework was developed showing the interactions and relationships among the pertinent players in the business-incubation process and the relevant incubation environment. Figure 1 outlines the framework developed to investigate the relationship between the business environment and business incubation. Business Environment

Internal environment Vision, Function, Management Style and Resources

External environment Political/legal Economic Customer/supplier Demographic Technological Infrastructure

HO1

Business Incubation

After-care services Training

Business support Facilities and Infrastructure

Financial support

Technology support

Networking/ Mentoring

Figure 1. Framework of the relationships between the business environment and business incubation.

THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION 885 The framework in Figure 1 shows that business incubation consists of training, business support, financial and technology support, facilities and infrastructure, networking and mentoring and after-care services. It further shows the relationships that will be investigated and empirically tested in this study. H01: The business environment (internal and external) has no significant relationship with business incubation (training, business advice, financial, and technology support, facilities and infrastructure, networking and mentoring, and after-care services). To test this hypothesis and investigate the relationship between business incubation and business environment, an empirical study was undertaken.

Research Methodology An empirical study using a cross-sectional research design was conducted to investigate the relationship between the business environment and business incubation. Sample and Data Collection The population of study encompassed all types of business-incubation programmes in Kenya that target small and medium businesses. A list of twelve business incubators obtained from the Business Incubation Association of Kenya was used to draw a random sample comprising of two hundred entrepreneur businesses/incubates and twelve business-incubator managers. The sample was representative of the main players in the business-incubation industry that comprised of government institutions, private providers and non-governmental organizations. It was envisaged that a sample of 212, made up of 200 incubating businesses/entrepreneurs and twelve incubator managers was a large enough sample for advanced statistical analysis and to provide meaningful conclusions. Prior to the data-collection exercise, a research permit No. MOHEST 13/001/38C 323, to carry out the research in the Republic of Kenya was obtained from the Ministry of Higher Education Science and Technology. In addition, a request to conduct the research from the sampled incubators was sought before embarking on information gathering exercise. Four research assistants were hired and trained on how to administer the research instruments for half a day. The fieldwork was undertaken in three phases. During phase one letters were written and forwarded to each of the twelve incubators’ executive directors informing them of the survey, their role and requesting permission to solicit information from incubator managers and incubating businesses. Once the request was granted, the second phase was initiated with phone calls to the incubator managers briefing them on the survey, requesting their participation and availability. In the third phase, questionnaires for the incubator manager and incubating business/entrepreneur were disseminated. It was required that questionnaires distributed to business entrepreneurs, needed to be completed only by the owners. When completed, they were also requested to forward the completed questionnaires to the incubator managers. Where questionnaires were administered outside the incubators from the Nairobi office, the internal-mailing system was used. However, this method was deployed to only one incubator that had a presence in several parts of the country. In the final phase, several phones calls were made to arrange for the collection of the questionnaires, to ensure a good response rate. The questionnaires, once gathered, were edited, coded and processed using SPSS statistical package. Whereas all the business incubators included in the sample were from the Nairobi province, efforts were

886 THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION

made to reach remote incubating businesses/entrepreneurs, however, the response outside Nairobi was poor. Measuring Instruments Two sets of survey questionnaires, one for the incubator manager and one for the entrepreneur were administered. The questionnaire for the incubator manager had six sections, namely, nature of business incubator, goals/objectives of the incubator and the supporting role of an incubator manager, business-environmental factors, overall performance of the business incubator and biographical details. On the other hand, the questionnaire for the incubating business/entrepreneur was made up of six sections, namely, background information, characteristics of the entrepreneur, incubation process, business-environmental factors, overall performance of the business and biographical information. Before the pre-test was done, two senior university researchers were requested to review the questionnaires to determine face validity. All their comments were noted and incorporated into the questionnaires. As a rule in sample surveys, a pre-test was carried out in selected incubators mainly to test the applicability of the questionnaires, among eight incubating businesses and two incubator managers. The pre-test results were relied on to finalize the questionnaire to ensure content validity. To ensure the reliability of the information, methodological data triangulation was used. Struwig and Stead (2001, p. 130) explain that reliability is the extent to which “test scores are accurate, consistent and stable”. Data was collected from different sources, including the incubator manager and from the entrepreneur/incubating businesses (tenants and graduates) in the study. In addition to face and content validity, the researcher also pursued construct validity of the measuring instrument. The process of construct validation includes defining the constructs and hypothesizing their relationships to other variables developed. The researcher further utilized exploratory factor analysis, to ascertain the interdependency among hypothesized variables. A factor analysis was conducted, but was not applied to the incubator managers’ questionnaire since the sample size was too small. The purpose of the factor analysis was to generate composite scores for further inferential statistics. All factors were extracted using the principal component method, and Varimax rotation with Kaiser Normalization. For all the cases, the test for sampling adequacy known as Kaiser-Meyer-Olkin was conducted. All the variables of interest gave a score of more than 0.630 for each of the set of questions, implying that factor analysis was appropriate for the data, since the minimum acceptable score is 0.5. Cronbach’s alpha reliability analysis was done for the multi-item questions such as business incubation services (0.8451), rating of business-incubation services (0.9334), and on both the internal (0.7619) and external (0.9607) business-environmental factors. The Cronbach’s alpha indicated that the questions were indeed internally reliable.

Results and Discussions The Demographics of the Respondents Of the sample of 200 incubating business entrepreneurs and 12 incubator managers, 124 incubating businesses entrepreneurs and eight incubator managers responded to the set of questionnaires administered, totaling 132 respondents. This represented a response rate of 62%, and 66.7% from the sample of incubating business/entrepreneurs and incubator managers respectively. The majority of the respondent entrepreneurs, 69.4% (n = 86) were males, while females constituted 30.6% (n = 38), with age range of between 22 to 62 years and a mean age of 32.7 years. There were seven male and one female incubator manager. On the other hand, 24.2% (n = 30) of the entrepreneurs owned the business, 55.6%

THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION 887 (n = 69) were owners cum active managers, while 11.3% (n = 14) employed managers. Forty-nine percent (n = 61) of the entrepreneurs had bachelor degrees, while 12.1% (n = 15) had postgraduate degree qualifications, 19.4 % (n = 24) held national diplomas, 8.1% (n = 10) were certificate holders and 5.6% (n = 7) were secondary school leavers. Although four of the respondent incubator managers had obtained postgraduate degrees, and three had bachelor degrees, 64.5% of the entrepreneurs indicated that their formal education had included entrepreneurial subjects, whereas 21.8% did not. Results on the type of business incubators showed that 37.5% (n = 3) of incubators were incubators known as incubators without walls. One incubator was sheltered estate, and 50% (n = 4) were incubators with walls. The oldest incubator was founded in 1967, while 37.5% (n = 3) of these incubators were started in 2006. The number of government-owned incubators was 25% (n = 2), one was under trust, private companies numbered 25% (n = 2), while two were owned by non-governmental organizations and one by an international corporation. The number of incubator-management staff involved in business-development services and back-up office support ranged from one to four managers or 62.5% (n = 5) of the incubators. The management staff involved in information technology/internet services ranged from one to two in 50.0% (n = 4) of the incubators as this service also applies to accounting and finance. One to two managers, that is 37.5% (n = 3), were engaged for marketing incubator-services and another managers, 12.5% (n = 1), were engaged in legal services. Results of the Relationship Between the Business Environment and Business Incubation The business environment factors were split into two categories, namely, the internal factors and external factors. Both the incubator managers and the incubating businesses entrepreneurs responded to the questions. The questions were constructed on a 6-point Likert scale, with intervals ranging from very positive impact with a score of 6 to no impact with a score of 1. For descriptive analysis purposes, the upper three intervals were aggregated for a positive impact and the lower intervals for negative impact. The outcome indicated that entrepreneur respondents observed that all the internal factors including, incubator’s vision, mission, values and goals (96.7%, n = 116); functions and policies (94.2%, n = 113); culture, management styles and ethics (90%, n = 108); as well as the incubator resources had a positive impact on business development within the incubator, and the same applied to the managers’ responses. The external factors involved eight dimensions and measured by twenty-one items. From the entrepreneur responses, those impacting included customer 82.3% (n = 102), technology 67.7% (n = 84) and distributors 51.6% (n = 64). Those impacting negatively included demography 68.5% (n = 85), political/legal 63.3% (n = 81), economic 60.5% (n = 75) and social-cultural factors 60% (n = 74). The managers also rated customer and technology as impacting positively while social-cultural, political/legal and economic as impacting negatively on business development. The internal factors were thus favourable to business incubation while the external factors such as customer and technological factors were favourable, but adversely affected by political/ legal issues, economic forces, social-cultural factors and demographic factors probably owing to an increasing youthful population. To test the hypothesis, multiple regression was used to evaluate the extent to which the environmental factors impacted on an incubators’ ability to provide the essential business-incubation services. The research aimed to find out whether the way the entrepreneurs rated the services received from the incubator may have been mitigated by either internal or external factors. Based on the fact that the business environment factors had been computed as composite scores, though

888 THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION

not-withstanding, the regression model was built with specific combinations of both internal-environmental and external-environmental variables, as opposed to the stepwise selection model (Cooper & Schindler, 2006, p. 615). However, an assessment of the two models gave minor differences. As illustrated in Table 1, the R-square from the regression model gives training 0.120, which means that 12% of the variation in training (dependent variable) can be explained from the two independent variables, namely, incubator’s vision and function, and management style and the incubator resources, with no variance explained for facilities and infrastructure. Table 1 Impact of Internal Environment Factors on Business Incubation Independent variable Incubator’s vision, function and management style Incubator resources Incubator’s vision, function Factor 2 and management style Networking and Incubator resources mentoring Incubator’s vision, function Factor 3 and management style Business support Incubator resources Incubator’s vision, function Factor 4 and management style After-care Incubator resources services Incubator’s vision, function Factor 5 and management style Facilities and Incubator resources infrastructure Incubator’s vision, function Factor 6 and management style Technology Incubator resources support Incubator’s vision, function Factor 7 and management style Finance support Incubator resources Factor 1 Training

0.120

Unstandardised coefficients B Std. Error 0.302 0.110

Standardized coefficients Beta 0.308

0.034

0.128 -0.055

0.109 0.121

0.080

0.187 0.248

0.016

T

Sig. (p-value)

20.757

0.007*

0.131 -0.053

10.171 -0.456

0.246 0.650

0.121 0.114

0.182 0.248

10.548 20.171

0.126 0.033*

-0.161 0.119

0.114 0.118

-0.162 0.120

-10.418 10.011

0.161 0.316

0.000

0.027 -0.008

0.117 0.123

0.028 -0.007

0.233 -0.062

0.817 0.950

0.099

-0.006 -0.006

0.122 0.118

-0.006 -0.006

-0.051 -0.053

0.959 0.958

0.001

0.326 0.036

0.117 0.121

0.315 0.035

20.779 0.296

0.007* 0.768

0.009

0.120

0.009

0.076

0.939

R-square

*

Note. Significant at the level of 0.05.

From Table 1, other dependent variables such as networking, 3.4% (0.034), business support 8% (0.080), after-care services 1.6% (0.016), facilities and infrastructure 0% (0.000), technology support 9.9% (0.099) and finance support 1% (0.001) can be interpreted in the same manner. Only the incubator’s vision, function and management styles (p = 0.007) is significant to training and business support (p = 0.033), whereas, incubator resources (p = 0.007) are significant to technology support. Further interpretation of the regression analysis can be done by ANOVA. Table 2 indicates the results of the ANOVA. The results from Table 2 confirm that most internal factors are not statistically significant to business incubation (except for training, and technological support). Table 3 shows the impact of the external environmental factors on business incubation. The Beta results in Table 3 show that the business environmental factors and business incubation services have both a positive and negative degree of influence. Only four factors indicate statistically significant relationships. To further interpret these findings, Table 4 indicates the results of the ANOVA statistics.

THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION 889 Table 2 Analysis of Variance of the Internal Factors Predictor variables: incubator’s vision, function and management style and incubator resources Sum of squares df Mean square F Sig. (p-value) Regression 8.285 2 4.143 4.860 0.011* Factor 1 Residual 60.518 71 0.852 Training Total 68.804 73 Regression 2.592 2 1.296 1.244 0.294 Factor 2 Networking and Residual 73.974 71 1.042 mentoring Total 76.566 73 Regression 5.697 2 2.848 3.083 0.052 Factor 3 Residual 65.588 71 0.924 Business support Total 71.285 73 Regression 1.115 2 0.558 0.567 0.570 Factor 4 Residual 69.789 71 0.983 After-care services Total 70.905 73 Regression 0.008 2 0.004 0.004 0.996 Factor 5 Residual 75.608 71 1.065 Facilities and infrastructure Total 75.616 73 Regression 7.622 2 3.811 3.887 0.025* Factor 6 Residual 69.609 71 0.980 Technology support Total 77.231 73 Regression 0.103 2 0.051 0.050 0.952 Factor 7 Residual 73.413 71 1.034 Finance support Total 73.515 73 Dependent variable

Note. * Significant at p < 0.05.

The ANOVA results illustrated in Table 4 shows that only facilities (p = 0.027) and technology support (p = 0.002) have statistically significant relationships and the rest do not. The hypothesis—the business environment has no significant relationship with business incubation—can thus be accepted.

Conclusion and Shortcomings The results of the biographical details of the entrepreneurial respondents indicated that the majority were men (69.4%), had a bachelors’ degree (49.6%) and all were in business for at least three years. Descriptive statistics showed that internal factors were more important in business incubation compared to external factors. This implies that business environmental factors somewhat influence business incubation, but the hypothesis was tested and it was found that the business environment had no significant relationship with business incubation (training, business advice, financial, and technology support, facilities and infrastructure, networking and mentoring, and after-care services). Therefore, the hypothesis was accepted. Although incubators operate in a relatively protected environment, some internal-environmental factors impacted on business incubation. These factors were incubator’s vision, function and management styles (training and business support), and incubator resources (technology support). The main shortcoming of this research is that the study was done in Kenya and different results may be possible in more developed economies. The results however indicate that the framework developed can be utilised in future research.

890 THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION

Table 3 Impact of External Environment Factors on Business Incubation Dependent variables (criterion)

Independent variables (predictors)

Political/legal Economic Customers/suppliers Factor 1 Demography Training Technology Infrastructure Political/ legal Economic Factor 2 Customers/suppliers Networking Demography and mentoring Technology Infrastructure Political/legal Economic Customers/suppliers Factor 3 Business support Demography Technology Infrastructure Political/legal Economic Customers/suppliers Factor 4 After-care services Demography Technology Infrastructure Political/legal Economic Factor 5 Customers/suppliers Facilities Demography and infrastructure Technology Infrastructure Political/legal Economic Customers/suppliers Factor 6 Technology support Demography Technology Infrastructure Political/legal Economic Customers/suppliers Factor 7 Finance support Demography Technology Infrastructure Note. * Significant at p < 0.05.

R-square 0.178

0.048

0.053

0.013

0.215

0.292

0.064

Unstandardised coefficients B Std. Error -0.154 0.119 0.065 0.119 0.329 0.121 -0.077 0.124 0.167 0.130 0.017 0.128 -0.022 0.132 0.101 0.132 0.108 0.134 -0.178 0.138 0.000 0.144 -0.007 0.142 0.167 0.126 0.091 0.126 -0.048 0.128 0.097 0.132 -0.032 0.137 0.021 0.135 -0.093 0.123 0.029 0.123 -0.036 0.125 0.042 0.129 -0.022 0.134 -0.006 0.132 0.031 0.115 0.188 0.115 0.288 0.117 0.143 0.121 0.232 0.126 -0.001 0.124 0.037 0.116 -0.024 0.116 -0.196 0.118 -0.249 0.121 0.494 0.126 -0.145 0.124 -0.089 0.130 -0.132 0.130 0.162 0.132 -0.134 0.136 -0.016 0.142 -0.032 0.139

Standardized coefficients Beta -0.157 0.066 0.332 -0.076 0.155 0.016 -0.022 0.100 0.106 -0.170 0.000 -0.007 0.172 0.094 -0.049 0.097 -0.030 0.020 -0.101 0.031 -0.038 0.044 -0.021 -0.006 0.032 0.193 0.293 0.141 0.218 -0.001 0.036 -0.024 -0.189 -0.234 0.440 -0.131 -0.089 -0.131 0.160 -0.129 -0.015 -0.029

T

Sig. (p-value)

-1.293 0.549 2.718 -0.620 1.283 0.135 -0.169 0.767 0.806 -1.293 0.003 -0.050 1.325 0.726 -0.376 0.735 -0.229 0.156 -0.757 0.233 -0.284 0.330 -0.160 -0.046 0.270 1.630 2.452 1.183 1.839 -0.006 0.318 -0.210 -1.666 -2.059 3.912 -1.166 -0.686 -1.017 1.230 -0.984 -0.114 -0.227

0.201 0.585 0.009* 0.538 0.205 0.893 0.866 0.446 0.424 0.201 0.998 0.960 0.191 0.471 0.708 0.465 0.819 0.876 0.452 0.816 0.777 0.743 0.873 0.963 0.788 0.109 0.017* 0.242 0.071 0.995 0.751 0.834 0.101 0.044* 0.000* 0.249 0.495 0.314 0.224 0.329 0.910 0.821

THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION 891 Table 4 Analysis of Variance of the External Environment Predictors: political/legal, economic, cost (customer/distributor), demography, technology and infrastructure Sum of squares df Mean square F Sig. (p-value) Regression 11.741 6 1.957 2.060 0.072 Factor 1 Residual 54.140 57 0.950 Training Total 65.881 63 Regression 3.382 6 0.564 0.482 0.819 Factor 2 Residual 66.616 57 1.169 Networking and mentoring Total 69.998 63 Regression 3.396 6 0.566 0.533 0.781 Factor 3 Residual 60.518 57 1.062 Business support Total 63.914 63 Regression 0.786 6 0.131 0.129 0.992 Factor 4 Residual 57.843 57 1.015 After-care services Total 58.629 63 Regression 13.891 6 2.315 2.596 0.027* Factor 5 Residual 50.843 57 0.892 Facilities and infrastructure Total 64.734 63 Regression 21.047 6 3.508 3.917 0.002* Factor 6 Residual 51.051 57 0.896 Technology support Total 72.099 63 Regression 4.389 6 0.731 0.648 0.692 Factor 7 Residual 64.352 57 1.129 Finance support Total 68.740 63 Dependent variable

Note. * Significant at p < 0.05.

Recommendations and Future Research As there was no statistically significant relationship between the business environment and business incubation, the protected environment offered by the incubator is thus protecting incubates from the variations in the business environment. Variables such as incubator’s vision, function and management style had significant relationships with training, business support and technological support. Further analysis indicated that these specifically had relationships with customers/suppliers, demography and technology. It is thus important to note that if the incubator hosts more and more youthful population and technologically orientated incubates, the business environment may become more important and impact on business incubation. Finally, to promote the business incubation in a country, the government should spearhead the incubation process, first by enacting an incubation policy, to guide the stakeholders on incubator goals, roles and outcomes. Secondly, this policy should also address the financing aspect as most incubated activities are funded by governments in other countries.

References Autio, E., & Klofsten, M. (1998). A comparative study of two European business incubators. Journal of Small Business Management, 36(1), 30-43. Centre For Strategy and Evaluation Services. (2002). Benchmarking of business incubators: Final report. European Commission Enterprise Directorate. Brussels: CSES printer.

892 THE RELATIONSHIP BETWEEN BUSINESS ENVIRONMENT AND BUSINESS INCUBATION Chinsomboon, O. M. (2000). Incubators in the new economy (Unpublished Master of Business Administration Thesis, Sloan School of Management, Massachusetts Institute of Technology). Cooper, D. R., & Schindler, P. S. (2006). Business research methods (8th ed.). New York: McGraw Hill/Irwin. Hackett, M., & Dilts, D. M. (2004). A systematic review of business incubation research. The Journal of Technology Transfer, 29(1), 55-82. Hannon, P. (2004). A qualitative sense-making classification of business incubation environments. Qualitative Market Research: An International Journal, 7(4), 274-283. Hannon, P. (2005). Incubation policy and practice: building practitioner and professional capability. Journal of Small Business and Enterprise Development, 12(1), 57-75. Hurley, K. (2002, Spring). The first incubator business: incubator building. Economic Development Journal, 53-56. Information for Development Programme. (2005). The infodev global network of business incubators. New York: The International Bank for Reconstruction and Development/World Bank. Lalkaka, R. (1997). Lessons from international experience for the promotion of business incubation systems in emerging economies. Vienna: UNIDO. Lalkaka, R., & Abetti, P. (1999). Business incubation and enterprise support systems in restructuring countries. Creativity and Innovation Management, 8(3), 197-209. Lavrow, M., & Sample, S. (2000). Business incubation: Trend or fad? Incubating the start-up company to the venture capital stage: Theory and practice (Unpublished Master of Business Administration Thesis, University of Ottawa). Plosila, W., & Allen, D. N. (1985). Small business incubators and public policy: Implications for states and local development strategies. Policy Studies Journal, 13, 729-734. Ryker, V. (2001). A guide to the status of the incubator industry in Norway (Unpublished paper presented for Master of Management Programme in Norway, Norwegian School of Management). Struwig, F. W., & Stead, G. D. (2001). Planning, designing and reporting research. Cape Town: Pearson Education South Africa. Weinberg, M. L., Allen, D. N., & Schermerhorn, Jr. J. R. (1991). Interorganizaton challenges in the design and management of business incubators. Policy Studies Review, 10(2/3), 149-160. World Book. (2001). The world book encyclopedia, 10. Chicago: World Book, Inc..

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Public-Private Partnerships—For and Against Ali Turhani, Gjergji Shqau Aleksander Xhuvani University, Elbasan, Albania

This paper aims to make clear about which are the advantages and disadvantages of public-private partnership (PPP) and what will be the main indicators to be used to appreciate the benefit of PPP in different projects of public services assets. Having the experience of other countries with PPP, it will help the Albanian Public Institutions to be able to take the right decision in investing the public services assets through PPP or by budget fund. Public authorities should have a base good understanding for the policy and financial problems, and also should have a clear role that it should play in the PPP project, as well as the benefits that they will have from this project. Understanding of this is very important to the Albanian Public Institutions, especially for the Local Authorities in Albania. Keywords: public-private partnership (PPP), additionality, whole-life cost, economies of scale, complexity

Introduction Why has there been such a worldwide growth in interest in public-private partnerships (PPPs) over the last few years? The public-sector reform movement known as “new public management” provides the theoretical background for PPPs, but in reality the main driver for growth is that PPPs avoid limitations on public-sector budgets. However, the detailed debate on the merits and demerits of PPPs is a highly complex one. A variety of arguments is used by governments for promoting PPP projects, but many of these are of a somewhat ex-post nature, i.e., they are used to justify a decision which has already been taken for budgetary reasons. These arguments will reappear throughout this book, but it is probably worth summarizing the issues in advance. The main elements of the debate revolve around: y Whether PPPs provide “additionality” of investment in public infrastructure; y The higher financing costs implicit in PPPs; y Whether risk transfer and value for money from PPPs can be offset against higher financing costs; y y y y y y

Economies of scale; The benefits of whole-life costing and maintenance; The value added through the use of private-sector skills; PPPs as a catalyst for public-sector reform; Complexity; The effect of PPPs on public-sector flexibility. Finally the political context of this debate has to be borne in mind.

Ali Turhani, Ph.D., Department of Business Administration, Faculty of Economy, Aleksander Xhuvani University. Gjergji Shqau, Ph.D., Department of Business Administration, Faculty of Economy, Aleksander Xhuvani University. Correspondence concerning this article should be addressed to Ali Turhani. E-mail: [email protected].

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New Public Management, Privatization and PPPs PPPs must be seen within the overall context of the public-sector reform movement known as new public management (NPM), which encourages: y y y y y

Decentralization of government; Separating responsibility for the purchase of public services from that of their provision; Output or performance-based measurements for public services; Contracting-out public services to the private sector; Privatization of public services. All of these increasingly blur the boundary between the public and private sectors. So while the BOT

contract and its variants provided the technical basis in the 1990s for a new generation of PPPs, the theoretical or political basis was provided by NPM. The privatization of public services—another British initiative—began under the Thatcher government of the 1980s, and has also spread to many other countries. It began in Albania under the new democratic government of the 1990s, passing from the centralized economy in the market economy. But in Albania there is not yet a legal framework for the PFI programmer. The only legal framework in Albania is for the concession, which is improved at last in 2008. The main drivers for privatization were the NPM-based beliefs that there should be a “roll-back of the state” with the private sector providing services where this is more efficient, especially in the utilities sector and that the introduction of competition leads to a better service and lower for the citizen, as well as less waste of economic resources, especially if services are supplied free or below cost by the state. This reversed the 20th century trend for public utilizes to be provided by the state (whereas before that private-sector capital usually took the initiative, as discussed above). The subsequent British PFI programmer aimed at extending these benefits of privatization to core public services which could not be privatized, and the “value for money” and other arguments discussed below very mush stem from this NPM way of thinking (Grout, 2005). However, there are important differences between privatization and PPPs, some of which make it difficult for a PPP to achieve the same results as a privatization: y The public authority remains directly politically accountable for a PPP-provided service, but not for a privatized service; y The citizen will usually not be especially conscious that PPP-based service is being provided by a private-sector company rather than the public sector, whereas this is obvious for privatized services; y In a PPP ownership of physical assets normally remains with (or reverts to) the public sector, whereas in a privatization, they become permanently private-sector owned; y A PPP usually involves the provision of monopoly services, whereas a privatization usually means he introduction of competition to provide the service; y In a PPP the scope and cost of services is fixed by a specific contract between the private and public sectors, whereas in a privatization, they are controlled, if at all, by some form of licensing or regulation which allows for regular cost changes, or are simply left to the forces of market competition.

Budgetary Benefit While NPM has provided a theoretical basis for PPPs, the primary reason for their recent growth is that they do not require public sector funding today. A PPP allows the capital cost of a public sector facility to be spread out over its life, rather than requiring it to be charged immediately against the public budget. This cost is then

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either (for the concession model) paid for by users instead of paying taxes, or (for the PFI model) charged to the public sector budget over the life of the PPP contract, in either case through the payment of services fees. A PPP programmer thus enables the public sector to break free of short-term constraints on investment in public infrastructure imposed by insufficient tax revenues and limits on public-sector borrowing (Boeuf, 2003). Some of the names given to PPP programmers, such as Britain’s “private finance initiative”, or term “innovative finance” now often used by U.S. government agencies to describe PPPs, confirm the view that PPPs are primarily about private-sector finance for public-sector investment (Klein, 1996). This raises the question whether the budgetary constraints on infrastructure investment which create a need to go down the PPP route are appropriate, especially where these constraints are created by artificial rules such as the Maastricht Treaty limitations on budget deficits in the European Union. Using PPPs in such causes opponents to describe them as nothing more than “off-balance sheet borrowing” by governments, even though they do have other merits, as discussed below. There may be an argument for changing the rules for public accounting in such cases rather than distorting the approach. It should be noted that although PPPs are often referred (and will be referred to below for convenience) as being “off-balance sheet” for the public sector, the public sector does not produce a balance sheet in the same way as a private company (Darrin & Mervyn, 2005). This expression simply means that PPPs do not show up as public-sector borrowing, nor does their original capital cost show up as expenditure in the public budget. However, in the case of the PFI model the service fees are a future annual cost, and thus do have an eventual impact on the public-sector budget in much the same way as borrowing. This may eventually worsen the original constrains which led to the adoption of the PPP route in the first place, which is particular danger where relatively small countries enter into large PFI programmes: The problem has been evident in Portugal (Darrin & Mervyn, 2005), where payments for major and rapidly-developed PFI Model road programme have had a significant effect on the public budget.

Financing Cost and Risk Transfer Private-sector finance for a PPP clearly costs more than if the project were procured the public sector and financed with public-sector borrowing: The cost of capital for a PPP will typically be around 2%-3% p.a. higher than that of public-sector funding, even for the PFI model where the payment stream is still derived from the public sector (Välilä, 2005). Public-sector borrowing is cheaper because lenders to the government are not taking any significant risk with their money, whereas lenders to a PPP are obviously taking a greater risk (Sorge, 2004). But a project’s risks do not disappear just because the public sector is funding it—it can thus be argued that these risks are retained by the public sector and constitute a concealed cost of the project, which should be added to the lower cost of public-sector financing to make this comparable with a PPP’s financing costs. There is an alternative view that the public sector is better able to spread out risks than the private sector—hence there is a real difference between public and private-sector risk assumption, and so the real cost of public-sector funding of a project, even taking account of risk, is actually lower than financing and managing the project by the private sector. But if this view was carried to the extreme, it would mean that the government should finance everything, and it can equally be said that companies in the private sector are owned by many individual shareholders (directly or via investment or pension funds) who diversify their risks by owning a wide range of shares. There is therefore not a strong case for suggesting that there are fundamental differences in the abilities of the public and private sectors to absorb risk. But quantifying the risk transfer to a PPP (or the corresponding risk which would be

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retained in public-sector procurement) is difficult, as discussed below, as it is the case for other possible benefits from a PPP, also discussed below. The realistic approach is that debate about comparative financing costs assumes that there is a free choice between public-sector funding and a PPP, whereas most of the time, given public-budget constraints, no such choice exists and the choice is actually between a PPP and no project. The issue then becomes whether the facility is being procured cost-effectively as a PPP, irrespective of what might theoretically have been the outcome with public-sector procurement (Riess, 2004).

Risk Transfer and Value for Money Despite this difficulty of quantification, however, risk transfer remains a key element of the value for money (VfM) argument in favour of PPPs—namely, that the risks which are transferred can be better managed by the private sector, and thus the cost of doing this will be lower than if the risk is retained by the public sector. Hence risk transfer improves VfM. In this context, VfM is not based on just what is initially cheapest, but takes account of the combination of risk transfer, whole-life cost and service provided by the facility, as a basis for deciding what offers the best value (Murtaoro, 2006). VfM arguments are considerable political importance in gathering support for a PPP programme. The risk-transfer element of VfM is also inextricably linked with the fact that projects cannot generally be taken out of the public-sector balance sheet unless risk transfer to the private sector can be demonstrated. There is no doubt that PPPs encourage the public sector to identify project risks and think about risk transfer in a way which has not been usual in conventional public-sector procurement. The way in which risk transfer works in PPP contracts is a complex process, but in summary, as said above, a PPP transfers the risks of construction and either the market/usage risk or the availability/service delivery risk to the private sector. Each of the main risk categories is discussed briefly below.

Whole-Life Costing and Maintenance Whole-life costing is perhaps the most important element of the VfM case for PPPs. Because the same investors will be responsible both for the construction of the facility and for its operation and service delivery, they are incentivized to design it to produce the best “whole-life” cost, e.g., private-sector investors may be prepared to spend more on the initial capital coat if this will result in a greater saving in maintenance costs over the life of the PPP contract, whereas a typical public-sector procurement approach is to go for the lowest initial capital cost. However, in cases where investment in PPP contracts is finance-driven rather than contractor-driven, integration of the whole-life design approach may also become weaker. And the case for “building” construction and long-term services together is weaker in relation to soft FM services. But it is the risk-transfer argument which is more significant here (Mathias & Legros, 2005). A PPP transfers the maintenance-cost risk—probably the most difficult to predict—to the private sector. Having capital at risk ensures that the investor in and lenders to the project company cannot easily walk away from this risk. It can also be said that the long-term contractual nature of a PPP forces the public-sector to make provision for maintenance (through the service fees), without regard to short-term budget constrains which might otherwise encourage the omission of routine maintenance, and at the same time incentivizes the private sector to carry out the maintenance if service fees are not paid (or deductions made) when maintenance standards are not met. A PPP contract thus should ensure that the facility is maintained to pre-determined standards throughout its life (Leighland, 2006). However, a public authority could enter into a long-term contract covering design, construction and maintenance which could produce the same result.

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PPPs and Politics Given the public-service nature of PPPs, it is inevitable that they are subject to heavy political debate. Unless there is a strong political will on the public-sector side of the table, and the ability to communicate the case for pursuing PPPs clearly and fairly, political winds can easily blow the process off course and a PPP programme will struggle for success. One aspect of this debate is that despite being clearly different, PPPs may still be regarded as form of privatization, which gives rise to various reasons for political opposition. Private Profit at the Public’s Expense It may be claimed that PPPs give private-sector investors the opportunity to make profits by providing services which could be provided by the public sector more cost-effectively. But many of the individual elements of a PPP structure, such as construction of the facility, would have been provided by the private sector anyway. The marginal extra profit which the private sector makes from investing in a PPP project, as compared to the profits on direct public-sector procurement, is probably not great enough to sustain this argument. In any case, if the public sector does not have the budget capacity to undertake the project, this argument is based, like that of comparing costs of public- and private-sector procurement and a PPP. However, if private-sector investors are perceived to be making “windfall” profits, for example through high initial rates of return on investment, debt refinancing or sale of their equity shareholdings, this certainly does weaken a PPP programme from the political point of view. Poor Operating Standards It may be argued that a facility operated by a private company will “sacrifice safety for profit”. But a PPP is under close supervision by the public authority, and safety standards should be clearly laid down in the PPP contract: In this respect, a public authority probably has more ability to control and supervise safety than with a privatized company. Erosion of Working Conditions It may also be claimed that a PPP erodes the working conditions of public-sector workers in cases where this work—e.g., in cleaning and catering—is taken over as part of the PPP. This is one aspect of a PPP where the position is the same as that of privatization—in both cases public-sector workers may be taken over by a private company, and it is up to the public authority to ensure that private-sector investors in a PPP are not incentivized to treat the workforce unfairly, e.g., by concentrating on “efficiency gains” which are only obtained by cutting the pay and numbers of staff. Political opposition to PPPs is often quite misconceived. For example, specifications—e.g., the number of beds in a hospital, are a matter for the public authority to decide when procuring the PPP contract, but those opposed to PPPs may claim that private investors have made such decisions. PPPs may also be disadvantaged by their greater transparency, so the costs of a PPP, including long-term operation may be wrongly compared to the initial capital cost for public-sector procurement only. Similarly, the greater transparency of PPPs means that mistakes are more obvious. On the other hand, the case made by a public authority for a PPP can be equally one-sided, e.g., with claims of large cost savings compared to public-sector procurement which cannot be promoted for short-term political advantage. It can thus be difficult to maintain a balanced debate on the pros and cons of a PPP program, especially, as this chapter has made clear, because the arguments for and against PPPs are by no means black and white.

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References Boeuf, P. (2003). Public—Private partnerships for transport infrastructure projects. Paper at Transport Infrastructure Development for a Wider Europe (European Union/UNECE/European Investment Bank joint seminar). Darrin, G., & Mervyn, K. L. (2005). The economics of public private partnerships. Edward Elgar, Cheltenham. Grout, P. A. (2005). Value-for-money measurement in public-private partnership. EIB papers, 10(2), 32. Klein, M. (1996). Risk Taxpaper and the role of government in project finance. Policy research working paper 1688. Washington D.C.. Leighland, J. (2006). Is the public sector comparator right for developing countries? Gridlines note No. 4 Public-Private Infrastructure Advisory Facility, Washington D.C.. Mathias, D., & Legros, P. (2005). Public-private partnership: Contract design and risk transfer. EIB papers, 10(1), 120. Murtaoro, J. (2006). Public-private partnership: A study on the economics and financing of technology laboratory of industrial management. Espoo. Riess, A. (2005). Is the PPP model applicable across sectors? EIB papers, 10(2), 10. Sorge, M. (2004). The natyre of credit risk in project finance. BIS Quarterly Review, 91. Välilä, T. (2005). How expensive are cost savings? On the economics of public-private partnerships. EIB papers, 10(1), 94.

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A Practice Framework for Child Protective Services Melville J. Miranda, Shruti Mahajan Australian Education Academy Pty Ltd., Melbourne, Australia

The aim of this paper is to focus on our practice framework, which is driven by socioeconomic, geographical and other factors that make children at a much higher risk for experiencing the brunt of this dysfunction. The qualitative method of research employed arrives at the findings that children should be protected from harmful environments and families at risk should be protected. Keywords: social work, higher risk, framework, emotional, children

Introduction Social work is an extremely broad and encompassing field of practice. For those of us engaged in the profession, communities, neighbourhood, families and other such contained contexts will serve as the framework for programs, practices and personnel dispatched to improve lives. Often, this improvement must come through the highly difficult engagement of dysfunction. This is a focus of our practice framework, which is driven by the understanding that in certain socioeconomic, cultural and geographical settings, children may be at a much higher risk for experiencing the brunt of this dysfunction. This may take the form of physical abuse, exposure to domestic violence, neglect or simply the maintenance of a home which is unfit for child inhabitation. These are concerns that drive the practice framework for child protective services under the social work umbrella. Drawing its cues from the Department for Child Protection (DCP), a practice framework—must simultaneously adhere to regulatory considerations and navigate through practical challenges. Accordingly, the framework provided here below will centre on the theoretical, practical, ethical, social and organizational implications of providing such services.

Theory and Method As noted above, the over-arching influence on our practice framework is provided by the Department for Child Protection. Here, we are provided with the primary definition of child protective services from a social work standpoint. According to the DCP (2010, p. 1), “the department’s major focus is on meeting the needs of vulnerable children and families. It is responsible for protecting and caring for children, and supporting people at risk of crisis”. This drives the theoretical aim of our practice, with intends to create paths for intervention in the face of several distinct dangers, including physical abuse, sexual abuse, or neglect of children.

Melville J. Miranda, Head of Community Welfare, Head of Academic Excellence and Member of Academic Board, Australian Education Academy Pty Ltd.. Shruti Mahajan, Australian Education Academy Pty Ltd.. Correspondence concerning this article should be addressed to Melville J. Miranda. E-mail: [email protected].

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A PRACTICE FRAMEWORK FOR CHILD PROTECTIVE SERVICES In light of recent reforms undergone by the DCP, there are increasingly more directions that a child, or

another concerned party, can turn for assistance. However, a negative history of child social services in Australia has imposed considerable difficulty upon these outreach avenues. Indeed, a study by Stanley, Goddard, Saunders and Tucci (2001) demonstrates that there remains a great deal of uncertainty and consistency even on the part of social work professionals as to the appropriate practice methods. Here, our practice would refer to both the Ford Report which emerged in 2007 and had a great impact on the understanding throughout Australia of a need for improved child protective services; and to the article by Stanley et al. (2001) which promotes the need for structural change in this area. Accordingly, Stanley et al. (2001, p. 1) indicate that community professionals: Require support to make decisions about abuse. Information about what they should consider to be abuse is imperative. Knowledge about the way the child protection system works will also assist in raising their confidence about identifying and reporting cases of child abuse. Clearer guidelines would also benefit the child by facilitating his or her referral directly to an agency to receive intervention in situations where the DHS does not view the child as an appropriate referral.

It is our theory that by engaging the community at a more active and positive level, by achieving a presence at family gatherings and by working to bring lifestyle improvements to at-risk families, we can help to facilitate greater communication and trust in the community. Combining this with more lucid standards on what defines abuse for such community agents which will interact with the DHC, DCP and other such agencies with a public awareness raising role in the community may be a first step in identifying situations calling for investigation and intervention. The existence of human service professionals shares a reciprocal relationship with public awareness. That is to say that the greater acceptance of reality and an imperative on the discussion thereof has prompted the need for more and better trained professionals in this field. Likewise, the professionals in this field must have increased public understanding of what is meant by neglect, emotional abuse, physical abuse and sexual abuse while opening the doors for assistance and treatment. Today, while a regrettable number of violations slip under the radar screen, our practice model will focus on better positive engagement with the community by achieving a greater presence in such contexts as community picnics, regular family activities, day-care services, job placement agencies and public recreation days. These may all be regarded as preventative measures while simultaneously creating an open door relationship such that members of the community can report abuse when they detect it. As a human services professional, we would suggest the need for an altogether more pervasive institutional resource. One such crucial weapon, now being brandished with broad-based success in other contexts, is the 24 hour abuse hotline. This type of establishment creates a crucial centrality to the influx of reports on this type of crime. Thus, it is not simply law-enforcement that fields the contentions of concerned neighbours and frightened spouses. This is important because police officers are usually ill-equipped to address the emotional and social complications of sexual molestation. Hotlines channel all allegations through a central organization that can, with a trained eye, assess the validity and specificity of claims. Moreover, in conjunction with applied human services professionals, they can assign case-workers to take on individual cases. While the hotline, which relies heavily on anonymous allegation, creates the potential for accusatory.

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Dishonestly, the deconstruction of bureaucratic obstacles takes into heavy ethical consideration the need for a reliable system of case assessment. The community orientation of human services such as ours provides the greatest potential for even-handed and accurate consideration of individual cases.

Skills Perhaps the most important stride that human service professionals are taking right now in modestly progressive steps, is toward greater education on the topic. Without a broader societal awareness of the realities of neglect, or emotional, physical and sexual abuse, many cases may go undetected or untreated. In addition, those who are exposed peripherally to this type of abuse may be insufficiently educated to note the indications that such a thing may be happening. Or, even when parties aware that this type of abuse is transpiring said, they may not endowed with the capacity to employ an intervening force. Human services are most vital in demonstrating to the public that there is a force with the discretion and authority to help. Therefore, our agency would focus on community engagement skills to accompany the streamlining of reporting and investigation procedures. The true value in developing interpersonal and event-planning skills that can bring the community together around positive activities is the degree to which this opens the doors of at-risk households. For instance, the ECA (2006, p. 1) tells that: AIHW Report revealed an over-representation of sole-parent families in substantiated abuse cases. Sole parents are more likely to have low incomes or be financially stressed; be socially isolated; or have less support from their immediate family. These are all factors that have been associated with child abuse and neglect. “Even simple things that we all can do make a difference”, explains Blakester (Executive Officer of the NAPCAN Foundation). “Cooking and sharing a meal with a sole parent family can help reduce stress and isolation, while creating a friendlier community too”.

This is a core imperative driving the training of professionals in our practice. Moreover, those selected for key roles in the agency will be drawn from the community itself, helping to promote the sense that this mode of engagement is a primary prerogative for improving the lives of children. This should be seen as a counterpoint to the fear of many members at-risk communities that child protective services aim to disrupt families and remand children to dangerous state facilities.

Value Base, Ethical Stance or Ideological Base Indeed, it should be understood that for any public agency offering promises to at risk communities of a helping-hand, there are many obstacles to overcome in gaining trust and acceptance. This is because the services identified as protective in Australia’s history have instead represented a great evil to many Australians, and particularly to the Aboriginal communities that remain today disproportionately represented among at-risk families and children. The ethical scandals of Australia’s state child care facilities of previous decades were recently returned to the headlines with the former-Rudd Administration issued a formal apology for a state policy in which thousands of aboriginal children were removed from their homes and placed in state care. The policy was part of a racialist agenda designed to assimilate future Aboriginal generations. Instead, it subjected these children to abduction, detention and a litany of sexual and physical. abuses (BBC News, p. 1). Accordingly, BBC News (2009, p. 1) would report that:

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A PRACTICE FRAMEWORK FOR CHILD PROTECTIVE SERVICES Some 500,000 “forgotten Australians” were abused or neglected in orphanages and children’s homes from 1930 to 1970. Mr Rudd’s speech comes after his formal apology last year to Australia’s Aboriginal community, especially the Stolen Generation.

This state committed violation of human rights imposes an ideological challenge upon community organizations such as to work aggressively to find ways to keep families intact as a first priority. This drives a value system that makes our work preventative by one intent. With a clear understanding that some intervention will require a removal of the child from his or her parents’ care, the value of family togetherness will direct the strategy of community involvement on the part of the agency.

Specialised Knowledge The practice framework is guided by specialized knowledge on the patterns and trends dominating the landscape of abuse cases. The breakdown of major abuse categories reported by Bromfield and Horsfall (2010, p. 3) finds that 39% of abuse cases are of the emotional abuse category, 29% in the category of neglect, 22% in the category of physical abuse and 10% in the category of sexual abuse. Moreover, a major thrust of the report by Bromfield and Horsfall is that reports of all types of cases are on the rise, but also attribute this to certain realities including the heightened visibility of protective services and agencies. Thant is to say that more reports are not inherently indicative of higher rates of abuse and neglect of children but indicates that more reports are being filed. This may be an indicator of improvement in the efforts of said-services. Additionally, the report by Bromfield and Horsfall implicates certain categorical and legislative conditions as pertinent to this higher rate. Bromfield and Horsfall (2010, p. 3) note that: The maltreatment types most commonly substantiated across Australia were emotional abuse and child neglect. Emotionally abusive behaviours include verbally abusing, terrorising, scape goating, isolating, rejecting, and ignoring. Children who witness domestic violence are also typically categorised as having experienced emotional abuse. The high proportion of substantiation of emotional abuse is a relatively new phenomenon (AIHW, 2010). The inclusion of children who have witnessed, domestic violence is likely to be one of the key reasons for the high rates of substantiated emotional abuse.

Impacts of the Social and Political Context The political and social dimensions of social work are particularly challenging in the present economic climate. Following a decade of recession and resource misappropriate by the former Howard Administration, many child welfare related services and facilities are working through dire straits. So would report the headline making Ford Report, which roundly criticized the functionality of Australia’s child protective services agencies and the roles which they have claimed to serve. Ford (2007, p. 45) would report that: The very background, which led to the commissioning of this Review, is evidence that this system is not working in Western Australia, particularly for vulnerable children. It hasn’t worked for some years. The community has lost confidence in the government’s ability to identify and support vulnerable children and their families. Additional resources are needed but, on their own, additional resources will not solve the problem.

This is a conditional context which we anticipate in our practice, working both to possess the rarefied resources to meet our basic objectives and to regain this confidence in this the community. While many of the programs enacted by the previous administrations are premised on the notion of supply-side economics, wherein assistance to corporate standard-bearers would incite a trickle-down effect of pervasive affluence; such

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was not yielded by major indicators, all of which point to the escalating problem of poverty in all living sectors of the country. A retrospective of Australia’s contention with its ongoing poverty problems illustrates that the top-down methodology advocated by the previous administration and many of its fiscally conservative forebears should perhaps be realigned with a greater consideration of the root causes of poverty. Ford (2007, p. 46) would report that: Australia has benefited significantly from economic growth fuelled by the resources boom. This has created jobs and prosperity but has also brought its own pressures. There has been significant investment in physical infrastructure but rapid population growth has put strain on the social infrastructure. The benefits of the recent economic growth have not been distributed evenly and some communities remain disadvantaged.

The more effective and ideologically sound models of contending with poverty suggest that the impoverished are victims of a socially enforced cycle wherein lower classes are systematically subjected to a variety of restraints in breaking free from a spiral of poverty, ignorance, sickness and crime. A proper investment by the state in the needs of our impoverished youth has been demonstrated to produce positive results as such youths enter into society and the professional world. In spite of a clear precedent and understanding to this end, reigning political parties have continually sacrificed the funding needed to sustain the effective function of such child welfare agencies as orphanages, juvenile correctional facilities, halfway houses and social service intervention groups in favour of politically motivated tax cuts. This would prove an ironic and circularly flawed logic, coming down on many child welfare agencies with a double impact of neglect and the transfer of wealth away from social programming. This is a clear demonstration of what has gone fundamentally wrong from a political standpoint in the last few years and what has landed us in a place of serious crisis today. Due to lacking funds, personnel are often underqualified and facilities understaffed, producing a frightening scenario which leads to widespread reports of abuse and internal neglect by the very agencies intended to prevent such conditions. Thus, where funding lacks, agencies are not simply incapable of intervening where needed as is today the case, but indeed, many agencies become a manifestation of the negative circumstances enveloping subjected youths. This means that for far too many social work contexts, there are overwhelming financial and environmental challenges that ultimately are experienced by the youths themselves. This denotes one of the inherent battles that we anticipate our practice will face as it attempts to provide the best possible intervention and to do so only through the most qualified and compassionate of personnel. With resources always limited by shifts in public funding and political prioritization, it falls upon the child protective facility such as ours to work steadfastly to offset these realities through sound organizational management.

Organisational and Legislative Knowledge To this end, we will consider it as our role to function as part of the network of organizations connecting the community to public services. The government’s daunting task of recasting child protective services will be significantly determined by the proficiency of its appendages within real communities. This is why Ford calls for an organizational recalibration. Here, the report (Ford, 2007, p. 45) insists that:

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A PRACTICE FRAMEWORK FOR CHILD PROTECTIVE SERVICES A sharper. focus, renewed effort and clear accountability across all three levels of support—primary, secondary and tertiary—is needed. The review believes that this can be best achieved through the creation of a Department of Child Safety and Wellbeing to meet the needs of vulnerable children, their families and communities and the establishment of a Department of Communities focusing on community engagement, policy, planning and co-ordination of community based services.

Conclusion These conditions help to forge the template by which our practice will be established. Working in close coordination with broader government agencies in order to establish a connection to both resources and streamlined ways of approaching abuse cases, and simultaneously working closely with the community in order to achieve trust, involvement and visibility, the practice in question would function as both a preventative and intervening service. Driven by the primary objectives of keeping families intact, protecting children from harmful environments and helping to identify and assist those families that are at risk, the practice should be considered as a community service agency formulated upon core social work principles and regulatory responsibilities.

References BBC News. (2009). Australia “sorry” for child abuse. Retrieved from http://www.bbc.co.uk/ Bromfield, L., & Horsfall, B. (2010). Child abuse and neglect statistics. National Child Protection Clearinghouse. Department for Child Protection (DCP). (2010). Government of Western Australia. Retrieved from http://www.community.wa.gov.au/DCP/ Early Childhood Australia (ECA). (2006). Statistics show child abuse in Australia is getting worse. Retrieved from Earlychildhoodaustralia.org Ford, P. (2007). Review of the Department for Community Development. Department of Community Development. Stanley, J., Goddard, C., Saunders, B., & Tucci, J. (2001). Community professionals and reporting to child protection services. Australian Institute of Family Studies.